In your new book, Are You a Stock or a Bond?, you make much of evaluating your human capital. What is it?
The concept of human capital goes back to the famous economist Gary Becker at the University of Chicago, who won a Nobel Prize for this almost 20 years ago. The idea is that people are endowed with more than just their portfolio of stocks and bonds and a house and what they might have in the bank. What they really have is the value of their human capital, which is their potential to work.
There’s an exercise I do with my graduate students. I ask them to write down on their personal balance sheet all the assets on the left-hand side and all the liabilities on the right-hand side. They think a traditional balance sheet is assets like money and savings, and then liabilities like student loans and credit card debt. So they all think they have negative net worth.
But their net worth is actually positive?
Yes, because they have 40 years of work ahead of them. The value of their wages over a very long time means that [they’re] almost like an oil well. They may have very few traditional assets on their balance sheet. But because they’re young, they have human capital that over the course of their life they’re going to convert into financial capital.
Younger folks are much wealthier than you think. When I talk to audiences about this, especially the older crowd, 40s and 50s, I ask them with a show of hands how much of their money they’re willing to give away to turn back the clock 20 years. And most people say, “Take it all, and make me 20 years younger.” What people start to realize is that their human capital is the most valuable asset they have — more valuable than financial capital.
What can people do now when evaluating their human capital? What’s the best way to nurture it?
If you want to evaluate your human capital, start before your first job. Your first year in college, you’re trying to figure out what to major in. You should study things that would increase the value of your human capital, instead of just taking courses that sound interesting. Once you accept that education is an investment in your human capital, the task of defining and evaluating it starts before you graduate.
That’s why you shouldn’t be reluctant to take on student loan debt, especially when considering going to graduate school. People have debts, and often they don’t want to go back to graduate school until they’ve paid off their undergraduate debt. But your student loans don’t compare to the present value of your human capital, which is in the millions of dollars. Debt isn’t evil in that context when you’re investing in human capital.
How should someone in midcareer who just lost their $100,000-a-year job think about their human capital?
At the age of 40, you’ve got a long time to live. So, you might seriously consider going back to school and retraining, even if it takes another year or two. You’ve got 20 years of [drawing from] human capital ahead of you. Invest in it, even if you train in a completely different area. I would not dissuade people from investing in human capital at that age.
As your book states, assessing your worth partly involves figuring out if you’re a stock or a bond. How do you mean?
It depends on what you do for a living. The only people who are shopping in malls right now are teachers and firemen and police officers and federal and state employees. They all have steady jobs. They know they’re unionized and they have a guaranteed labor stream. They’re basically bonds.
Let’s take a police officer who retires at 52. There’s no reason why, even though he’s retired, he can’t take on an enormous amount of equity exposure. After all, his pension is a secure bond. The bonds are the ones who are going to spend us out of this recession, so to speak. They’re the ones who can afford to take the risk [to keep spending].
And if your career is less stable, then you’re more like a stock and so you should invest more conservatively?
Right. If your human capital is risky, you shouldn’t take chances with your financial capital. Invest in more secure instruments like bonds. And I tell this over and over again to the many generations of MBA students here at the university. They’re all really bright students, and they’re going to get very good jobs, [but] then they’ll take their financial capital and invest it very riskily as well. They shouldn’t.
So as a professor ― as a bond ― have you invested in a portfolio of stocks?
Yes, and it’s been decimated over the last six months. I lost 45 percent of the value of the portfolio. But I am — and continue to be — aggressively invested in equities. My human capital is a bond. I’m a tenured professor at a university. The last six months have been horrendous, yes, but I don’t look at that statement until I’ve valued my human capital at the same time. I want to see the whole balance sheet, not just a piece of it.
I value my human capital once a year and I figure out the present value of my projected wages for the next 30 years, plus the pension that follows. My human capital has gone up probably more than my financial capital has gone down. I don’t regret the decision to invest in stocks. I regret the outcome, but not my decision.
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