Possible rich is a weird term.
Possible rich refers to people who think they may be rich but are not very sure.
Many of you would be wondering how could someone not know that they are rich?
This is because what is your definition of rich? Is your definition of rich similar to your friend’s definition of rich?
You can have this discussion during Christmas dinner and let me know what you think.
Some of your friends or yourself are in a sweet spot that you are wondering about this.
You inherit a large sum of money, make a large sum of money from trading in crypto or options or work in the technology sector and have a liquidity event.
In all these situations, you know full well that there is a bump up in your net worth.
You know that this amount of money is not normal for everyday people, but you are not so sure if this amount certifies you as rich.
The Questions that linger in their head about money
The truth is that many of us have a question mark over the value of a sudden large sum of money.
The first time I heard Meg Bartelt speak was on a podcast sharing her experience planning for her clients in the technology space. She discussed some of the complexity that is more prevalent for tech workers.
Meg spent much of her career in the tech space and after she got bored of her work in tech, she decided to change her career to become a financial planner. It is no surprise that the clients that she works with are from the tech space.
Recently, Meg reflected upon a very common question that her clients and prospects are asking themselves and her perspective about this question.
If you work in tech, some of them might go through liquidity events that will make you rather rich:
- Your company went public
- You participate in a tender offer
- You sold your private company stock on the private secondary market
These will net you a big lump sum.
(Side note: Meg has written extensively on her blog on the considerations that you can think about if you are granted stock options. Those articles may give you some clarity if you have clients in that area or in a similar position.)
Most of them are not idiots and know that suddenly, they are going to have a large sum of money than what their parents will have.
The questions in their head come in different forms but generally revolve around something similar.
To some, it is “How much money do they need?”
If you ask our planners, they would say “That depends on what kind of life that you would like to live…” or something along these lines.
Meg explains that this is not what they are asking.
What they would like to find out is how much money they need so that they can be safely financially independent.
If we put it another way, they want to know a certain “magic number”. They are anxious to find out with their windfall, how far they are from this “magic number”.
Humans love a lot of certainties.
To put it in another way, prospects and clients want to know if they could stop worrying. If we could hit that magic number, then we could stop worrying.
But not every one of the prospects thinks that they have gotten something that is close to the magic number.
Thus, they will fall into two groups:
- “Maybe I already have enough money, but I don’t know how to tell.”
- “I want more clarity about how much money I’ll need eventually because that helps me make decisions about saving and investing and spending now.”
Meg also mentions the reverse way of looking at these prospects’ wealth. More and more, I notice that I find this is a better way of framing what we have.
When someone realizes that they have $2-3 million, they know that they have a lot of money.
But what kind of “a lot” is 2-3 million? How can it change their life? Is it “I don’t have to worry about money anymore” a lot?
What Does My Wealth Buys Me?
I really like Meg’s article because it surfaces the questions in our heads in different forms.
You do not need to have a sudden lump sum to ask these questions.
Some of you may have slowly accumulated a sum of money and you have the same questions.
Aside from our daily necessities and tangible spending, many struggles with figuring out what does the wealth they have means.
What can I buy with it? Can it buy me financial freedom yet? How much more?
I find that Meg really understands the psyche of these tech folks coming to them. And she understands the REAL complexities of trying to give them a good yet professional answer.
- You cannot really run these parameters through financial planning software, with their expenses, income and investment returns, come up with a conclusion from the figure, and expect the figure not to change. This is known as “Run this analysis once and call it good for the rest of your life.”
- The reality is that your plan is going to be less concrete the future away you are from your death. The closer you are to your death, the more concrete the plan is to the reality.
- Planning should be done for the next 5 to 10 years and not further than that.
- She uses a modification of the 4% rule in her planning practice to help their clients and prospects figure out what their wealth buys them. Instead of using 4%, she would use an initial withdrawal rate of 2.5% to 3% due to the age of clients that she work with.
Figuring out the answer to variations of that question is a challenging endeavour in itself.
This is why I have a rather lengthy article exploring how much you need to be financially independent or financially secure. It really depends on the lifestyle that you would like to live.
But more and more, I find that it may be helpful to frame things in the opposite way:
- What does the money I have today buy me?
- How much independence and security does that buy me?
Instead of dealing with a lot of unknowns, we try to see how best to allocate with what we have today, which is more tangible.
The Part that Meg gets about the Possible Rich that I feel many advisers don’t get.
She made this statement that struck a chord with me:
There are some intrepid souls out there who jump off cliffs without parachutes, trusting there to be a nice cushion at the bottom. Not me. And maybe not you. For us, we need that money parachute.
From my observation, there seems to be a mismatch between what client’s feel assured with and what the adviser recommends.
Advisers or investment managers will sell a strategy to provide you with an income plan or fund that gives you an income yield of 4-6% a year.
In the client’s mind, they think that this income stream is on sound fundamentals, consistent, and perpetual.
If you interview the investment manager and adviser, they will tell you that the income depends very much on the investment markets performing “the way that they perform”.
And often that means to perform like the last 3 years (this is how short their horizon of evaluation is!).
For most investors of this possible rich profile, deep down, they are looking for more conservatism in their income stream.
I mean you think about it, they:
- Are relatively young
- Want that optionality to do something other than what they are doing today
- Their next endeavour may not pay as well, or as lucrative
- Do not want to make the biggest mistake in their financial life by leaving something highly lucrative
Put in another way, most wish to know is whether they have a perpetual income stream that covers what they need with a high degree of confidence.
If they do not have something like this, they don’t think they have a good parachute.
And the challenge for most planners is: How do you estimate that?
The solution is simple: Over buffer enough.
Don’t base your planning on a normal market. Other than some complex hedging strategies, most often the simple solution is to set aside more than enough that even in a more pessimistic market scenario, your clients will do okay.
The challenge for advisers is that clients are less than receptive to a product that is low yielding. But I felt that this is a framing issue.
You can explain to clients that they need to think about two problems:
- How much is conservatively enough to be financially independent and not have to work ever?
- How should their wealth be set up?
The answer to the first question is about adequacy. The answer to the second question is about investment allocation.
You could have an 80% equity 20% bond allocation and the plan is still conservative enough if we buffer enough.
If you are able to figure out how much you need in a conservative manner, you would be more confident to allocate the rest into goals that are lower in priority.
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