Most people think getting rich is hard. And that's true: it takes smarts, discipline and hard work to create wealth. But most wealthy folks will tell you a secret: staying rich is often much more difficult.
Consider a recent study from JPMorgan Private Bank. The study surveyed the annual Forbes 400 list of the richest Americans and found that fewer than 15% of these multi-millionaires stayed on the list over a 21-year period. Most saw their wealth stagnate or decline, in some cases significantly.
I view this as a learning experience. Every financial mistake made by someone else is a mistake I can learn from. With that in mind, I'd like to share some of the mistakes I've seen the wealthy make last year, along with some insights on the poor judgment that led to these mistakes.
•"All in" investing
Overconcentration is the No. 1 mistake wealthy investors make. It's a very common problem with business owners, who are used to tying up the bulk of their net worth in a single holding for years (or decades). This kind of "all in" investing is the way many high net worth ("HNW") individuals create wealth – and lose it, too, particularly in volatile markets.
I saw too much of this in 2011: wealthy investors confident in their convictions either for or against a particular investment theme, and backing that up with large investments in a single stock, a single sector or in one instance I distinctly remember, a single currency. Don't make the same mistake.
•Too much leverage
Most HNW individuals understand that debt is like fire: a useful tool that can hurt you if you don't use it properly. I heard a number of stories from U.S.-based Tiger 21 members last year about "forced deleveraging." The problem wasn't necessarily the individual's financial position. Rather, it was the bank's.
The bank needed to build capital levels, so it made a margin call, or called in a loan, or refused to refinance an investment. In some cases, this led to a forced sale at precisely the wrong time.
We've been advising clients to exercise caution with leverage over the past few years. Interest rates will rise eventually, and banks continue to shore up their balance sheets. Both present risks for highly leveraged investors.
•Throwing good money after bad
Over the past year, I've seen a handful of HNW individuals put more money into an investment when the logical thing to do would be to sell and move on.
A colleague told me about an Ontario-based HNW investor who made a big bet on a well-known Canadian high-tech stock. Despite expert analysis that suggested the stock had been beaten down for good reason, the investor was convinced it was dramatically oversold, so he "doubled down" on his investment.
So far, he's down more than 30%, and, if anything, prospects for the company have become even more uncertain. Will the stock come back? Maybe. But even if it does, the opportunity cost has been enormous.
•Not investing in home, family and life
Every year, there will be numerous HNW individuals I know who have family difficulties. That's a diplomatic term for a whole host of private issues that can have an impact on one's finances: a divorce, an inheritance lawsuit, a succession planning issue, a health problem. Dealing with these issues is difficult and stressful. It is also financially messy.
This may sound hokey or old-fashioned, but not investing in your personal life – your marriage, your children, your personal happiness – is often the biggest financial mistake you can make, no matter what your net worth. •
