Sociologists Study How Much Money You Need to Be Happy
It isn't unusual for people to ask themselves how much money it takes to be happy. The next time this thought crosses your mind, don't take it lightly because the answer is important, especially as it pertains to managing your investment portfolio.
The first step to financial success, which many equate with happiness, is defining what you want. Are you striving for a comfortable retirement? Are you hoping to build your dream home debt-free? Do you wish to travel the world in a private jet? The answer to these types of questions will determine the approach you might want to take when it comes to constructing, funding, and protecting your investment portfolio.
A common assumption is the notion that happiness is synonymous with being rich. One problem with that assumption is that even members of your own family might very well have different expectations for what "rich" is. Contemporary sociologists such as Dennis Gilbert, a professor at New York's Hamilton College, define rich as those who live off of income from their investments rather than occupation-driven income.
By this standard, a doctor, even one earning $1 million a year, isn’t as rich as someone who has earned $1 million from stocks, bonds, real estate, copyrights, or other passive income sources. The reason has to do with time. The investor can sit at home and make money, while the doctor stops receiving a paycheck if she stops working. She's only paid if she continues to sell her labor. Others might define being rich by entirely different metrics.
You Don't Need to Be Rich to Be Happy
The truth is, most people have no desire to be rich when it really comes down to it. This was backed up in a major peer-reviewed study by Nobel Prize-winning economist Angus Deaton and his colleague Daniel Kahneman at the Center for Health and Well-Being at Princeton University, that proved money does buy happiness—up to $75,000 per year.
In other words, once your income exceeds $75,000 per year, your day-to-day experience doesn’t improve much as your income grows. Your "life satisfaction" does—that is, how you feel about what you’ve accomplished. The degree to which you love your work is icing on the cake.
It seems rational that most new investors should focus on how to earn $75,000 or more each year if they don’t already. This means a successful investing program is one that is designed to help you:
- Live debt-free—if you have no debt, it's much more difficult to go bankrupt
- Avoid financial stress by constructing, maintaining, and protecting a diversified collection of high-quality investments that provide you with the lifestyle you want
- Maintain adequate insurance coverage so you don’t have to worry about losing everything if something goes wrong
- Have diversified income sources so you don’t rely on a single job or source of income that could put your family at risk if it disappeared overnight
Finding a Safe Withdrawal Rate
If it takes $75,000 per year to be happy, how much money do you need in your portfolio to produce that level of cash flow? It depends on the asset classes you've selected.
For example, in areas of the country with relatively low costs of living, it might be possible for a debt-free investor to achieve such a thing with a portfolio of rental houses or commercial office buildings valued at somewhere between $800,000 and $1,000,000, something that would be all but an impossibility in an expensive market like Southern California or New York City.
If you were willing to utilize a conservative amount of leverage, you could pull it off with less equity, which is one of the reasons real estate is so beloved by the self-made rich.
Alternatively, a diversified portfolio of stocks and bonds might require anywhere from $1,875,000 to $2,500,000 if following the well-respected statistical guidelines of drawing down no more than 3% to 4% of your portfolio's value each year. It follows that once you move beyond that, more money will not necessarily mean more happiness.
For a typical working family with a median annual household income in the mid-$50,000s, their investment portfolio would only need to bring in $25,000 or so in cash flow to cover the gap to financial happiness. This makes the task much less daunting if you are relatively young, especially if you take advantage of 401(k) employer matching as well as fund a Roth IRA, enjoying substantial tax benefits as you accumulate capital.