5 LESSONS IN FINANCE AND INVESTING FROM MONOPOLY

Monopoly has been a classic board game for over 100 years. It’s a real estate trading game that nearly everyone plays for fun and a chance to be a pretend real estate tycoon. But if you’ve played Monopoly long enough, you quickly realize that the game offers a lot of financial wisdom and lessons that can be applied to the real world of finance and investing.

Below are five valuable lessons that not only help you increase your chances of winning the board game, but also increase your chances of having a better understanding of prudent financial and investment principles.

By far, this is the most important lesson in both the game and the financial world. To win in Monopoly you have to be the last player left, in other words, the last one to have money. So if you aimlessly move around the Monopoly board buying up everything in sight, when the time comes to pay your financial obligations, you are likely to run out of cash. No cash means you have to start selling off the properties (assets) you acquired at a deep discount to what you paid for them. In the game, you are allowed to mortgage them at a discount to face value. Once this process happens, unless you get lucky, it’s only a matter of time before you go bankrupt.

The same exact principle applies in real-world financial matters. The United States got a front row seat to the consequences that occurred during the recession when cash is not available. When the Great Recession hit, people had been spending cash like crazy, thanks to an addiction to credit. Yet when the housing market went bust and the U.S. banking crisis erupted, those without cash were decimated. The Monopoly effect took place – without cash, folks had to “sell-off” what they owned at steep discounts. Unable to make mortgage payments, people were forced to sell their houses for significantly less than what they paid for them, or worse, the lender foreclosed on the property. Any equity was wiped out.

The same consequences were suffered in the stock market to a staggering degree. When the credit markets seized, many investors scrambled to raise cash. The only option they had was to sell securities at any price. This need for cash created an avalanche of selling that led to the huge market decline in 2008, and ultimately led to good, hardworking people losing a significant amount of their investable assets. On the other hand, the people who had cash were given an opportunity to buy assets – stocks, real estate, bonds – for fractions of what they were worth. In the end, they won the game and made the most money.

To win at Monopoly you have to be patient and have a game plan. You usually can’t win by buying every piece of real estate you land on. You have to have a general approach of how you want to proceed. If you are impatient and start buying every piece on the board you land on, you will quickly find yourself out of money. Therefore, you have to be patient and know when to buy and when to take a pass.

Similarly, if you just buy without discipline when investing, you will be placing your outcome on the hope that the market behaves nicely. Successful investors don’t invest based on hope, they invest with a disciplined approach. Patience is a very integral part of that approach.

During the Internet boom of the late 1990s, Warren Buffett was ridiculed for not investing in Internet companies while speculators around him were capturing triple-digit gains. A lucky few got in and out at just the right time. However, for the vast majority, the result was painful losses. Buffett exercised patience for years, while everyone else was chasing Internet stocks. In the end, when the market and investors ran out of money, the speculative investments came crashing down quickly, wiping out the majority of investors who weren’t patient and disciplined enough.

Monopoly is a simple game: you start off with some money, and your goal is to be the last player standing with money. The way you win in Monopoly is by collecting rents on property, or cash flow.

Not many people know this, but the most valuable properties on the Monopoly board, with the best cash flow, are the four railroads; if you can own all four of them, you have put yourself in a very good position. With each railroad costing $200, by owning all four you collect $200 in rent or a 25% return. This may be a very bizarre way to look at a game, but this is precisely why Monopoly offers some valuable financial and investing lessons.

Over time, assets increase in value based on the cash flows they produce. Even something as simple as a savings account or savings bond becomes more valuable if it is earning more cash (i.e., a higher interest rate). Many of the most successful investments come from those companies that can generate growing cash flows. Iconic companies like Coca-Cola (KO), Johnson & Johnson (JNJ) and IBM (IBM) have been highly successful investments for decades because of the growth in cash flows they produce.

Most monopoly players want to own Park Place and Boardwalk since they have the biggest payouts. But they are also the most expensive pieces to maintain. Many people lose at Monopoly by owning the most expensive pieces because they don’t pay attention to cost, only cash flow. Focusing on the cash flow without taking into account the cost paid to attain those cash flows is to play the game with blinders on.

Those who win at Monopoly, and investing in the long run, instead focus on the value gained for price paid. In investing, the best investments can often be tarnished companies trading at a bargain price. Owning Boardwalk and Park Place is not how you win at Monopoly; you win by making the most money. In investing, you win by buying low and selling high. When you focus on the most expensive assets, odds are you are overpaying and setting yourself up for losses.

You won’t win much in Monopoly by just owning one property on the board and loading it up with hotels. It’s also hard to win if you try and buy everything on the board and spread yourself too thin. Occasionally, you can get lucky and have every opponent land on your property, but usually the winner is someone who spreads out his or her properties throughout the board and has multiple chances at capturing rents.

The same principle applies to investing. If you bet everything on one or two stocks, you are exposing yourself to a potential wipeout if something goes wrong. At the same time, you can dilute your gains by trying to own 100 different stocks. Diversify intelligently; studies have shown that a portfolio gains no additional diversification benefits after 15 to 20 securities. Don’t just bet on one or two assets, or try and keep up with 50 assets.

Of course, a board game like Monopoly shouldn’t be taken as a thorough education in finance and investing, as it certainly has its flaws. However, it does have some valuable lessons to teach: spread yourself out across the board intelligently, keep cash on hand, focus on cash flows, be patient, and pay attention to price. Use these five lessons as a guidepost to more intelligent and successful investment decisions.