Invest Like A Genius: The Investment Secret of Benjamin Franklin, Albert Einstein and Warren Buffett
It’s no secret we all want to make smart investments. The hard part is figuring out what to do. No matter how much we read, how many professionals we listen to, it’s still difficult to know what to believe and who to rely on. Sometimes the more we listen, the more confusing it can get.
We live in an unpredictable world, as the events of 2020 have forcefully reminded us, with markets prone to volatility and cycles that can be challenging to time. So where to begin? What fundamental philosophies should we be relying upon for long-term investing success?
I’m going to share an investment idea as powerful as it is timeless. And I don’t want you to take my word for it. I’ll let three of the smartest people in history tell you the simple secret that each discovered. Then I’ll show you how to use it in a very powerful way.
Over the course of my career, spanning over $40 billion in investments, I’ve built large companies from the ground up in the real estate finance world, net lease world and sports world following the same guiding principle: discover new and better ways to think about old ideas. As Myron Scholes, the Nobel prize winner in economics, once said, “sometimes we need to break the tyranny of the status quo,” and that has proven true in the investment world again and again. Over the last several years, one new idea in particular has emerged that I believe has the potential to be very profitable, based primarily on a concept the three geniuses below discovered many, many years ago.
One was an inventor, experimenter and widely considered one of the wisest men in all of America during its formative years some two centuries ago. You may recognize him from the $100 bill: Benjamin Franklin.
One is synonymous with scientific genius, one of the greatest thinkers of the 20th century, who discovered the deepest truths about the universe: Albert Einstein.
And the last is known as a financial genius, and often called the greatest investor of the last five decades: Warren Buffett.
What makes these men such outliers is their uncanny ability to take the complex world around us and boil it down to simple truths. Franklin took life’s complicated lessons and refined them into Poor Richard’s Almanack. Einstein took the incredibly difficult connection between the major physical forces in our world and created the simple equation, E = mc2. And Buffett takes all the lessons he has learned about investing and turns them into a simple letter he shares every year.
So it’s not surprising that, rather than some complicated investment theory about Fibonacci numbers, or triple witching option trades, the idea that struck the deepest chord with all three of them is a simple one. And this simple idea is probably one you have all heard about.
I know what you’re thinking – that’s it? That’s the genius investing idea?
Well, yes. Sort of. Franklin, Einstein and Buffett shared the secret. They just didn’t tell us how best to use it.
Here are some clues about how influential they considered compound interest to be:
• Buffett called it one of the three things that made him rich when he said his “wealth has come from a combination of living in America, some lucky genes, and compound interest.”
• Einstein was rumored to have called it “the most powerful force in the universe.”
• Franklin was fascinated by it and built a legacy employing it in his Franklin Trusts for Boston and Philadelphia, turning $4,000 into $6.5 million.
Compounding is the simple idea that each of them recognized had incredible potential. But, of course, there’s a catch. While sometimes the most powerful investment idea is also the simplest – it’s also true that sometimes the simplest idea is the hardest to follow.
It turns out that figuring out how to harness the power of compounding as an investor—how to capture and take full advantage of it—is actually quite hard. Several years ago, my partners and I set out to solve this puzzle: creating a new way to use compounding to create wealth that would be simple to follow and deliver on the full promise of this time-tested investment idea.
Before I share what we discovered, let’s start by taking a closer look at compound interest and see if we can figure out why it’s so powerful.
Franklin described compound interest this way: “Money makes money. And the money that money makes, makes money.”
That’s the key. The money that money makes has to make more money. This is the concept that has created much of the wealth in our country and it is what creates something I like to call the “wealth curve.”
The curve you’re seeing is a pretty simple illustration of compound interest – investing in something that grows at 5% and reinvesting all the returns at 5%. You can see the first part of the curve looks flat and then, all of a sudden, it starts to turn upward until the numbers start to get really exciting. That curve, that moment when compounding picks up steam, is the “wealth curve”. The earlier it starts, the faster your wealth grows.
Pretty powerful graph, isn’t it? We thought so too. We were fascinated by it and wanted to understand it better. So we started researching, taking a trip back in time to inform our future.
An investment 700 years in the making
The first written record of compound interest is from a 14th century ledger maintained by Francesco Balducci Pegolotti. A shipping merchant, Pegolotti came up with a table that showed merchants what they would owe in the future if they didn’t pay on time, adding any unpaid interest amounts to the principal and charging interest on those amounts as well as on the original principal. And thus, compound interest was born.
Mind you, interest of any kind was still an unusual thing. In fact, charging interest was illegal in England until 1545. But then, in 1613, Richard Witt wrote a paper, now housed in the British Museum, that applied the idea of compound interest to the worlds of real estate and investing. It is really the first time the full power of the idea was laid out in practical terms and the significant difference between simple interest and compound interest was made clear.
Which brings us to back to Franklin, who understood the power of compounding and set up two trusts, for Boston and Philadelphia, that started with $4,000. He stipulated that nothing could be taken out of the trusts for 100 years. He wanted the money to make money, and the money that money makes to make more money. In fact, he went even further and said you can spend some after 100 years, but then I want it to grow and compound for another 100 years. The end result speaks volumes: the $4,000 grew to $6.5 million.
