Human Capital Bests Investment Capital

We love to dream of getting the best returns on our capital. We read books, peruse blogs, and even take courses. Is real estate better than stocks and bonds? Should I be jumping into crowdfunding or syndication? Index investing vs stock picking? Everyone thinks they know the answer. And depending on the what’s happening in the world at the moment, the market can be beaten. Some inefficiencies still exist that allow double-digit returns as the norm. Real estate investors, in fact, feel like they can wallop the stock market most of the time. In this post, however, I’m going to tell you the exact opposite. In my humble opinion, chasing returns is fruitless. Not because of the ease of index investing or the theory of reversion to the mean. Not because of the unknown or unknowable. I worry little about returns, and yet feel like my wealth accumulation skills are far better than average. It all hinges on one basic principle. Human capital bests investment capital. Every time.

The Cost of Human Capital

Human capital is not free. It takes very little training or knowledge to do manual labor. But for most of us professionals, our skills came at a price. We front-loaded the investment by sacrificing both economically and intellectually. We suffered through the ivory tower and ran up debts that had to be diffused in the beginning of our careers.

Skills and on the job training can last a lifetime. While I spent hundreds of thousands of dollars on my education as a doctor during the training phase, continuing education and maintenance of certification are now a paltry portion of my yearly expenses.

Once paid for, human capital bests investment capital. It consumes nothing but energy.

Investment Capital Consumes Itself

I have a friend who FIREd and now does hard money lending. He loves it. He figures that he can safely and consistently make 10% returns. Therefore, he allocates a million dollars of capital to this asset class. Based on his math, he should accumulate $100,000 a year from this investment. This exceeds the average 6-8% that I make with basic index investing. He is beating the market with very little downside. He usually spends a few hours a week setting up deals and reviewing properties.

So, for working (3 x 52) 156 hours he makes $100,000 and he ends up with $1,100,000 at the end of the year.

I, on the other hand, pay very little attention to returns and use my human capital instead. I take my million dollars and put it in an S&P 500 index. This takes zero time and thought. If I average a 7% return, I will end up with $70K at year’s end. This is far poorer than my friends 10% return.

So how do I come out ahead?

I leverage my human capital. I use my specialized training and knowledge as a physician to do a lazy side hustle that I find enjoyable. Lets say I spend 8 hours a week as a medical director and make $100K extra. My time allotment is far more than the 3 hours my friend spends doing his “job”, but it still pales compared to full-time employment.

By years end, I have accumulated $1,170,000 compared to my friends $1,100,000 at the cost of 260 hours.

Not a bad trade-off (tax not factored in).

Human Capital is Resilient

Human capital bests investment capital for other reasons also:

It is much more recession resistant. Even in a poor economy you still have your skills and knowledge.
It keeps your knowledge base current. After retiring for a few years, it is often hard to return to a profession if the field has changed at all.
Even in retirement, working a few hours a week can add structure and personal interaction to an otherwise isolating lifestyle.

Final Thoughts

Human capital bests investment capital for many reasons. Since the sacrifice is front loaded, the cost of human capital has already been paid for early in a person’s career and is essentially free. Unlike investment capital, human capital doesn’t consume itself.

And if you are worried about recession or sequence of returns risk, it might just be your best asset class option.