If my Perpetual Value Theory hasn’t been debunked yet, then I would like to venture into even more ambitious waters.
This concept that I’ve been working on has been to find alternative methods that positively reinforce the habit of passive investing. Instead of finding ways to squeeze your budget today so that you have financial security decades later, how can we provide positive feedback for our healthy actions in the near future. But even with this system that I’ve been designing aims to achieve that, there’s still a noticeable lag between the present sacrifice made and the positive return. It still takes 9 years under the static income model for the lump sum payout to be equal to one month’s worth of income. Once you get to that point, the returns grow exponentially, but it still takes 9 years to get to that point with less than optimal returns to be worth the sacrifice.
The Mismatched Incentives of Investing
This lag is due to a fundamental predicament that young investors find themselves to be in. To accumulate large amount of wealth, there are two components that make that happen: time and capital. You can have a large investment portfolio either by, well, starting off with a large sum of money to invest so that the nominal returns are high, or by starting early and having lots of time to let the investment grow exponentially. If you have $1 Million to invest, then your 10% return would mean an increase in $100k, meanwhile if you invested $100 and got the same 10% return would mean you gained $10. Since most of us don’t have a lot of money, our best bet for financial growth comes from time. If you invested $1,000 today and got 10% return annually, and let it sit for 50 years, it would be worth $117,390.
The problem with all this is that we typically are placed in opposite positions for what is ideal:
- When we are young and have a lot of time, we don’t make much money and have none to spare.
- Then when we finally start making more money and can start putting aside money to invest, we’re much older and don’t have much time left before we need to use the investment.
The $50,000 Question
This dilemma led me to ask a weird question: what if you were able to start off with $50k in investments?
Let’s just run with this hypothetical scenario: We go through the same progression that’s demonstrated in the static income model, with the $5,000 investment from wages made that year, but we also magically have $50k available to invest at the beginning of the year as well. That would mean over the first year, you would have now contributed $55k and that would have grown to $60k at the end of the year. Then for the beginning of year 2, when we cash out 5% of the fund value, which means we’re going to start the year with $3,000! You put in $5,000 of your own money into the fund last year, and you basically get 60% of that investment back a year later in a lump sum. Just for comparison, under the normal static model, that first cash out on year 2 would have been $264. How much easier would it be to invest $6,000 over that second year now, now that you know you’re getting at least $3,000 back to start the year? This is proving a more immediate positive feedback loop that can make it more worthwhile for those who don’t have a whole lot of cash to spare to set for investment.
While this is a fun thought, and I’m sure anyone would say yes if they were handed $50k to invest, but the first question that probably came to your mind when reading about this was: “Where does that money come from?” While this is still a hypothetical scenario, I would like to lay out a hypothesis on how this could actually exist along with the means for $50k to be readily available to first-time investors.
The first part is that the $50k doesn’t have to be completely given away by some donor; if this is to jump start your investing and provide meaningful withdrawal value to the investor, the investor doesn’t need to always have that $50k but rather only needs to have it for a few years until their own contributions accumulate and grow to exceed that initial $50k. Thus that $50k could actually be lent to the investor for a set period of time and slowly gives back the principal to the lender. The lending period could be for 6 years, in which it was a progressive payback pattern where after the first year $1k was returned, followed by $2k, then $4k, $8k, $15k, and then the final $20k. If we plug that into the static income model, on that final year in which the last $20k was returned to the lender, the investor would still have an investment balance of $82k at the end of the year. They only need the money for 6 years and once they’ve returned the entire $50k back, they themselves will have more than 150% of what was lent to them at the beginning. Plus since they are no longer returning capital, every year is going to continue to grow exponentially beyond what it was previously.
How to find $50,000
Now let’s explore where this money can come from.
We now can see how beneficial it is to the user to have $50k to invest, even when it’s only for a short period of time, but who is lending this money, and who is willing to do so interest free?
In one overly simplified scenario, that $50k can come from an individual who has accumulated a large investment portfolio over $1 Million, and is willing to forego 6 years’ worth of growth on $50k of that $1 Million. This is a hard sell to try to expand beyond a few family friends who are in this position that are also willing to take this kind of venture, but what if we broke that $50k into small bits, in which multiple individuals contributed towards that $50k? This alternative could tap into the means of crowdsourcing, where 500 people could contribute $500 of their investment portfolio, in which they will receive that $500 back in 6 years. If you’ve been investing for a few years, $500 doesn’t make much of an impact on your portfolio, and you basically are exchanging market returns on that $500 for social impact in helping an individual establish long-term investing.
Real Life Examples
This concept isn’t that original either since there’s a whole lending platform called Kiva, in which individuals crowdsource loans to entrepreneurs in less developed countries. You as a lender loan in $25 increments and they are compiled with other lenders to make small loans, like a $1,000 loan that allows a farmer to buy more chickens and a chicken coop, which they can then start selling more eggs which then allows them to pay back the loan along with generating more profit. The lenders eventually get their $25 back a year later, which they can either return that money back to their account and exchanged $25 of foregone use during that year for social impact, but not at an actual financial cost. The Kiva investor could also decide that the $25 isn’t that important to them anyways, and thus they might as well use that same $25 to lend to another individual. This allows them to effectively double the impact that $25 had, in that it had $50 of use to others while the lender still has the option to get that $25 back after that second loan is completed.
This leads to a second option that the lender could choose if they decided they’ve mentally determined that $25 is to be used indefinitely towards being recycled over again for positive use to others, they could just donate that $25 to the organization and receive a tax deduction for that $25, while this $25 gets to be used over and over again. This method is also already in use at a similar organization to Kiva called, Zidisha. I wrote about Zidisha in a post a few years ago, and through Zidisha, I contribute as little as $1 towards a crowdsourced loan that I don’t collect interest on, but when the repayment does occur, I waived my right to withdraw that money back to my account, and that money must actually be put back into another loan for someone else to use. Since I cannot withdraw the funds I contribute, it is considered a donation that I still get to control and get a tax write off. Actually to date, I’ve contributed $990 over the past 3 years or so, which has turned into over $4,000 in loans. My tax deduction has been a total of $990 over that time, but the value of my contributions has been over $4,000. Why can’t something like this be established for investing?
I again want to acknowledge that this may be too difficult to actually put into practice, but the concept is based on elements that have been proven to be successful Kiva to date has generated over $1 Billion in loans over the past decade through individuals who wanted to make their benevolence go further. I’m exploring how to expand that concept.
I want to keep checking my idealism and state that this would be incredibly hard to implement, but is theoretically plausible. Being able to temporarily have $50,000 added to your portfolio can have a significant impact not only in jump starting your investing, but can have an incredibly significant impact on your own psyche as an early investor. When this running start is paired with the concept of perpetual value funding, it can fill in the gap that allows new investors the tangible reward of investment in that first year that helps lead to more positive inputs that continue to reward the investor down the road.
This post is just setting the stage for this concept, but my next post will demonstrate how all this could function within a legitimate entity.