With interest rates at historical lows, it is easy to forget how valuable cash can be. One of the few useful concepts I learned whilst ploughing through three years of economics at university was that of opportunity cost, a term popularised by Austrian economist (naturally) Friedrich von Wieser. Imagine you have $100,000 to invest and settle on three options; stuffing it under the mattress; a five year term deposit earning 3%; or Scentre Group (ASX: SCG) yielding 4.5%. The mattress is clearly the worst option so you discard it. Investing in Scentre earns you a 4.5% yield compared with 3% in the term deposit, which sounds attractive. But you understand that the opportunity cost of that additional 1.5% is the risk you assume investing in a traded stock compared with a term deposit (see What to do when yield becomes expensive? Part 1). By choosing one option, you automatically forgo the others. The opportunity cost is the value of the next best option to the one you chose.
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