Now You Have it—Now You Don't
Preoccupied as we are with the 1% at the top, we lose sight of how volatile all wealth today has become—and "beta" is the measure of change, relative to the market. Technology and gambling stocks can have betas of 1.5 or more, since they tend to overshoot the market in cyclical ups and downs, while utilities hardly move at all. The problem, of course, is that high "betas" don't last.
As The Wall Street Journal put it recently: "The new rich have become the high-betas of our economy. With their dependence on financial markets, their leverage and their hyperspending, the top 1% have income swings that now are more than twice as high as those of the rest of the population." (See, "The Truth About Wealth.")
A November Federal Reserve study found that "a third of the people in the top 1% in 2007 . . . were no longer in the top 1% in 2009." A report commissioned by J.P. Morgan Private Bank, found that only 15% of the Forbes 400 stayed on the list over a 21-year period.
But even the little guys suffer huge swings in the value of their assets, as mortgaged homes sink underwater and stock prices gyrate wildly. The total amounts may be less, but the volatility can be the same. The rich may be more prone to these dangers than the rest of us. Not used to worrying about paying the bills, they can more easily neglect the bottom line. But the dangers apply to everyone.
The Journal went on to list the underlying causes of this volatility, none of them surprising to any who have given more than a moment's thought to guarding their investments against excessive risk.
- Overconcentration in one asset or class of assets.
- Leveraging debt to support speculation or lavish lifestyles.
- Spending based on false assumptions or paper profits.
These dangers boil down to matters of common sense and self-delusion—psychological factors that could be corrected if we paid more conscious attention to our behavior. Most of us tend to put too high a valuation on our assets in order to give ourselves an emotional boost. Extra money not only feeds our fantasies about what we can buy, but it also makes us feel more important and successful. On the other hand, we are reluctant to accept lower valuations and the lesser status they entail.
Behavioral economists have been familiar for sometime with the fact that we all tend to be "loss averse." That is, we put off accepting that our investments have declined in value, often to the point that profits turn into losses. Or we succumb to the "money illusion," the belief that the price tag accurately reflects the value of what we own, neglecting to correct for inflation, for taxes, for fees.
Rich or poor, we all struggle to hold on to a realistic and reliable grasp of what we have. Our minds continually flirt with "beta" values—and frequently succumb to unnecessary loss.