Rosalind Evans
We often hear tales of extravagant fortunes dwindling through generations. Consider the early 1900s when the U.S. had about 4,000 millionaires. Hypothetically, if one such millionaire family, with $5 million, had judiciously invested in the broader U.S. stock market and spent judiciously (around 2% of their wealth annually), today they would be worth a staggering $16 billion. Extend this hypothesis to a quarter of those families; we should see 16,000 billionaire households.
Yet, the accurate picture shows only around 730 billionaires, as stated by Forbes. Surprisingly, a small fraction of them can trace their lineage to the inaugural Forbes Rich List of 1982.
This leads to the intriguing question: Where did the wealth vanish?
Victor Haghani, a financial expert and co-founder of Elm Partners, explores this puzzle in his new book “The Missing Billionaires,” written with James White. According to Haghani, the central issue lies in investment strategy, explicitly over-emphasizing stock selection and underestimating the amount invested.
Haghani’s perspective stems from a personal experience. He once co-headed Long-Term Capital Management (LTCM), a Wall Street sensation that boasted average annual returns of 30%. However, by 1998, due to a Russian financial crisis and excessive leveraging, LTCM witnessed a loss of $4.6 billion within a few months. This led to an intervention by the Federal Reserve and a subsequent liquidation of LTCM in 2000.
In a chat with CNN’s “Before the Bell”, Haghani sheds light on the lessons retail investors can glean from his past errors and those of America’s affluent dynasties.
In his opinion, investment success hinges on two core decisions: the choice of investment and the size of that investment. While LTCM excelled in the former, it failed in determining the right “size,” resulting in catastrophic outcomes. America’s wealthy families made a similar mistake over the years.
Citing the case of Cornelius Vanderbilt, who left $95 million to his eldest son in 1877, Haghani points out that by the mid-20th century, not a single Vanderbilt was left with a million-dollar fortune. This decline wasn’t due to a lack of profitable opportunities but relatively poor investment choices, mainly excessive risk-taking and lack of diversification.
Haghani also underscores the impact of volatility on compound returns. For instance, an initial $100 investment that grows 50% one year but loses 50% the following results in a net value of only $75. Such erratic fluctuations, even with a positive average return, can erode vast fortunes, as exemplified by the dynasties and LTCM.
Furthermore, these families often miscalculated their spending about their decreasing fortunes, accelerating wealth erosion. The key takeaway is the importance of accurately sizing investment risks for ensuring sustainable wealth and lifestyle.
On assessing risk, Haghani suggests considering market-offered expected returns, determining acceptable exposure to volatile assets, and planning a sustainable spending model.
Finally, Haghani comments on the foreseeable future, predicting that current affluent families might also see wealth reductions over the next 50 years due to inherent human tendencies to overspend or over-risk. In the grand scheme, it could be beneficial for societal wealth redistribution.
In other news:
– The Writers Guild and prominent film and TV studios have come to a provisional agreement, potentially ending a historic strike gripping Hollywood for months. Although the agreement specifics remain undisclosed, it indicates a crucial shift in the ongoing five-month strike, nearing the duration of the record WGA strike in 1988.
– In August, CNN reported a sudden halt in China’s export of two critical minerals essential for semiconductor production: gallium and germanium. Following Beijing’s overseas sales restrictions, this move indicates China’s counteractive stance against U.S. export limitations amidst a simmering tech conflict.
In investments and wealth management, old and new tales converge intriguingly. From the historical decline of America’s wealthiest families to the current shifts in global trade and Hollywood dynamics, understanding the undercurrents of decision-making and risk assessment is paramount. As these narratives unfold, they serve as a reminder that no matter how grand the wealth or significant the venture, a keen eye on strategy, adaptability, and foresight remains essential.
