For the average retired person who drives about 12,000 miles a year, one of these new gas/electric hybrid cars will save roughly $700 a year in gasoline costs. For that savings, you can expect to spend about $3,500 more for the hybrid compared with a conventional car.
So, how does the average person do the math to evaluate this as an investment? They figure out that it takes five years to reach break-even and recover in gas savings the extra money spent on the hybrid. So they opt for the conventional gas-only car.
How would Warren Buffet consider the decision? He would start by assuming that a hybrid car five years from now would be worth at least $3,500 more than its conventional counterpart; that is, the price spread between hybrids and conventional cars would stay the same. Why? Assuming future gas at $5 a gallon, by that time it will be unpatriotic to drive anything but a hybrid.
Used versions of these cars will be de rigeur for the generation of today's "kids" who are Ipod and gadget-obsessed. By kids, I mean driving-aged to about ... oh ... 55 maybe. Most of them come today fully-loaded with navigation and all the bells and whistles. Ford has a nice small SUV in hybrid form and other U.S. manufacturers are rolling out their versions of these fuel-efficient products.
So what is the real return on investment when we consider that extra $3,500? The $700 of annual savings represents a 20 percent annual return assuming we get the $3,500 back when we sell the hybrid in five years.
But, it gets better than that. The $700 comes from our hard-earned after-tax take-home pay. If we compared this $700 with the net after-tax return on a $3,500 investment in, say, a bond fund or a CD, the gross pre-tax interest earnings would have to be about 30 percent per year to net 20 percent after taxes at our highest marginal combined rate of federal and state income taxes.
In other words, to clear $700 after-tax takes about $1,050 in pre-tax income.
Of course, nothing comes close to generating a 30 percent return out there in the real world, so to earn the equivalent of a 30 percent pre-tax return is jaw-dropping -- yet, that's the equivalent yield on the hybrid's $3,500 extra cost.
How much capital does someone in retirement need to generate the equivalent of an extra $700 of after-tax annual income? In pre-tax dollars we would need $1,050, so at, say, a six percent rate of return on income-producing bond investments, we would need about $17,500 in capital. Buying the hybrid, then, is effectively the equivalent of adding $17,500 to our retirement savings.
The only risk here is that I might be wrong about the extra $3,500 in trade-in value when we sell the car. So the downside is that we own the car for five years and break even on our investment because there is no resale premium for the hybrid.
Big deal. Many stock market investors at the low point in 2003 would have given anything to be even with where they had been in 1998. By comparison, the most you could lose on your $3,500 would be the total amount -- offset by the gas savings for five years -- or zero.
I'm more likely, however, to be wrong on the price of gasoline in the next five years. Today's projected savings of only $700 per year could easily turn out to be twice that much or more. You might also love the car and keep it for 10 years.
This hybrid investment is a good object lesson on how those in or approaching retirement can think about money and investing. Rather than stretching the envelope of comfort regarding risk, that same brainpower and emotional energy might better be spent on an aggressive campaign to reasonably think through cost/benefit choices such as a hybrid.
This case illustrates how "you have to spend money to make money," but life is full of similar examples. A home computer with good broadband access is probably one of the best consumer investments possible considering how much the access to information can save on health information, purchases and selling stuff you no longer need.
Ignored because it is now almost extinct and too painful to write about is the federal tax credit for buying a hybrid that ends soon when Toyota has sold each 60,000 of these cars.
For some perspective, Ford has now sold more than 250,000 of their new Mustangs. How could our elected representatives be that short-sighted? If the ultimate expression of patriotism is to wean us away from foreign oil, why are we deliberately standing in the way of this tool that helps do the job?
Clearly, we need a higher gas tax. It's the only tool as national policy that actually works to cut fuel consumption. People concerned about the additional cost will find that driving 55-60 instead of the prevailing speed of 80 on California's freeways will increase mileage to more than compensate.
Meanwhile, for those with hybrid vehicles, there is also the smug satisfaction of breezing along in the commuter lane during rush hour all by your lonesome. The value of that experience? Priceless.