Warren Buffett Calls Out 2 Types of Purchases: One Is True Investing, The Other Isn't – Are You Making The Right Choice With Your Money?

Warren Buffett, also known as the Oracle of Omaha, has long been considered a trailblazer among investors. Warren Buffett shared his insights in a 2018 discussion with Andy Serwer of Yahoo Finance and spoke about what he believes distinguishes true investments from mere speculation. 

"There are two kinds of items people buy and think they’re investing in,” he explained. "One is an investment, and the other is not." This difference is whether an asset generates income irrespective of relying on selling it to someone else at a higher price.

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According to Buffett, an investment works to pay its owner money organically. That could be a business, a rental property, or even farmland. “You don’t care whether the stock market is open,” Buffett observed. “You look at the investment itself to deliver the return to you.” This asset does not need external factors, such as market demand, to generate value but does so through earnings.

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For instance, a good business constantly flows a profit stream, whether the stock exchange is open or closed. Similarly, with rental properties, one continues to earn from the rents or farmland that produces harvests year in and year out. Therefore, these investments are a sure source of regular cash flows that provide a sense of security and stability that Buffett would consider an investment.

On the other hand, speculative assets do not create income independently; instead, they depend on the market conditions to keep increasing in value. Examples include Bitcoin, art, and vintage wine. “If you buy Bitcoin or some cryptocurrency, you don’t really have something that produces anything. You’re just hoping the next guy pays more,” Buffett said.

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The above philosophy also explains why Berkshire Hathaway, under Buffett, has steered clear of the same types of speculative assets – digital cryptocurrencies and precious metals. Buffett has conventionally been interested in strong earning potential in investment rather than in assets whose value depends on the whims of the market.

Buffett’s take-away is straightforward for the ordinary investor: invest in a strong earning potential asset. For example, the S&P 500 – an index fund comprising the 500 largest U.S. corporations – now yields 3.64%. That translates to $3.64 in net income for every $100 these companies invest in the index fund. Though only part of these earnings finds its way back to shareholders in the form of dividends, it remains a very reliable source of income.

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For those more interested in dividends, the SPDR Portfolio S&P 500 High Dividend ETF offers a targeted selection of companies paying rich dividends, offering an average yield of 4.25% compared to the S&P 500. Such investments align with Buffett’s philosophy because they focus on income-producing assets.

On the other hand, income-based investors could establish positions in real estate investment trusts (REITs) like Realty Income Corporation. This REIT owns approximately 15,450 properties across the United States and Europe. Its dividend yield is 5.50%, and it has an extremely long history of raising its dividend payouts.

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