May 24, 2021
I was intrigued by a recent survey conducted by CNBC.com on Americans’ views about the ‘net worth’ needed to be considered wealthy. The average answer was $1.9m but differed by age groups. Millennials (ages 24 to 39) quoted $1.4M, Gen X (ages 40 to 55) $1.9M and Baby Boomers (ages 56 to 74) $2.5M. Maybe the younger generations do not yet know of the high costs of medical care as you get older. Last year Schwab conducted a study that suggested the number needed to be considered wealthy was closer to $2.6m.
Of course, people’s perception of wealth varies based on individual circumstances. The best view of wealth is probably in the context of a person’s ability to afford their desired standard of living. It is not merely about raw numbers. For example, I would not feel wealthy owning a $2M home with a $1M mortgage and $900,000 in investments, especially when the property taxes and interest would eat up all the income that such a portfolio could generate.
Enjoying a consistent quality of life requires cash flow. If we can quantify the cash flow needed, we can ‘reverse engineer’ the capital or wealth required. The 4% rule provides a guide. This rule identifies the level of spending which might be sustainable as a percentage of an investment portfolio. Some academics have challenged this guide recently, as it may be a little high in our current era of ultra-low interest rates. But as we all know, things change. Most people are looking forward to multiple decades in retirement, especially with technological advances in medicine leading to longer life expectancies.
What does the 4% rule mean in practice? In simple terms, an investment portfolio at retirement should be 25 times your annual expenses net of any social security. Hence, if you have a $2m investment portfolio in year one, you could reasonably expect to have $80,000 (4% of $2m) to live off.
On a different note, a 2010 Princeton study suggested that “happiness” levels off after an income of about $75,000 per year (approx. $90,000 today). There are many facets to our feelings about wealth. What good are millions of dollars if we live under the constant threat of being kidnapped or killed? How about health, education, the rule of law, or freedom of speech? I believe the key ingredient to wealth and happiness is in having good friends. There is no price you can put on that!
I will leave you with two final comments. First, the very wise Confucius wrote that “he is rich who is happy with what he has.” The second is an old joke in England. When asked about wealth, an aristocrat responded that there are three levels: stinking rich, which is to have several estates and at least £10m; wealthy, which is to have at least £1m and a substantial home; and finally, as poor as a church mouse, which is to be down to your last butler and only barely be able to afford to send your child to private school!