Note: This post was first published in August 2020 and updated in May 2022
For the vast majority of people, building wealth is an evolution, not a revolution.
Unless you come into an inheritance, win a lottery, marry rich, or knock it out of the park with a highly speculative investment, you can expect the journey to take at least 15-20 years, if not longer.
Sure, there are ways to accelerate the process.
One is to reduce your “number” to one that’s more easily achievable. Another is to combine a high income with an aggressive savings rate:
But even then, you can expect the process to take at least a decade. Any way you cut it, it’s a long time.
And as it happens, both you and your attitude towards money are bound to change over that time period.
To be clear, this isn’t one of those “17 Gazillion Things Rich People Do Differently” posts. While I am sure they serve their own purpose, I never found them particularly insightful.
Instead, today’s post is about three discrete mindset changes that are likely to occur as your nest egg grows in size.
Whether you like it or not, they will have a direct impact on both the pace at which you build wealth as well as the evolution of your spending habits over time.
Mindset Change #1: Reduction In Risk Appetite
Early on, you may envisage yourself building up a one / two / three / [insert dream number] million nest egg. Just imagine having two million bucks working for you in the stock market!
Even at a highly conservative 6% nominal return, that should average out to a cool 120k of annual returns.
Awesome, right? Well, not quite.
Assume you’ve got 100k invested and are socking away another 20k per year. If the stock market corrects by 30%, you can fill the resulting 30k “hole” in just 18 months. It’s unpleasant but manageable.
Now imagine the same situation once you’ve got a two million stock market portfolio. Market tanks by 30%, you’ve “lost” 600k. All of a sudden, that’s 30 years of contributions down the proverbial drain.
Yes, it’s temporary. Yes, the very fact that you’ve even managed to amass a portfolio of that size means you’ve probably got the right attitude to ride out the storm.
And yet, this is exactly the problem many people are facing today. Lizard brain takes over, loss aversion kicks in with a vengeance.
What makes things even worse is the fact that by this point in time you are (i) older, and (ii) closer to retirement.
By default, your risk tolerance isn’t as high as it used to be – and holding the course becomes so much harder.
Market volatility sneaking up on you
By the way, this is exactly why wealthy people tend to hold more conservative portfolios.
At some point, preservation becomes MUCH more important than further accumulation.
Mindset Change #2: Conservative Asset Allocation
This is a direct result of #1 above, with clear implications on how long it will take you to reach your “number”.
The basic point is that you should expect your portfolio returns to decline along the way as you allocate a greater portion of your investments to lower risk, lower return instruments.
Depending on when you start out, you may well end up with a 100% allocation to equities. Fire up the magic money machine!
It’s all fine and dandy for years and decades until you find yourself within striking distance of financial independence. Because by that point, you should hold a much greater proportion of your portfolio in bonds or even cash.
Inevitably, this will put a drag on your portfolio returns:
Once again, the impact will be significant because your portfolio is pretty sizeable at this point. You thought retirement was months away, but in reality, it’s still a few years off.
Make sure to factor this into your calculations.
Mindset Change #3: Increase In Spending
Predicting your spending needs 10 or 20+ years out is a fool’s errand.
I mean, we couldn’t even predict the price of used cars this year. And on top of inflation, you’ve also got changes in lifestyle and individual circumstances.
But whatever the “number” you’ve got in mind, chances are the actual spending will be higher. And no, it won’t be the luxury items that will tip you over the edge.
Most wealthy people I know are quite good at keeping their spending habits under control. The two notable exceptions?
Education and healthcare.
Come to think about it, that’s not an unreasonable approach.
Once you’ve made the money, the logical thing to do is to try and enjoy it for as long as possible.
If you’ve got an urgent healthcare issue, are you really going to prioritize cost over quality of service?
If you are young and haven’t got that much money – probably.
But if you are older and wealthier, that actually becomes an irrational decision. And if the person in question is your child, you’ll be reaching for that credit card of yours in a millisecond.
Then there’s education. Early on, state school seems the only reasonable option. It certainly did for me.
Then, private school slowly appears on the agenda, though the actual price tag is nothing short of eye-watering. Next thing you know, your kids are off to a private school – and you are actually happy to bear the cost.
Once again, the trade-off becomes simple. Yes, you can send your kids to a state school – and cross the finish line in a hurry.
But you might also end up questioning whether it was worth doing a few more
laps years at work and having your kids go private.
Sadly, none of the items above serve to accelerate your journey to financial independence. Then again, might as well set the right expectations up front.
You won’t necessarily buck the trend – but at least you won’t be surprised along the way.
Thank you for reading – and enjoy the journey!
About Banker On Fire
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Banker On FIRE is an M&A (mergers and acquisitions) investment banker. I am passionate about capital markets, behavioural economics, financial independence, and living the best life possible.
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