Should Trump Have Indexed?
Max Abelson's Bloomberg Businessweek story about Donald Trump's business career is as delightful as you'd expect, suffused as it is with the essence of Trump. Which apparently you can buy in a bottle:
Trump, a teetotaler, launched his liquor the same year as his university. The spirit, which was billed as the World’s Finest Super Premium Vodka, lasted until at least 2008. A phone number for the company that made it, Drinks Americas Holdings, leads to the answering machine for a hair design studio.
There’s also Trump tea, a Trump energy drink for the Israeli and Palestinian markets, Trump coffee, and Trump colognes called Success and Empire. And those are only the liquids.
Trump is "such a proud erector of towers that he once promised to put up 'the stiffest building in the city.'" The chief learning officer of Trump University once said that "The problem with school is that school is a little academic." And of course:
When Trump is asked to name a leader he looks to for advice on managing his company, his mouth, just as acrobatic as his more famous hair, pulls tight, snaps open, and lets out its most important syllable.
“Me,” Trump says.
“Mirror,” says one of the two deputies in the room. “The mirror.”
“I look at me,” says Trump.
One particularly interesting fact is that the Trump Organization, according to its chief financial officer, made a profit last year of somewhere between $275 million and $325 million, on $605 million of revenue. That's pretty good! The revenue makes Trump's company "roughly the size of a company called NN, based in Johnson City, Tenn., which produces tiny steel balls." But you can't knock those 50ish-percent margins, which are driven by the fact that Trump's business is in large part about licensing his brand. The marginal costs of licensing that brand are low. It's just five letters, though of course they are 4 feet tall and made out of gold.
But that business has its critics. This week there's been another round of argument that Trump would be richer today if he had just put his money in an index fund instead of using it to make stiff buildings and colognes and schools that are not even a little academic. This round was set off by this National Journal article by S.V. Dáte; here are Dylan Matthews and Kevin Drum with more. The previous round of Trump versus index comparisons came from this Associated Press article; here is what I wrote at the time.
The simplest version of the comparison seems to be that if Trump had taken his $40 million inheritance from his father in 1974, converted it into cash, and invested it in the S&P 500, reinvesting all dividends and spending no money along the way, he'd have about $2.3 billion or so today, depending on how you do the math. Bloomberg computes his actual net worth as $2.9 billion, so he's modestly outperformed the S&P over his career, again depending on how you do the math. 1 That, however, understates his performance. For one thing, if he put all his money in index funds and reinvested all the dividends for 41 years, he'd be dead, because you can't buy food with reinvested dividends. 2 As an investing strategy you can't beat compound returns, but as a strategy for life food has key diversification benefits. Also I feel like Trump has unusually high consumption expenses? For instance, to choose one item at random, I gather that he is currently funding his own campaign for president. That would also eat into his returns.
The public valuations of Trump's assets may also not be quite apples-to-apples with a market value of the S&P 500. Bloomberg's computation of Trump's net worth basically takes the value of his buildings and golf courses; it "doesn’t value Trump’s brand beyond accounting for cash held in accounts for his licensing deals and business partnerships." But of course the value of the S&P 500 doesn't come from the value of its cash and buildings. 3 It comes from expectations of future earnings. Trump claims that he's worth more than $10 billion because of the value of his brand, which "goes up and down with markets and with attitudes and with feelings, even my own feelings." That sounds silly when Trump says it about himself, but it is dead right about the S&P, which has had a whole lot of feelings recently. But ultimately its value comes from its claim on earnings, and the S&P price/earnings ratio is about 19.6. Just for laughs, put that multiple on Trump's $300-million-ish of income and you get an organization worth about $6 billion. 4
So it seems like Trump has outperformed the S&P 500 over his career. But the main line of criticism is that he has underperformed the S&P over some other, shorter period. Matthews says, "If you compare Trump's performance since 1982, when the stock market started to take off after the early-'80s recession, it looks pretty abysmal." If Trump had taken his 1982 net worth of $200 million, cashed it out, and put it all in an index fund with reinvested dividends, he (would again be dead of not eating, but his heirs) would have $6.3 billion today. Similarly, the Associated Press math has Trump cashing out his $1 billion net worth in 1988 -- shortly after the 1987 stock market crash -- and putting it in index funds worth $13 billion today. 5
But of course saying that you should buy and hold index funds is very different from saying that you should build your wealth via private real estate entrepreneurship and then, at the start of a bull market, cash out and put all of your money in an index fund. Market timing is a skill. Comparing actual Donald Trump versus perfect-market-timer Donald Trump sets him up to lose, but it sets everyone up to lose. Trump's 1999 net worth was $1.6 billion. If he had cashed out in December and put that money in the S&P, he'd be worth about $2.7 billion now, again without eating. 6 He's worth more. So you can roughly say that Trump outperformed the S&P from 1974 through 1987, 7 underperformed from 1988 through 1999, and slightly outperformed since. That middle period was rough. Abelson writes:
Before this year’s presidential race, the grandest triumph Trump had managed was staying on his feet during his 1990s disaster as the economy fell out from under him. He lost the Plaza, the yacht, and the airline, and the casinos filed for bankruptcy—but he himself didn’t, as he reminds his crowds on the campaign trail.
