Pretty much. A rich person earns interest on their assets, a poor/working class/middle class person pays interest on their debts.
A household that earns 100k but owns a 300k house, has 40k car loans every 10 years (two 20k loans once a decade), 80k in student loans, has credit cards, etc. may end up spending 300k in interest over 30 years on all their debt.
Why should they get one that costs millions if they don’t need one? Remember upkeep costs like rates need to be paid.
Here in the UK, main-home mortgages have to be paid out of post-tax income, so it can make sense to not have a mortgage. With a tax rate of up to 50%, the real rate of that 3% mortgage can be as much as 6%.
Sure, but so might a rich household. The idea that they pay cash for everything is incorrect. They borrow money just like everyone else- more, in fact. It’s often more cost-effective to borrow and repay rather than to pay up front.
Case in point: If someone buys a 300k house, they can either finance it for 30 years, or they can pay outright. Let’s say that they get a 30 year fixed rate mortgage at 4.5% for 30 years. At the end of that time, they’ll have paid 547,218 in total.
So you may think it’s a better deal to pay 300k up front. After all, 300k is less than 547k, right? Not necessarily.
If you were to invest that 300k and make even 2% compounded annually, you’d do slightly worse than breaking even over that 30 years. (543k). If you make the historical rate of return, you’ll multiply your initial investment tenfold (3,018,797.05). This is because your interest earnings compound when invested, while nothing compounds when you’re paying it off.
So it’s quite often a better deal to borrow and invest than to pay upfront, and rich people know this.
The key difference with rich people is this: They have more income than what they think of as mandatory expenses.
Most poor folks spend 100-ish percent of what they earn. And as noted above, pay high rates of interest whenever they have to intermittently spend more than they’ve earned. People with middle- or even upper-middle incomes who immediately spend ever penny they earn are in a similar economically inefficient boat.
Smart rich folks spend well less than they earn. And pay interest only when, as **bump **just explained, it’s financially advantageous to do so. There are certainly many tales of not-smart rich folks who overbought houses and trinkets just before their investments crashed or their business blew up or whatever. And those folks sink like a rock under the tremendous weight of too much locked-in spending.
And this applies to “rich” folks who are middle class millionaires all the way up to serial bankrupts like Trump.
In the 1980’s I was heavy into property investments. I looked at interest as a business expense. I think interest rates then were averaging around 7% but appreciation on property was closer to 25% and often over 30%. On paper I made several million dollars but by 1990 I had lost it all when the bubble burst. Many people my age will tell the same story.
My best investment was putting my son through college.
How about deeply contrarian investments? For example, commodities are now low-oil may go as low as $30/barrel-is now the time to be buying oil stcocks? demand will resume at some point-if you can wait this out, you could be golden.
I am just talking of London. To the best of my knowledge there has never been anything that could be called ‘a bubble bursting’ or a ‘property crash’ in London.
I’m having a hard time finding figures over the long term, but this goes back to 1983:
http://monevator.com/historical-uk-house-prices/
As you can see, in 2008, during one of the worst financial crises ever, London house prices dropped by about 16%. They had recovered to their previous peak by 2010. This can’t be called bursting or crashing.
People want to live in London. (where I live) It’s hard to see what would make that desire disappear.
I bolded the “if.” Sure, this is a good plan - if you can wait and if you don’t lose better opportunities by tying up your money.
All you are saying that if things work out you make money, but that’s a tautology.
Try looking harder at that graph and look at 1988: house prices fell significantly and did not recover for a decade, even in London.
Or look further down at the Real House Price graph and see that house prices peaked in 1989 and did not recover until 2001.
That can work for other commodities. I would be very careful about assuming it will work for oil though. I’m in a related business.
Firstly, oil is politics - period. Secondly, on some measures, just producing and burning only the oil and gas that represents booked reserves will lead to politically environmentally consequences that may be unacceptable to society. It may not - but it is a clear risk.
Copper, iron or rare metals used in electronics are a better pure economic play than oil in my humble opinion. Humble due to the fact that 90% of people that say anything about oil prices are generally wrong. :rolleyes:
Not if it’s only on the small expenses, but yes if it’s on lots of expenses including the big ones. The closest thing to a trust fund baby I personally know has several rental properties someone else manages for her: the family collected them through time, by never selling a house they had bought. The houses used by her and her brother when they went to college (in different towns) were bought, and are now rented to students. The investment was bigger than paying for a room in a shared house for several years, but the return is also bigger. And as has been mentioned, once they had enough money they could buy without a mortgage.
A big dirty bomb or two might do it.
(I’m writing this looking out of my office window at the Shard…)
Thank you for your most helpful advice. If you follow it you will see that London house prices fell slowly between 1988 and 1995 by a maximum of 20%. I still don’t call that a crash or a burst.
We here did. It’s a serious problem if you’ve borrowed money against the value of that property.
Wow, I can’t believe it took 18 posts.
Why wouldn’t you simply buy British bonds if that is their goal. ISTM that they have so much money that they don’t give a shit if they own a home they never live in.
But only if you have to sell, and you’re not buying somewhere else. Negative equity has never been much of an issue in London, but in other parts of the country has been serious. In Ireland it was pretty disastrous with price falls of 55% or more.
Yup. The effect is particularly noted in Vancouver, which has limited housing stocks. Though there is a lot of controversy over how big a deal that effect has, or just how many houses are bought by foreign investors. Lots of anecdotal reports about sparsely inhabited Vancouver neighbourhoods, I am in no position to evaluate (I don’t live there).
To add: here is an example of this sort of report. Lots of anger here.
I’ll note that the expected performance of hedge funds isn’t necessarily that hot. Over at Longbets.com, Warren Buffet has bet 1 million dollars (with proceeds going to charity) that hedge funds as a whole, after fees, will underperform the S&P 500. His counterparty, Protege Partners LLC, makes a plausible argument. They note that hedge funds often go long and short simultaneously, while conventional mutual funds mostly avoid selling short. So over the course of the investment cycle there’s some chance that certain hedge funds could outperform.
Their fees are pretty high though and they aren’t typically tied to the full investment cycle. So I would tend to favor Warren Buffett’s argument.
…and middle class people should be wary. Financial journalist Felix Salmon refers to this development as “Crowd-Muppeting”. I opine that most investors should stay away. For investment hobbyists, I’d advocate a highly disciplined investment strategy. Set up rules and benchmarks for yourself, starting with strict limits on exposure. If you can’t do that, don’t take the plunge.
Salmon goes further and he knows more than I do:
http://blogs.reuters.com/felix-salmon/2013/09/23/the-idiocy-of-crowds/