It’s Not What You Earn, It’s What You Keep

I like questions from readers, if they are general enough for a blog post.  Here’s one for tonight:

Mr. Merkel,

Following reading your blog here:

It occurs to me that attaining money in the first place is only half the battle.  A well known fellow among engineers; Nicolai Tesla was great at this.  He made many millions in his life.  He also constantly reinvested most of his income into new inventions and new ideas.  When he died, he was pretty much destitute.

Starting a gas station requires about $300,000 ($150-200k to buy the store/land, 40k to furnish the store, 40k to buy the gas) in startup capital.  In technology, and in software; you can start making money with a good idea and next to no start-up capital… assuming you don’t get crushed by a larger company in the process.

How do the super rich store their massive income?  How do they invest it?  Buying up ever more companies and taking their profits off the top?  What is a minimum threshold amount of money that you need to start to do this?  Can you recommend any good books?

There are several classes of assets that the wealthy like to preserve their wealth.  Here are some examples:

  • Real Estate
  • Municipal Bonds
  • Businesses in necessary industries that throw off a lot of cash flow.
  • Businesses in which they have significant inside knowledge, and can continue to benefit from the knowledge.
  • Occasional equity investments in private ventures that seem promising.

After a certain amount of wealth is acquired, intelligent wealthy people tend to turn to things that have predictable cash flows, rather than take a large amount of business risk.  They’ve made their fortune.  Now it is time to conserve it, and receive what some consider to be rents — passive income that comes with little volatility.

Even Goldman Sachs did this with excess profits, buying safe securities, and throwing them into the BONY box. [BONY == Bank of New York, now BNY Mellon]

In essence, the wealth is converted to ownership in what is likely to be a growing income stream.  What is not used is reinvested.  That is how wealth is preserved during the life of the wealthy.

As for books, you can look at “The Millionaire Next Door,” and its series. Also, Rich Like Them.

But remember, not all rich try to preserve their wealth.  Some lose it through over-consumption, and others through bad investments.  The investments that I list above require a degree of humility, and thus, only wise rich people will follow such a strategy.

1 Comment

  • Helical_Investor says:

    I think it is important to consider that individuals, whether they consider themselves investors or entrepreneurs, have a dual mandate (Fed pun intended). One is to improve lifestyle and status, the other is to preserve lifestyle and status. This is a simplified foundation for behavioral economics, whereas many other economic schools focus mainly on the optimizing ‘improve’ aspect. Which mandate dominates depends on where you think you are on the economic ‘happiness’ scale. Different levels of wealth and status satisfy different individuals, or better, the focus shifts more to protection over gain at different points.

    Many would substitute ‘wealth’ instead of ‘lifestyle’, but for some individuals the replacement would not fit. Perhaps for Tesla, the lifestyle he wished to maintain was one of enabling scientific and engineering inquiry and the status that provided him among his peers. Maybe this is true as well for Elon Musk and the many angel and venture capitalists. A man like Bill Gates, recognizing he is in no danger whatsoever of ‘risking his lifestyle’ has become content to focus on charitable opportunities.

    Buffett is a bit of an oddity, not just because of his unique talent for investing, but for his wealth creation ambition despite his apparent contentment with a more modest lifestyle in terms of personal trappings. However he is clearly both ambitious (and protective) of the status and renown his track record has brought him. Something he may not have achieved if he stayed only with a very successful ‘private partnership’.

    So yes, attaining wealth is only half the battle, but the other half is more about the ‘why you want it and what you want to do with it’, than the ‘how you store it’.

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