Give me a lever long enough and a fulcrum on which to place it, and I shall move the world. – Archimedes
I spent a lot of time thinking about asset allocation, not just as it relates to investment decisions but as it relates to life.
After reading Ron Chernow’s excellent biography of John D. Rockefeller and writing my takeaway from the book, I began thinking about leverage in more depth.
We spend so much money throughout our lives on things that do not add any leverage. Some expenditures even entail negative leverage:
- Junk food
- Pay TV
Far from improving our lives, these things are a net negative.
For some personal perspective, I used to collect wine. My cellar was once so large it represented a significant portion of my net worth. Last year I had the realisation that while I loved wine, I was heavily invested in something that was having a negative impact on my life. Alcohol ruined my sleep, detracted from my fitness and I was stupidly paying money for these ill effects.(1)I’ve subsequently sold > 95% of my wine. I now only keep bottles from significant years such as the birth of my daughter.
Instead of allocating our resources on things that are a net negative or even neutral, we should spend a significant portion of our income on things that add leverage to our lives:
These things are net positive. The return is far higher than the initial expense.
We must be careful not to exceed the point of diminishing returns however. While we may be able to justify spending $20,000 on a bicycle under the guise of health & fitness, our fitness is not going to be 2x greater when compared to a bicycle costing $10,000.(2)I probably spend way too much on bicycles…
Remember, leveraging you life means achieving maximum ROI. There are only 2 ways to do this. Either the initial investment is small, or the payoff is huge.
Don’t forget probabilities
Following the argument above, you could be forgiven for thinking that spending 50% of your income on lottery tickets is a great way to add leverage to your life. The probability of taking the jackpot in Powerball is approx 1 : 292,201,338. Conversely, the probability of improving your aerobic fitness and releasing dopamine after a long bike ride is a near certainty.
Over 90% of your expenditures should involve leverage of some kind.
Seems like a lot, but once you start thinking in terms of leveraged expenditure it’s an easy target. Buying healthy food? That’s leverage. Paying down your mortgage = leverage. Kids education? Ditto. Most of your biggest expenses are probably leveraged already.
It’s the seemingly small stuff we need to watch out for. I like to use an app to classify all expenditures with an “L” tag when that purchase is a leveraged expense. For example, if I spend $100 on books, my expense category is ‘Books – L’. If I spend $100 on clothing, no “L” tag. We obviously all need to wear clothes, I just don’t want to be spending 20% of my income on a category that doesn’t make me fitter, smarter, better.