The Pew Research Center released an interesting study recently. They looked at the change in average net worth in the US during the economic recovery from 2009 to 2011 and found out that despite America’s households growing their net worth by 14% during this time, the vast majority of Americans actually saw declines to their wealth. This is because the lower 93% of all households actually saw a decrease to their net worth on average. But the remaining Americans, (the top 7%) saw their wealth grow by 28% during the same time, which pushed the national average up. This made for a very uneven recovery where the affluent became richer 🙂 while the lower 93% of Americans experienced negative gains 🙁
How can we take advantage of this information? Well the study points to the “different performance of financial asset and housing markets” as the largest contributor to the opposite trajectories of the rich compared to everyone else. Rich households have 65% of their wealth in stocks, bonds, and retirement accounts while their home only accounts for 17%. But the average household have just 33% of their wealth in the markets, while 50% comes from their home. We all know that between 2009 to 2011, the financial markets (stocks, bonds, etc) rebounded from the recession, however US housing prices remained flat to negative. So the solution is simple. We just need to diversify our assets and not have most of our wealth tied up in our homes.
I have used this strategy with my own finances and from experience I can say it has worked brilliantly so far 😀 After I bought my home in 2009 I invested in other assets and benefited from much of the stock market gains. Today I have about $50K equity in my home, $80K in stocks, and $40K in farmland. Below is a pie chart breakdown.
This is why I’m not a fan of paying down the mortgage when interest rates are low. If we make extra payments to get out of debt then we deny ourselves the opportunity to properly diversify our investments. And diversification, as the study points out, was how the top 7% got wealthier. Some people may argue it’s risky to invest while still in debt, but they don’t realize that it’s also risky to aggresively pay down debt and not diversify (^_-) How fast we pay down our mortgage does not affect the price appreciation or future market value of our home when we sell it some day. But the profits and returns on our other investments like stocks, commodities, and maybe even a second property in the future, does depend on whether we buy them now or later because of course the earlier we invest the better (゜∀゜) Canadian stocks have unfortunately underperformed in the last couple of years 🙁 And it looks like real estate is starting to cool off too. But due to strong soft commodity demand the average Canadian farmland value appreciated by 15% in 2011, and 19% in 2012. That’s why diversification is so important. By spreading our investment seeds broadly we are better positioned to capture the overall growth of our economy no matter what happens in the future 😉 Isn’t learning about investing so much fun? (=^_^=) We don’t even have to be in the top 7% or have a crazy high net worth to use the same financial strategies as the rich do 😀
The bottom 93% not only have most of their wealth tied up in their house. But many of them cashed out their stock investments in the Recession and never got back into the market. If they had just resisted the urge to panic, they’d be doing a lot better than they did.
Very true! This is exactly it.
That reminds me of what happened to my friend who bailed during the worst part of the recession. Retail investors are notoriously bad at timing markets. It’s better to just buy solid long term investments like dividend growth companies.
I do not consider myself to be in Canadian top 7%, but our networth grew 25.5% during the same time period. But in 2008 we took a 13% hit in networth. In actual investment losses, it was 13%, which meant we needed to make back 15% to recover that loss first. Now a better view of what happened I look to my investable assests. In 2008 we booked a loss in investable asset value of 35.5%. Now I would provide recovery numbers, but unfortuantely an opportunity came up for a second property in 2009, so my numbers get a little skewed. Bottom line is it took 3.5 years for us to recover from the 2008 loss, not to mention the now slower crawl back to decent growth numbers. Numbers can always be manipulated to show what the presenter wants, so be careful what you read and full understand what is being presented… All that said, the more money you have, the easier it will be to achieve your financial goals, and the key to having more is using some amount of leverage early, diversifying and LOTS of research and a pinch of luck! For my family we have been achieving,… Read more »
I’m pretty sure your family would be in the top 7% Phil 😀 I’ve got no data to back it up though, it’s just a hunch, lol. Glad you’ve recovered from the 2008 losses. I didn’t start investing until 2009 so I’m lucky. Hard to imagine the people who might have graduated from school a year earlier than I did and started to earn money and invest in 2008. Their confidence in the markets would probably be completely different than mine today.
