What Separates the Rich from the Rest of Us

Yesterday’s Markets and Money made the case that central bankers would sell their mothers down the river to prop up the housing market. Today’s missive will continue with the same theme.

Here’s why. A recent article in the Wall Street Journal shows you why the middle class in the US is hostage to their houses. It’s the same here in Australia. This gives us some clues on how to navigate the economy, and the stock market.¬¬ But more importantly, it shows what the rich do differently than the rest of us.

According to WSJ, an economist called Edward Wolff at New York University, researched into the wealth distribution of American finances. As a result, he was able to peek into the portfolios of the rich, the upper-middle class and the broader middle class.

I’ll strip out the nuances before we break it down. The rich own businesses; the middle class own houses.

This study classifies the top 1% of Americans as having a net worth of more than $7.8 million. About half their gross assets is in private equity, then investment real estate. Then comes the usual things you’d expect such as individual stocks and mutual funds. The actual house they live in isn’t a major feature of their total assets.

But here’s the thing for most of us. As WSJ says, for the middle class, nearly two-thirds of their wealth is in their home. Here it is in graphic form:

Financial Profile for the USA

The ‘next 9%’, by the way, has more than $400,000 in assets. So you can see the typical American, whose wages have barely budged in 40 years, belong in the bottom 90%.

And you only have to look at the debt the bottom carry to see why any decline in their major asset — ie their house — can strangle them in negative equity and take the economy down with them.

That’s why this is the key quote:

The research helps explain part of why the recent recession, which hinged on a housing bust, was so much more difficult for the middle class than a typical recession.

It also helps explains why the recovery has been so disappointing to many. Housing has regained its ground only slowly while corporate profitability has boomed. In other words, we’ve seen slow growth in the major middle class asset, but substantial growth in the assets held by the wealthiest.’

If you’ve been following my daily reckonings of late, you’ll see the positive of this. As far as the US economy is concerned, housing is on the rise.

Do not underestimate the importance of this. There is — and seemingly always will be — constant reference to the levels of debt across the West. But a balance sheet has two sides, and while the debt liability is on one side, the assets are on the other. It’s when the value of the assets falls below the debt outstanding when things implode. That is not the case currently.

Now, the USA is a big country. Different states have different supply and demand needs at any one time. But there is a lot of news showing that US residential real estate prices are rising and construction is responding.

The GFC gouged such a gaping hole in American real estate that there’s still plenty of catching up to do. The GFC also wiped out the US consumer. But as home equity rises across the country, they’ll be back on their feet and ready to spend. Fortune writer Stephen Gandel says that profits for the S&P 500 companies will rise 3% this year if you exclude energy producers.

And don’t forget that the falling oil price is a boon for consumers all over the US (and the world). Barron’s magazine highlighted the parallel between today and 1986, ‘when the beneficial effects of a plunge in oil helped stocks rally even as the Federal Reserve raised interest rates.

US stocks might be a little choppy for the moment, but it seems to me this is the way the economic winds are blowing. But if you want to leave the worry of the economy behind, the Wolff study shows the way the really wealthy do it is to create a business, and then invest the profit in real estate. Over at Cycles, Trends and Forecasts we can show you how to time the real estate market to compound the profits higher. Here’s how. But you have to have the business first. More on this on Saturday. Until then!


Callum Newman+,
for Markets and Money

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Originally graduating with a degree in Communications, Callum decided financial markets were far more fascinating than anything Marshall McLuhan (the ‘medium is the message’) ever came up with. Today Callum spends his day reading and researching why currencies, commodities and stocks move like they do. So far he’s discovered it’s often in a way you least expect.

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