(I’m guessing not many of you want to wait 200 years to get wealthy. Fortunately, we’re pretty sure we’ve solved that problem.)
Next we come to Einstein, who was likely to have understood this concept not so much with regard to investing, but rather to nuclear fission. In a nuclear reaction, one neutron hitting one other atomic nucleus is uninteresting. Somewhat like simple interest, nothing big happens. But when the first neutron hits a second atom, and that atom creates neutrons that hit more atoms, all of a sudden, you have a nuclear reaction and something very big happens. This is why Einstein may have called compounding “the eighth wonder of the world.”
But Einstein was no investor. Someone who is and understood this idea is Buffett. When Buffett says compound interest is one of the three things responsible for his immense success, we should all take note.
Look at the shape of that graph. Remember the wealth curve? The early years don’t look like anything special, but something important is happening – something that only starts to show up after many years, something that is the key to creating wealth. What’s happening is, you guessed it, compounding. And that shape is the key to what we created to harness this profound investment concept.
From the ground up
We know that these wise men have told us compounding is a very powerful investment idea – maybe the most powerful of them all. But what’s the other half of the secret, the part that allows us to reap its full investment potential?
After all of our research, building upon all the lessons learned in our careers, we landed on an asset class that perfectly captures the power of compounding – one that has already created enormous riches for many of the world’s wealthiest families, churches and universities.
Unfortunately for investors of the past, the asset class that made those fortunes had never been brought into the modern investment era, had never been made widely available, and had never been transformed into an institutional asset class by a large public company.
The asset class? Ground leases.
For those unfamiliar with ground leases, every real estate property is comprised of a parcel of land and a building. In a ground lease, the owner of the land and the owner of the building are separate. The building owner leases the land for a long time, usually 99 years, pays rent to the land owner, manages and runs all parts of the building’s operations, pays all expenses and keeps all the profits from building operations. When the lease ends, the building becomes the property of the land owner.
When ground leases are properly structured, they are beneficial for both the land owner and the building owner. For building owners, they offer a value-enhancing combination of capital efficiency, cost efficiency and risk reduction. For land owners holding the ground lease, it’s an investment with three attractive characteristics: safety, growth, and upside.
One of the things that’s so appealing about ground leases is they’re one of the safest real estate investments you can make. They generate long-term, contractually increasing cash flows, and they offer future ownership in high-quality buildings when the lease expires. What particularly captured our interest was the shape of the rental payments.
See the chart below showing the income stream of a ground lease - there’s that wealth curve again. No wonder ground leases have been a favorite investment of some of the wealthiest investors for centuries. But how do you get your hands on an institutional quality ground lease? You probably can’t. Most owners won’t sell them once they get a hold of one and they rarely come up for sale.
But what if we could solve that problem? What if we could make ground leases better for building owners and give investors a way to own a growing portfolio of institutional ground leases concentrated within the top cities in the U.S.?
So that’s what we did. We created a company, Safehold, to break the tyranny of the status quo, and build a whole new industry.
Founded in 2017, Safehold is the first publicly-traded, nationally-scaled, institutional-quality company making ground leases an asset class available to all investors. The best part? Not only are we benefiting from the compounding nature of contractually obligated rental payments, we’ve also found a new way to create additional compounding benefits.
Actually, two new ways.
While one ground lease can offer up to 99 years of increasing and compounding cash flows, Safehold is building a portfolio of ground leases around the country underneath some of the highest quality office buildings, apartment buildings and hotels. This growing, diversified portfolio not only creates a unique, very safe, long-term, compounding cash flow stream, it also adds compounding portfolio growth to the value creating equation for shareholders. That’s our second compounding benefit.
And because the buildings on top of our land transfer to us at the end of the lease term, Safehold is also building a growing pool of future ownership interests in those buildings, effectively creating a trackable capital gains account that is also compounding. This is a third compounding benefit.
If you leave with only one takeaway after reading this, focus on the shape of the three curves we just looked at. All compounding curves, creating wealth in the way that has intrigued great minds, benefited great investors, and created great fortunes.
So, here it is: our simple, three-part formula to help all of us start building wealth:
a) Geniuses have been telling us for centuries that compounding is the key to building wealth.
b) Ground leases are a powerful compounding investment, the most powerful we could find, and
c) Safehold is the first company to make available the benefits of modern ground leases to public company investors of all kinds, delivering three long-term compounding wealth curves simultaneously.
Our journey may have just begun, but we are excited to be following the path laid out for us by the formidable footsteps of our three geniuses.
Jay Sugarman is the Founder, Chairman & CEO of Safehold (NYSE: SAFE), iStar (NYSE: STAR) and the Philadelphia Union of Major League Soccer (MLS). He helped start Starwood Capital, now one of the largest real estate investment companies in the United States, and has managed private investment funds on behalf of the Burden family (a branch of the Vanderbilt family) and the Ziff family. Sugarman received his undergraduate degree summa cum laude from Princeton University, where he was nominated for valedictorian and received the Paul Volcker Award in Economics. He received his M.B.A. with high distinction from Harvard Business School, graduating as a Baker Scholar and recipient of the school's academic prizes for both finance and marketing.