I agree about diversification. Not a fan of stocks but I have little money tied to my main house, a big part is real estate and land but that is income productive, unlike my residence.
You are plenty diversified lady 🙂 Not only do you have different asset classes like farms and residential real estate, but they’re also spread across multiple continents :0)
Couldn’t agree more! Diversification is the king of wealth building and sustainability. Much like you I plan to distribute my wealth far beyond investing in a personal residence.
Hope you find success with your plan as well. History shows whoever uses this wealth building strategy usually ends up with many riches in the end ^_^
It was saddening to read that study, but it really does not surprise me one bit. Many are not in the market or are not adding to it like the top 7% are. Like you said, diversification is key.
Yup, it’s like the old saying goes, don’t put all your eggs in one basket. What concerns me the most is not that if one type of investment fails, the other ones will still keep the overall portfolio from tanking. Rather, the most important thing diversification does for me is so I can take advantage of any really high returns in the future like the 12% per year average farmland appreciation we’ve seen in North America over the last 5 years or so.
Our breakdown of RE vs equities is pretty similar to yours – though our RE is all residential, not farmland like yours. I hope that one continues to pay out some nice rent for you! =)
Thanks, farmland rent isn’t as high as residential real estate unfortunately. You’ll be lucky to get a 5% return on the price of the land. My farm is currently renting at the 3% to 4% range. It will take some time before rental rates catch up to land prices. The good thing is rent should only go up from here 🙂
I’m not in the 7%, but my net worth grew 100% during the period, it went from $100 to $200. I guess I’m doing better than everyone else.
Thank for the post, and made me feel better.
Nice going Arunan. 100% is quite a big jump. As you become wealthier that percentage will probably go lower, but on the other hand the actually dollar amount of your net worth should be increasing because your earning potential and investment returns will probably grow over time （＾ｖ＾）
I love how you talk about spreading your investment seeds broadly when almost a quarter of your net worth is in farm land. Seems the farm life is getting to you 😉 You do make a good argument for investing though over debt repayment though.
Farming is pretty interesting. I wish my high school councilor would have told us in grade 11 or 12 that agricultural studies will be in high demand in the future and there’s lots of money to be made in this field from irrigation to farm equipment manufacturing and maintenance to fertilizer production to importing/exporting on the commerce side. I didn’t even know until after attending university that there was a faculty of agricultural studies. I’m pretty happy with my current career making graphics for media and entertainment but if I had to relive the last 5 years of my life again I might choose a farming related trade instead 😀
im more in the Buffett camp on diversification. he’s said in the past that diversification is protection against ignorance, and it doesnt make a lot of sense if you know what you are doing. for example, it doesnt make much sense to diversify into fixed income asset class or Canadian real estate at this particular moment.
that being said, its not unwise to be humble and think about the case in which you could be wrong. most of us arent professionals, and even pros are wrong a lot of the times. i view diversification as a cost, or insurance. in other words, sometimes its worth paying for it, but sometimes it isnt
I agree. Otherwise if people would really now what they were doing – invested in Apple and get out of it mid last year. However most of us do have day jobs not related to finance, so people not so much ignorant but rather cautious and conservative.
I’ve heard Buffett mention that before. Don’t diversify if you are really good evaluation one particular sector or type of investment 🙂 It appears to have worked very well for the Oracle himself. I like how humble he is and that he understands not everyone can do what he does so he was also quoted as saying “The best way to own common stocks is through an indexed mutual fund.”
Could it be that diversification was the outcome of their wealth, rather than way to it? If you have some extra money to invest, you will buy some stocks, rental place, farm land, etc..If you live paycheck to paycheck…could you actually diversify?
Good point. I think a lot of the rich handed off their money decisions to a financial planner who forced them to invest in a diversified portfolio of stocks and bonds. But they wouldn’t have that extra money to invest if they didn’t have any savings in the first place.
I know we have too much tied into our condos right now. But we’re focused on building our portfolios for the next few years. Once my student loan is paid off, it should really start going fast. Maybe even sooner if I get a decent raise this summer 🙂
Good luck with your performance review 😀 You guys will have a huge real estate empire some day 😉
It has never made sense to me to buy too big of a house and to be house rich, but cash poor.
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