Welcome back readers! I've been reading quite a few economics books recently (starting with Freakonomics, then Super Freakonomics, and now The Basics of Economics) and I've found them quite fascinating. I couldn't help but notice similarities between examples from these books and the world of Magic finance.
There are some basic principles that almost everyone knows; supply vs. demand, buy low sell high, etc. But there are other principles that aren't as basic, but still very logical. There are also quite a few fallacies that are often repeated. This article will try to cover a bit of both.
Fallacy #1 -- The higher the profit rate the better
This concept seems logical at first. If you buy cards for $1.00 and sell them for $5.00 you're making 400% profit, which is amazing. However, chances are high that you won't sell cards that often and chances are also high that you won't have that many people who want to sell you those cards. So let's do some basic math.
Suppose you sell five copies per week of your $5 card. Your total income is $25 and your net profit is $20. Your investment capital was only $5.
But let's say you pay $2.00 per card and sell for $4. Chances are higher you'll get considerably more cards in and you'll probably sell twice as many. So now you sell ten copies per week at $4. Your total income is $40. Your investment capital is $20. Your net profit is $20.
You've pulled in the same amount of profit, but you will also have happier customers and it will be easier to restock.
Fun fact. Alcoa was the only company in early 20th century America that produced virgin aluminum. They had a monopoly and yet their profits were only 10%. This will lead into our first basic principle.
Basic Principle #1 -- The ideal price reflects consumer demand.
The consumer wants the cheapest product possible, while the producer wants the highest profit possible. The sale price must fall within the area they overlap. The below graphic shows this concept. The black arrow represents the ideal location of the sale price for the producer. The green arrow represents the ideal sale price for the consumer. Typically prices fall somewhere more towards the middle of the purple range.
The reason this principle is important is that it dictates how pricing should be done. When looking to sell or trade, as the "producer" you need to determine first and foremost what kind of price you want to set. Luckily, the purple range is typically available (and most of it is covered) by looking at TCG Player and reviewing the price range currently available for any given card.
Returning to the example of Alcoa, you may wonder why a company with a complete monopoly on a product only had a 10% profit margin. If people needed aluminum they had to get it from Alcoa. But the executives at Alcoa realized that if they set their price too high, people would seek out alternative materials for their needs. Thus, they based their high total profits on the concept of selling a lot of product at a lower profit rate (per item) and made a lot more sales.
I've tied Fallacy #1 with Basic Principle #1. While the highest profit margin may seem like the best idea, it more often than not will not yield the largest total profit.
Fallacy #2 -- A monopoly earns the largest profit.
For larger industries the government watches out for monopolies. Several companies have been sued by the government for having 7.0%-7.5% of the total sales in a given industry, which was considered a monopoly at the time. Fortunately, the Magic industry is not large enough for government regulators to care or take notice.
I've read numerous rants/opinions on a particular card company out of Roanoke, VA. And to be honest, prior to my reading I often sympathized with the posters (and may have even posted a bit myself). However, regulation is not necessary for the destruction of monopolies, as a free market can take care of them on its own. The market does this by simply referring back to Basic Principle #1. When one company consistently has the highest sale prices and the lowest buy prices they will eventually fail as other companies step in and undercut them or buy at a higher price. The market only needs time for the correction to take place (it's not instantaneous).
A noticeable correction that's already visible is TCGplayer's offer for third parties to sell on their site. This is a perfect example of a free market. The producers keep undercutting each other, thus providing the customers with the lowest price for a given card. These sellers are also competing with our aforementioned Roanokian company. Currently the only thing the big company has going for it is its size and name recognition, which can't sustain it forever.
Basic Principle #2 -- Economies of scale
The more product you sell, the more profit you make. But as quantity increases, you typically can't sell for the same price. This means that the total profit percentage per sale goes down as number of sales goes up.
This idea also ties in with my example in Fallacy #1. For a better example consider that typically you get a price break when you pre-order a case of a new set, compared to one box. This occurs because the producer can order more of a product themselves from their distributor who in turn orders more of a product from WoTC. In all instances, the shipping costs go down per unit (in this case box) because more product is going to the same place.
Consider a store that only receives one pre-order, for one box. That store's distributor must now send that one box in another box, including postage, spread out over only one box. Thus the high price. However, if instead someone ordered ten cases, then the total cost of shipping on a per box basis goes down drastically, as multiple boxes can be packaged in a larger box and it would have lower postage (per box).
Fallacy #3 -- When you know something will appreciate, it's a good investment.
Of course many times it will be, but you must pay attention to opportunity cost, which is Basic Principle #3.
Basic Principle #3 -- There is a cost of opportunity for all purchases.
The idea is quite simple. Every person has a finite amount of resources. Therefore, when they invest some of those resources into a purchase those resources are no longer available. The trick is to invest in the targets with the highest rate of return.
For example, you can currently buy four Vendilion Cliques at $38 and there is a strong chance they will go up in value. But even before they were spoiled in Modern Masters you could buy them for around $45. This implies that while they will almost assuredly go up they will probably stop around $45 dollars.
Your rate of return in this case (45 / 38 - 1 = 18%) isn't bad. But instead say you invested your $152 dollars into shocklands. Chances are you could pick up Breeding Pools or Watery Graves at around 7 each so you could afford almost 22 of them. During Modern season (and after RTR stops being cracked/printed) these lands have a strong chance to rise to the $10-12 range or more. For a conservative measurement let's assume $10. So 10 / 7 - 1 = 42.8% Return on Investment.
That's a far sight better than 18%. For roughly the same amount of capital ($150), the Cliques make you $27.36 and the shocklands make you $63.84. Thus while you make a profit either way, you maximize your profit by understanding the opportunity costs associated with each investment.
On a side note; one of the main reasons many of us who have been speculating and investing in MTG for awhile repeat the mantra, "Real Estate is King," is because on the whole lands tend to have some of the best Return on Investment.
I made a killing on the checklands when Innistrad was the new block and many were going for $1.5 (Clifftop Retreat) to $3.5 (Hinterland Harbor/Sulfur Falls). I had 18+ of all the cheap ones and when Ravnica block rolled around they all jumped in price. I was able to convert most of mine into a NM Italian The Tabernacle at Pendrell Vale, which I wanted for Legacy. All in all that Tabernacle cost me just $85.