But his performance over the whole 41-year period was at least modestly better than the S&P. If you timed the market right, you'd have done better than him. Congratulations to you on being so good at timing the market.
There are other ways to compare that would make Trump look better or worse. On the one hand, it would be pretty weird for a rich person to keep all his money in large-cap U.S. stocks over the course of 41 years. Even if you're planning to invest all your money in low-cost index funds, and not spend any of it on food, most people will probably tell you to diversify. Maybe buy some bonds? Especially as you get nearer to retirement age, or presidential age, as the case may be? Comparing rich individuals with the S&P is a little like comparing hedge funds with the S&P. The S&P is not the right benchmark for all investment returns everywhere. On the other hand, it is sensible to compare your risk-adjusted returns with the risk-adjusted returns on the S&P. We can't really do that without a good time series of Trump wealth, but given that 1990s drawdown you might draw some negative conclusions about his Sharpe ratio.
The weirdest part of the Trump-index comparison is not the math, though, but rather the idea that putting all his money in index funds was the Right Move, while investing it in buildings and golf courses and liquids was the Wrong Move, and that you can tell by looking at cumulative returns. That is not how investing works! Not literally everyone can index! Some people need to build and manage and run businesses, and some other people need to allocate capital to those businesses. Of course, most people should be doctors and lawyers and teachers and bloggers and whatever. There's a really good case that those people -- the large majority of people whose skills and training and full-time jobs are in something other than capital allocation -- should put their money in diversified low-cost investments like index funds. 8 But those funds necessarily free-ride off of the capital allocation decisions made by investors, and ultimately off of the business decisions made by entrepreneurs. Dopes like me can grow our wealth by investing indiscriminately in all the companies in the index, but we can only do that because other people -- many of them with Wharton degrees and inherited wealth -- made the positive, risky decisions to build those companies. If everyone indexed, nothing would get built. Investing in index funds might produce better returns, but it can't build a building, or stiffen it, or brand it with golden letters. And that's worth something too.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
The most straightforward guide to the math is in Dylan Matthews's post, which has a chart. He gets $3.4 billion in the index fund assuming no taxes or fees, or $2.3 billion assuming dividend taxes and 15 basis points of expenses.
Trump's net worth is also subject to debate. Bloomberg got $2.9 billion in July; Forbes has $4 billion. The chart in Thursday's Bloomberg Businessweek article says $3.22 billion of assets, though the July article shows about $350 million of debt, for a net worth of about $2.9 billion.
Guan Yang also argues that Trump's tax basis might be higher in his empire than it would be in an index fund:
If he had invested $200 million in an index fund in 1982, and spent nothing (or only distributions?), he would have a tax basis that’s somewhat higher than that, due to capital gains within the funds. But his current wealth reflects various assets he has sold with capital gains over the years, and paid capital gains taxes on.
While we can’t know for sure, his current tax basis is probably much higher than in the index fund scenario, which means that National Journal’s analysis is biased in favor of the index fund. If Real Donald Trump and Earth 2 Donald Trump both sold all their assets today, Bizarro Trump would face a much larger tax bill as a percentage of his assets.
In fact, $2.3 billion worth of S&P 500 stock represents only $850 million worth of actual assets, measured at book value. (That's just $2.3 billion divided by a 2.71 price to book ratio.) This is too generous to Trump, though, as this calculation is based only on the book value of S&P 500 assets, while Bloomberg is valuing Trump's real estate, etc., at market values.
Obviously that is not particularly reasonable valuation math. But ascribing no value to the brand he's built isn't a fair comparison either.
Or $11.3 billion, accounting for fees and taxes.
That uses this calculator, referenced by Dylan Matthews, which accounts for taxes and fees (and reinvests dividends), and runs from January 2000 to August 2015. Without taxes and fees I get about $2.9 billion.
I mostly do! But this is of course not investing advice.
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