By: Richard Anderson
Net worth is the most common measure used to assess wealth. Your personal net worth is relatively easy to calculate; it is the combination of what you own (assets) less what you owe (liabilities). A person’s net worth can be comprised of many different assets and liabilities.
Assets included in your net worth calculation can include bank accounts, investment accounts, cars, homes, personal property and business interests. Liabilities included in your net worth calculation can include items such as mortgages, car loans, credit card balances and student loans. Knowing your net worth is important because it helps you understand your current financial situation and provides a reference point for determining progress toward your goals.
What we know about analyzing an individual’s or family’s net worth is that they are all different. The chart below from the blog Visual Capitalist, which used data from the 2016 Federal Reserve Survey of Consumer Finances, provides a look at asset distributions based on net worth tiers. The net worth tiers are grouped based on a log10 value. This means all five-figure households are grouped together (i.e. $10k-$99k), all six-figure households are grouped together ($100k-$999k) and so on.
Looking over this chart, there are a few trends that stand out:
1. For the $10k and $100k net worth tiers, primary residence is the largest asset. This is not surprising, given the old adage that your house will be the biggest purchase you ever make. As net worth increases, the primary residence becomes a smaller percentage of assets.
2. Business interests increase as a percentage of assets as net worth increases. For $1b and $100m net worth tiers, business interests comprise more than 50% of assets. For the $10m net worth tier, business interests represent about 35% of assets. This is also not surprising considering the wealthiest individuals tend to be owners or founders of large businesses (think Bill Gates, Mark Zuckerberg, Elon Musk).
3. The proportion of direct investment in stocks, as opposed to indirect investment in stocks through mutual funds and ETFs, increases as net worth increases. This was a little surprising, but not a complete shock. For those in the higher net worth tiers, their percentage of direct ownership in stocks may be higher for a number of reasons. One reason is concentrated stock positions with low cost basis. They could have inherited these stock positions or invested in the company before it went public. A second reason is that higher net worth individuals tend to have a higher capacity to take on risk. Individual stock positions have greater risk than diversified mutual funds or ETFs.
The composition of assets that comprise net worth is important, but what is more important is that net worth is positive (or trending toward positive). As you earn and save money, your net worth will grow. To monitor your progress, best practice is to calculate your net worth on a periodic basis (i.e. monthly, quarterly, annually) and look for any developing trends.
If you have any questions about calculating your net worth, or how we incorporate your net worth with your financial plan, please contact a member of the HIGHLAND team.