I’ve been ruminating on this thought-provoking topic for quite some time. Years of observation and guidance for clients of all ages really helped me formulate my thoughts. In the investment world there’s an old saying, “risk equals reward.”
At the most basic level, the more investing risk you take, the higher the potential reward. Risky stocks, for instance, will be more volatile; however, by exposing yourself to all this risk, you anticipate the payoff to be commensurate with that risk. Truth be told, that’s typically the truth otherwise why would anyone take the risk.
For a moment, I’d like to make this conversation about more than simply stock market investing. At a financial planning level, I’ve found that just because you can take all the risk in the world, doesn’t mean you should. This is where my thought-provoking concept comes in.
“Risk is the Reward”
What do I mean? Typically speaking, the strategy to wealth isn’t storming out of the gates and taking tons of risk all over the place. If you create a methodical plan and track your progress, after years of diligent planning, savings, investing etc., THEN you have earned yourself the ability to take risk.
A good general rule of thumb is, there are no short cuts. Let me repeat that (for all you savvy individuals rolling your eyes). There are no short cuts.
I’ve seen so many people’s finances, and the one common denominator of the wealthy was an unrelenting work ethic, not a lucky, one-time investment. I don’t have one multimillion-dollar Bitcoin client, or whatever the hot trend was of the year. Instead, my wealthiest clients got there through years of struggling and working their way up.
Let me give two examples to drive my point home. First will be of how I see risk as the reward, and the second, where I see people turn to risk for reward.
Example 1: Clients comes in and have been saving phenomenally for 20 years. They live in an affordable home, have great retirement savings, and don’t require a ton to live. They think about buying an investment property, or a business of some sort. They take $200,000 to invest in the venture. Next thing you know, the investment takes off and makes them a ton of money, elevating them into the next level of wealth. Their friends look at them and say how lucky they were to make such an investment.
The reality here is if that $200,000 went to zero, these people would be completely fine. They would still retire on time, still put their kids through college, and still go on their vacations. The fact that they were ahead of target gave them the confidence, along with the ability, to make a financial “risky” move that brought them massive returns. This is an example of earning the ability to take risk and having it yield a substantial reward.
Example 2: A 35-year-old doctor client comes in who is making a decent income. He has a mound of debt, due to years of medical school bills and doesn’t have much in the way of savings for the future. This client decides to invest in a non-medical related business venture, which unfortunately goes south. Now, he’s in an even deeper hole and the only way to dig out is years of extra work. His finances aren’t in order and has no real path toward financial freedom. Instead, he has a ton of debt, but still great earning potential.
In this example, I don’t feel the client put himself in a position where unnecessary risk is warranted. He tried to take the short cut without getting to the logical point in his financial life to take on a truly risky venture.
Calculated Risk
These are two hypothetical examples that I see all the time. There’s a right time and place to take a calculated risk. That said, it generally comes after years of diligent planning and positioning of one’s finances, to be able to reap the rewards of a lifetime of smart, not overly risky financial decisions. This holds true in businesses, stock market investing, real estate, and any other investing in my opinion.
So next time you consider taking a really big risk, ask yourself, did you earn the right to take on extra risk in hopes of a financial reward?