Principles of Wealth Preservation: How do so many rich people lose their wealth while a few preserve it?

The number of high-net-worth individuals (HNWIs), with a net worth of $1 million or more, has exceeded 20 million worldwide. Saudi Arabia’s 274,400 HNWIs is the highest in the Middle East according to the 2020 annual report of UK-based Knight Frank, and is forecast to reach 279,300 by 2024. But can future generations protect the wealth created by their families?

Wealthy people face different challenges as some focus on preserving their wealth and protecting it from erosion while others focus on ways to create wealth. Erosion is the greatest threat to wealth as many rich people either fail to preserve their wealth or lose most of it across generations.

A known fact in the investment world is that wealth is always changing; it is either increasing or decreasing. Even cash and bank balances are subject to this principle as their value decreases gradually depending on inflation.

Losing Wealth from Generation to Generation

A Chinese proverb says, “The first generation creates the wealth, the second spends it, and the third starts from nothing.” A very similar Mexican proverb says, “The father is a merchant, the son is a millionaire, the grandson is a beggar.” Ibn Khaldun, the 14th Century Arab historian and philosopher, observed this fact centuries ago, stating that great dynasties approach their end by the second generation. The first generation is characterized by determination and courage; the second gets accustomed to luxury and tends to be lazier than the previous one, despite witnessing the glory of their fathers and participating in it somewhat. The third generation indulges in luxury and forgets where it came from, and the dynasty is lost with all its accolades.

The same applies to wealthy families as recent studies show that family wealth rarely survives beyond the third generation. 70% of wealthy families lose their fortune by the second generation, and 90% lose it by the third generation (grandchildren). This phenomenon is caused by wealth management mistakes due to poor investment and commercial decisions and spending habits.  Another cause is the lack of appreciation for the value of money that was not earned through their own effort.

How did the 10% of rich families that preserved their wealth through generations avoid the fate of other families?

In his book "Borrowed from Your Grandchildren", family wealth management advisor, Dennis Jaffe, conducted extensive research to answer some questions: What differentiates the families that have preserved their wealth for over 100 years? How can families avoid the three-generation curse and improve the chances of their continuity?

Jaffe interviewed over 100 families worldwide and concluded that successful families seek the best financial advisors to guide them to the best opportunities and investment practices to keep them always on the right track.

Professional Wealth Management

The book explains that managing wealth independently in an improvised manner is not the optimal path to wealth preservation and growth, especially that markets are subject to more volatility due to rising uncertainties amid changing variables, and fundamental changes in many industries and business sectors that were once relatively safe options. This applies, for example, to the retail sector which became threatened by e-commerce trends, and the banking sector which faces fierce competition from fintech companies that focus on such core services as financing and payments.

Many can create wealth, but rarely do they have the necessary knowledge and experience to grow it and preserve it over the long term. This is where wealth management comes in, an industry comprising many companies worldwide managing over $103 trillion.

At first glance, the role of wealth managers may appear to be limited to guiding HNWIs in investing their money, but wealth management services today include helping clients establish their goals and financial needs, developing the appropriate investment strategies and plans to realize these goals, and monitoring portfolio performance closely.

In an interview with Argaam, Ali Almuarik, Deputy CEO Head of Wealth and Asset Management at The Family Office International Investment Company, asserted that financial planning and the development of a structured and written plan are among the most important steps toward a sound approach to preserving and growing wealth that follows a strategic plan for managing cash flow and investments.

Wealth management firms must have the best cadre of investment and financial experts who can access resources and information that are unavailable to individual investors, enabling them to provide unique market insights that guide investors to the best investment opportunities and the optimal plans for their short and long-term needs and financial goals.

Added Value

Wealth management companies offer an added value that is difficult for clients to achieve on their own. For example, The Family Office offers investment opportunities and services in exclusive deals worldwide, and minimizes risk through diversification of assets in partnership with global asset managers, amongst other strategies. Since its establishment in 2004, The Family Office has preserved and grown the wealth of more than 200 families, individuals, and institutions in the Gulf Cooperation Council. Without an experienced investment manager, clients may make rash decisions after each market shock that could jeopardize their wealth and peace of mind.

A 2019 study by Bankrate, a US-based financial services company, showed that 56% of American adults suffer from insomnia when faced with their first financial problem. This is no surprise. In 2017, studies by the American Psychological Association (APA) indicated that financial concerns are the second biggest source of stress among Americans.

Regardless of all these common fears, each client has unique financial circumstances and goals.  What suits one client may not suit another. Here comes the importance of wealth managers that follow an investment approach based on the unique circumstances of each client, developing a financial and investment plan tailored specifically to meet the needs of each client and their families.

Family Governance is a Tough Job

Compatibility and understanding between spouses are the two most important pillars of a happy marriage, but it may be affected, for example, by difference in age. The age difference between the generations of a wealthy family often leads to conflicting priorities and perspectives in managing and investing the family’s wealth.

A competent wealth manager can guide the family in transferring wealth from one generation to another by offering unified solutions that serve all parties, and by helping the younger generations appreciate their responsibilities and educating them about the family's financial situation and its future.

A professional wealth manager must first understand the perspectives of the different generations, and then develop plans and investment strategies that address everyone's needs, priorities, and interests.

The fees charged by a good wealth and investment manager are covered by a percentage of the returns. The best way to preserve and grow wealth is to select a savvy wealth manager to protect wealth against losses and depreciation and generate above-market net returns after fees.

We understand the burden and responsibility of clients when entrusting their wealth to an investment manager.  Their wealth represents their past, present and future, and the future of their children and grandchildren. Clients must therefore choose an experienced wealth manager with a distinguished team that can preserve their wealth regardless of market conditions.

Disclaimer:

The Family Office Co. BSC (c) is a Category 1 Investment Firm regulated by the Central Bank of Bahrain C.R. No. 53871 dated 21/6/2004. Paid Up Capital: US$10,000,000. The Family Office Co. BSC (c) only offers products and services to ‘accredited investors’ as defined by the Central Bank of Bahrain.

The Family Office International Investment is a joint stock closed company owned by one person. Paid-up capital SR20 million. CR No. 7007701696.  Licensed by the Capital Market Authority (no. 17-182-30) to carry out arranging, advisory and managing investments and operating funds, with respect to securities.

Sources: Argaam, Knight Frank, The Family Office, Bankrate, Boston Consulting Group

Book: Borrowed from Your Grandchildren: The Evolution of 100-Year Family Enterprises