How Large Of A "Bet" (Investment) Are You Willing To Make?

Question

This topic comes up frequently on BP and it is something I am currently wrestling with for some new projects I have found.  What percentage of your net worth are you willing to risk on any given type or set of projects?  I know BP has some risk lovers so I am curious to see what people say.

My guess is that the answer will vary based on the level of confidence one has in their ability to identify great projects and "bet" on the outcome and their skill in accomplishing a desired goal.

What is prudent in your opinion?  20%?  50%?  All in?  Is concentration risk valid if you are really good at what you do?  Does the answer change if you are risking your spouses money as well?

Sharad M. · Answer

Bryan,

I think the answer depends on a few things:

1) Like you said, it depends on the level of confidence one has in the outcome of the project.
2) I think more important thing here is the size of the net worth. If someone has a net worth of $10k, then the answer will be a very high %. OTOH, someone with a high net worth, say around $10 million will generally look to diversify investments.
3) Another thing that affects this decision is the age and personal situation of the individual. Someone who is young and single will be more comfortable with investing a high % of net worth on one project vs. someone who is married with kids.

I don't really have a set number in mind that I feel comfortable with investing in one project, but it will depend on case to case basis. My net worth isn't very high, so I am willing to bet a very high % of my net worth on one project, but as my business grows, I will look to diversify in different projects and different industries.

Bill Gulley · Answer

I have never really considered a deal as a per centage of my net worth, as it is really not applicable to the deal if it is structured properly. It's the cash flow!

That's what an exit strategy is for, you have to cover the temporary liability, not the total value. IMO.

In my career, my largest liability was the guarantee of notes, in the millions, but I could always sell the onligations or the properties, refinance them or modify them, so to say that I was totally at risk is not a true concern.

Manage liabilities asclosely as you do your assets!

Account Closed · Answer

I would have no trouble with investing all of my net worth if I had done by due diligence and everything makes sense.

I would not be willing to invest but a small percentage in what I thought to be a speculative investment.

Vikram C. · Answer

As Rumsfeld said, there are unknown unknowns.  Therefore, I will not invest 100% of my net worth in an investment regardless of the quality of my due diligence or my confidence in the investment.

Regarding concetration and one's wealth, I believe Sharad was saying that people with less wealth can concentrate more whereas some others have suggested that people with more wealth can concentrate more.  This seems to be based on differing perceptions of the ability of a person to sustain a loss.  I think there is another way to look at this issue, and that is that the very wealthy do not have a need to assume high risks because they can maintain a satisfactory standard of living even with low ROIs.

Based on my experience, the very wealthy are often more diversified than the less wealthy.  This could be because of the factors discussed earlier or, more simply, because they have enough wealth to have a diversified portfolio and yet maintain meaningful amounts in each investment.

Bryan Hancock · Answer

I was tempted to make a separate post about this, but it seems very much linked with this topic.

It seems from my observations of people with a lot of accumulated wealth that many of them achieved wealth through concentrating their bets where they are highly skilled investors.  This is the classical concentration versus diversification debate that gets waged on BP frequently to which there is never a clear winner because of competing goals and initial conditions.

This really begs that question about whether or not this analysis has a severe survivorship bias.  For every person that makes it big by concentrating their wealth where they are "excellent" there are surely many who lose their shirt doing the same thing.  How do you know when you are good enough to concentrate wealth and be a "serious business man" instead of spreading risk and diversifying non-optimally?  To me it seems like it is much easier to risk higher percentages of net worth in projects when that money can be lost without a sacrifice in standard of living.

Economists talk about a decreasing marginal utility for extra dollars.  Do you buy this?  Do you attribute many of these concentrated risk wealthy observations to guts and skill or mostly to the fact that people that are already more wealthy can concentrate bets?  If the latter option if the dominant factor is the "skill" of the wealthy really just masked arrogance?

Account Closed · Answer

My mentor when discussing entrepreneurship, likes to talk about risks that entrepreneurs take. Is this deal the only way to get to your destination? Are there cheaper ways for you to get there? He would say this: never bet the farm.

The more speculative the investment the less I would put into it. Depends on my net worth. For example, for someone with over 1 mil in net worth may find considerable value in a larger property with reasonable cash flow, but may also dabble in a new strategy that is riskier but generate higher returns, particularly one in which they do not have that much experience. For example, 100k worth or 10% (or less) of your net worth. This to me is reasonable, as opposed to investing all your wealth, or something 50%+ of your net worth, into a higher risk strategy.

Yeah if the deal looks good then it should be considered, but if you risk everything you could lose everything. As my old boss said: never bet the farm.

Brad Williams · Answer

I will add to Sharad's response that it would depend on the level of protection is involved in the deal and the exit strategy (or speed to which it can be executed).

Personally, I would be willing to risk up to 20% of my net worth and none of my spouses money (unless she personally wanted in on the deal, then she can make up her own mind)

J Scott · Answer

I'm not sure I'd bet it all, but I agree with Charles that I'd be willing to invest a significant percentage of my net worth if the deal were very well vetted (and my wife agreed)...

Bryan Hancock · Answer

Great answers....I think a lot has to do with your end goals as well.  I have found that some people are more driven by extra dollars than others.  If you are comfortable with your current trajectory it seems like large bets need to carry a lot higher potential outcome or a much lower risk to entice the dollars to go to work.

Account Closed · Answer

There are several assumptions that have to be made here.  One is that your net worth is liquid or can be obtained in some manner.

I read posts on other sites from realtors that essentially consider any real estate investment a speculative investment.  I personally put very little money into speculative deals.  Perhaps in the future I would be willing to put a little more into this type of investment.

When I invest in real estate,  I have a high level of confidence that I will have a reasonable return at minimum and probably will beat that return.  IMHO it is extremely important to understand your market (not just today but on an ongoing basis) and it is important to perform a solid due diligence.  You can make money at the time of purchase and in many deals there are ways to add value along the way.

So from my vantage point, if I came across a deal that might require 100% of my net worth and it was a solid deal, I would be all over it.  That assumes financing was in place as well.

I don't see it as a bet because I have fully vetted the deal.  When I go to Vegas or the casino, I rarely spend more than $10.  I would spend more than that on some speculative RE but it wouldn't be much more than 1% of my net worth at this time.  I might be willing to up that % later.  Right now there are so many real deals that I see little need to speculate.

When I start into something new, I generally like to take baby steps to test the waters and limit my risk.  When I feel comfortable that I understand the investment, then I'm willing to invest more because the risk diminishes. There is always some risk but if you know what you are doing that risk can be kept to a very low level.

How Large Of A "Bet" (Investment) Are You Willing To Make?

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