Should the poor consider investing as a means to becoming rich?

Question

Obviously the first idea that pops into anyone's head, rich or otherwise, would not be to become "rich" or "richer" from investing. Nevertheless, I read a book that got me thinking (can't say it's name here).

Basically, the book is focused on how the process of building wealth through investing is a priority which helps the "small man" (poor man, in other words) increase his chances at being "rich."

The book had this affinity because it expressed that investing should be a tool for those daring enough to work their way up, both in skills and experience, and later on in social class/income/etc.

The book says to start as early as possible and "learn the ropes" so that you have a better chance at not still being poor later on. Clearly it's not only aimed at high-risk investing nor day trading, but expresses the fact that investing and financial tools/knowledge/etc. can make a poor man rich.

Given that a poor person probably has much less to invest, how can odds be in their favor?

For example, someone with more money can use leverage/margins and take on more and make more. What could a small guy with $100 do to make himself not poor anymore, right? That's what I thought. I never finished reading the book, but the idea behind it was that investing and finances surrounding it is what can make the man richer. So not just a career change or a certain job/career/profession or ability -- just more knowledge on finances and investing experience.

Does this make weight with you?

Answer 1

Definitions are in order:

• Wealth is the value of a person's assets minus the value of their liabilities
• Working Income is the amount of money someone makes in a period of time through a job/career/being an entrepreneur
• Financial Independence, otherwise known as building a nest egg, means to have such an amount of wealth that the income it generates will probably cover a person's income needs for the rest of their life. (To simplify things, we'll say if a person's wealth is 25x their spending, they could retire and live off their assets' income.)

These definitions are important. Someone making 1,000,000 a year who spends all of it is poor. Someone who makes 500K, spends 450K a year and has three million in stocks and a paid-for million dollar home may be rich but they can't retire. They need another seven to eight million to retire.

Someone with a million dollars in assets who makes 40K a year through their job, can be Financially Independent and retire. This last example is important. In The Millionaire Next Door the authors share their discovery that the average millionaire accumulated their wealth with just a working income of around 50K (the book is a bit dated so the number should be elevated if you adjust for inflation).

Finance Independent is a strange thing to wrap your head around and people with high incomes often fall victim to misunderstanding it. When figuring out how much a person needs to accumulate for their "nest egg", their working income is not a direct variable. Their spending and savings rate are. A doctor making 500K, who spends 450K needs to work for 51 years if they are planning to keep spending 450K/year (adjusted for inflation) forever. Someone making 60K starting at age 21 who saves 18K (30%), could retire at 49.

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Someone with a truly low income and poor, say 30K and under and living in a old developed nation, investing will help them a bit. Say they save 10% of their income, by the time they reach 65 (the typical age federal retirement pensions begin), they'll have enough money to live off of in perpetuity and in comfort. They'll actually have a higher retirement income than income while they were working.

But, it is challenging at those levels to save 10% of your net income. Events like your car randomly deciding to break down one day can destroy an entire year's saving.

Answer 2

Given that a poor person probably has much less to invest, how can odds be in their favor?

To add to Lan's great answer, if one is "poor" because they don't have enough income to build wealth (invest), then there are only two ways to change the situation - earn more or spend less. Neither are easy but both are usually possible. One can take on side jobs, look for a better-paying career, etc. Cutting spending can also be hard but is generally easier than adding income.

In general, wealth building is more about what you do with your income than about how much you make. Obviously the more you make, the easier it is, but just about anyone can build wealth if they spend less than they make.

Once your NET income is high enough that you have investible income, THEN you can start building wealth. Unfortunately many people have piles of debts to clean up before they are able to get to that point.

What could a small guy with $100 do to make himself not poor anymore, right?

Just having $100 is not going to make you "rich". There is a practical limit to how much return you can make short of high-risk activities like gambling, lottery tickets, etc. (I have actually seen this as a justification for playing the lottery, which I disagree with but is an interesting point). If you just invest $100 at 25% per year (for illustration - traditional investments typically only make 10-12% on average), in 10 years you'll have about $931.

If instead you invest $100 per month at 12% annualized, in 10 years you'll have over $23,000.

Not that $23,000 makes you rich - the point is that regularly saving money is much more powerful than having money to start with.

Answer 3

"What could a small guy with $100 do to make himself not poor?"

The first priority is an emergency fund. One of the largest expenses of poor people are short-term loans for emergencies. Being able to avoid those will likely be more lucrative than an S&P investment.

Remember, just like a loan, if you use your emergency fund, you'll need to refill it. Be smart, and pay yourself 10% interest when you do. It's still less than you'd pay for a payday loan, and yet it means that after every emergency you're better prepared for the next event.

