By Marc Guberti
One of the worst financial fates someone can endure is losing all of their hard earned money in a matter of days or weeks. While this doesn’t happen to most people, it unfortunately does happen to some people.
$100,000 turns into $0 and a few hard years of work go down the drain. It’s incredibly heart breaking just to think about this scenario, but it’s one we must actively seek to avoid.
There are several reasons why some people lose large chunks of money seemingly overnight. These are five of the more common reasons why this phenomena happens.
Not Tracking Their Expenses
If you don’t keep an eye on your expenses, you can suddenly fall prey to them. While the drop to zero isn’t as dramatic, it whittles away your wealth over time. This can have an accelerated impact if one or more of your income streams suddenly dry up.
Tracking your expenses on a spreadsheet will give you a deeper appreciation of where your dollars go. You’ll hesitate each time you’re presented with the opportunity to spend your money. This is a good thing because you’ll then only spend money on meaningful purchases rather than impulsive ones.
When you track your expenses, you’re more likely to focus on experiences rather than the accumulation of stuff.
High Risk Investments
Investing is paramount for building wealth over time, but it can get ugly if you invest in high risk assets. Cryptocurrencies and options are two high risk, high reward investments.
While it’s okay to have some high risk investments in your portfolio, you should keep it to a minimum. There’s a big difference between 0.5% of your portfolio getting wiped out versus 20% of your portfolio getting wiped out.
If your investments keep you from sleeping at night, you need a different strategy. Sure, a high risk, high return reward can result in significant appreciation in a short amount of time. Some options traders turn $500 into $100K. However, it’s just as possible to turn $100K into $500.
Some high risk investments don’t even present a proper risk-reward ratio. Shorting stocks is among the riskiest ways to invest because you can double your money at the very best and face unlimited losses at the very worst. Some shorts end up losing their entire portfolios because a stock suddenly shoots upward (I’m looking at you, GameStop).
I went to Las Vegas once because my brother was speaking at an event there. I had always heard of it but was curious with what I would find. I knew I’d be in a place where gambling was very popular, but I was unprepared for the amount of slot machines and different card games I saw there along with the smell of cigarettes.
Casinos aren’t exactly my cup of tea, and I’ve never gambled in them. Not even with $5 just to see what would happen. If you don’t start, you never have to stop.
Gambling can quickly deteriorate wealth because people’s prides get hurt in a system designed to make them lose. No one wants to end in the red, so they keep gambling hoping from one stroke of luck that they end up in the green again. Then, they get greedy and want to get even deeper into the green. That puts them back in the red and leaves them very frustrated.
Many businesses capitalize on people’s desire to gamble, and the effect the industry has on people’s lives is disastrous. It’s not worth it. You can have fun in plenty of other ways.
Getting Into Bad Debt
Debt is a silent killer that compounds over time. It’s the reverse of your stock gains compounding over time, and if you don’t stay on top of it, debt can have a devastating effect on your net worth.
Most people slowly get into debt and don’t feel it until the compounding makes it unbearable. There are some types of debt that are good such as a mortgage. Good debts are tied to reliable assets. Bad debt such as credit card debt can take a toll on your wallet.
But then there’s a gray area. Investing in stocks with margin is a great way to boost your returns when things are going well. However, investing with margin can have disastrous consequences if things don’t go your way. Although margin debt is for investing purposes, you put yourself in an extremely vulnerable position. Some people can get wiped out if their portfolios go down 20% to 50% because of their level of margin.
Excessive leverage is how Archegos lost $110 billion in 5 days according to the Financial Times…even though the fund only had $20 billion in assets. Archegos used an investing device similar to a CDO, a high leverage asset that led to the Great Recession.
Most of the heavy losses in the stock market are attributable to margin gone wrong. I like stocks more than real estate, but leverage only makes sense with real estate. If you use margin in the stock market, you’re playing a very risky game.
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