To get an idea for how much you'd need: you probably own a car. How much would you spend, if you suddenly had to replace it? That should be money you have available. If you think "must" buy a new car, better have that much available. If you can live with a clunker, you're still going to need a few K.

Having said that, the next goal after the emergency fund should be savings for the infrequent large purchases. The emergency fund if for the case where your car unexpectedly gets totaled; the saving is for the regular replacement. Again, the point here is to avoid an expensive loan.

Paying down a mortgage is not that important. Mortgage loans are cheaper than car loans, and much cheaper than payday loans. Still, it would be nice if your house is paid when you retire. But here chances are that stocks are a better investment than real estate, even if it's the real estate you live in.

Answer 4

Yes, you can indeed become rich by investing even small amounts over time.

Let's say that you begin with nothing invested, and you start investing $100 per week. Suppose you choose to put your money in an S&P 500 index mutual fund.

The CAGR (Compound Annual Growth Rate) of the S&P 500 over the last 35 years has been about 11%. (That 35 years includes at least two fairly serious crashes.) You may get more or less than that number in the future, but let's guess that you'll average 9%.

35 years from now, you would be a millionaire ($1.2 Million, actually).

This math works out for anyone, no matter who your parents are, where you are from, where you went to school, etc.

Yes, you have a better chance of becoming wealthy the more you invest, the longer you have to stay invested, and the better choices you make in your investments. By starting early, you will maximize your time invested, which allows you the flexibility to be more conservative in your investments and to invest smaller amounts. But for those with a shorter time to invest, it is still doable for most people. Get your financial life under control by eliminating your debt, setting a household budget, and investing for the future.

Answer 5

Investments earn income relative to the principal amounts invested. If you do not have much to invest, then the only way to 'get rich' by investing is to take gambles. And those gambles are more likely to fail than succeed.

The simplest way for someone without a high amount of 'capital' [funds available to invest] to build wealth, is to work more, and invest in yourself. Go to school, but only for proven career paths. Take self-study courses. Learn and expand your career opportunities.

Only once you are stable financially, have minimal debt [or, understand and respect the debt you plan to pay down slowly, which some people choose to do with school and house debt], and are able to begin contributing regularly to investment plans, can you put your financial focus on investing. Until then, any investment gains would pale in comparison to gains from building your career.

Answer 6

A cautionary tale: About 25 years ago I decided that I should try my hand at investing in some technology companies.

I was in the computer biz but decided that I might suffer from myopia there, so I researched some medical startups. And I did some reasonably good research, given the available resources (the Internet was quite primitive). I narrowed things down to 4-5 companies, studying their technology plans, then researched their business plans and their personnel.

In the end I picked a drug company. Not only did it have a promising business plan, but it had as it's CEO a hotshot from some other company, and the BOD was populated buy big names from tech companies and the like. AND the company had like $2 of cash for every $1 of outstanding share value, following their recent IPO.

So I sold a bit of stock I had in my employer and bought like $3000 worth of this company.

Then, taking the advice I'd seen several places, I forgot about it for about 6 months.

When I went back to look their stock value had dropped a little, and the cash reserves were down about 20%. I wasn't too worried. 6 months later the cash was down 50%. Worrying a little. After I'd had the stock for about 2 years the stock price was about 10% of what I'd paid. Hardly worth selling, so I hung on for awhile longer.

The company was eventually sold to some other company and I got maybe $50 in stock in the new company.

Answer 7

What could a small guy with $100 do to make himself not poor To answer the question directly, not much. Short of investing in something at the exact moment before it goes bananas, then reinvesting into a bigger stock and bigger etc, it's super high risk.

A better way is to sacrifice some small things, less coffee, less smokes, less going out partying so that instead of having $100, you have $100 a week. This puts you into a situation where you can save enough to become a deposit on an appreciating asset (choose your own asset class, property in AU for me).

Take out a loan for as much as you can for your $100 a week payment and make it interest only with an offset against it, distributions from shares can either be reinvested or put into the offset or in the case of property, rent can be put against the offset, pretty soon you end up with a scenario where you have cash offsetting a loan down to nothing but you still have access to the cash, invest into another place and revalue your asset, you can take out any equity that has grown and put that also into your offset.

Keep pulling equity and using the money from the offset as deposits on other assets (it kind of works really well on property) and within 15 years you can build an empire with a passive income to retire on.

The biggest thing the rich guys get that the poor guys don't is that debt is GOOD, use someone else's money to buy an appreciating asset then when you pay it back eventually, you own the growth. Use debt to buy more debt for exponential growth.

Of course, you need to also invest your time to research what you are investing in, you need to know when you make the decision to buy that it will appreciate, it's no good just buying off a tip, you may as well drop your money on the horses if you want to play it like that. Fortunately, one thing we all have in common regardless of our money is time, we have time which we can invest.