So, we have already considered the questions Why Save and Why Invest. Now that you are saving hard and investing those savings, like some kind of Investment Mage, let’s have a look at the question: “Why track your Networth?”.
But whoa! Easy there, pilgrim. Before we gallivant off into the Networth sunset, we need to first figure out what in the holy hell Networth is.
What is Networth?
It’s your financial wealth, all wrapped up in one little number. It includes all of your assets and all of your liabilities.
NetWorth = SUM(Assets) – SUM(Liabilities)
If your assets are larger than your liabilities then your Networth will be positive, if your liabilities are larger than your assets then your Networth will be negative. A quick read here might be useful.
In a nutshell, that’s it.
There can be a bit of disagreement about what to include in your NetWorth calculation. Needless to say if you are spending a couple of weeks taking a complete inventory of your pantry and totalling up your vegetable patch, you’re including too much.
If you own a property … do you include it in your NetWorth? Yeah, you probably should. It’s worth a fair whack after all, and it’s an asset that can generate cashflow. Do what Mr Z does, and calculate your NetWorth twice. Once with, and once without, your property.
Let’s not spend to much time on what the NetWorth actually is, to the good stuff.
Tracking your Networth is Awesome
Updating your Networth regularly brings your finances to the front of your mind. Not what the FTSE is doing. Not what some random blogger thinks will happen to bond valuations in the near future. Not somebodies finger in the air assertion of whether a company is good value or not. Just your individual finances.
And if you are saving regularly, that will be providing the positive pressure to drive your NetWorth upwards in the long run.
Checking your NetWorth can provide a positive feedback loop. You check your NetWorth and it’s risen since you last checked. You pat yourself on the back and make an effort to save even more. A few months later you check again, and lo’ and behold your NetWorth has increased again. And so the cycle continues.
The habit of checking your NetWorth and the habit of saving are reinforcing one another. Isn’t that just lovely?
Most of the general populace, financial nerds aside, appear to prefer the approach of sticking their heads up each others arses whilst blindly spending and hoping it all works out OK in the end. And if not, there’s always the Government or the Banks to blame.
Sailing into Port NetWorth at regular intervals is a timely reminder that either the good financial habits are paying off or that the shit ones aren’t.
It focuses your (easily distracted) mind
I find it a therapeutic exercise, updating my NetWorth at the weekend. 20 minutes with a cup of coffee and some good music. And at the end I know how the last weeks maelstrom of spending and saving went. Time well spent.
I update it manually, in Excel. Copying and downloading. Deleting and swearing. Opening and saving. It might be slower than using an automated tool, but it makes me feel more connected to it.
Calculating your NetWorth is the gateway to taking your personal finances more seriously. Careful, it’s addictive.
It can stop stupid behaviours
A young Mr Z would beaver away and build up some savings but concurrently run an overdraft or a credit card balance. Looking at my savings would make my undead insides feel all rosy and I would forget about that filthy credit card balance in the background.
My savings were probably accumulating at 0.25%. Whilst the credit card and overdraft were whirring away at interest rates reaching towards a lofty 20%. In short, I was making a fucking stupid mistake because I wasn’t considering all the facts at the same time.
If I could have seen my Networth it would have shown me that paying the credit card off would have left me with the same NetWorth as carrying both savings and credit cards balances. It’s obvious. But at the time having savings (and a credit card balance) felt better than netting the two off and having no savings.
In short, it stops you only looking at the lovely parts of your finances whilst ignoring the shitty bits. And it’s easy to forget about the bits of our personal finance that lurk in the interest paying abyss. The credit cards. The mortgages. The student loans. The car loans. That 2000% Wonga loan.
It’s not all plain sailing on HMS NetWorth
Let’s not pretend that tracking your NetWorth is the solution to all of your finance problems, hell the first time you calculate it you may well just find a load more problems. (But at least you can then start to exterminate them one by one).
It’s one of many tools, but it’s not without it’s limitations.
It’s a single metric
Having one number, summing up your NetWorth keeps things simple. And oversimplification is better than over-complication, most of the time.
That single digit, the cute little NetWorth number, does hide a lot of the underlying detail.
Nothing like a quick example.
First we have Bobby. Bobby is a bit of a baller. He has a house worth £550k, a nice car worth £60k, equity worth £100k and cash savings of £25k. That’s total assets of £735k. Dude is rolling in it.
Much of this has been funded by credit. Bobby has a £500k mortgage remaining, a car loan of £45k, a credit card of £50k and a wonga style loan of £40k. So liabilities of £635k.
Bobby’s NetWorth is £100k, perhaps not as impressive as his assets first suggested.
Now we come to Claudette. She has a much more subtle house worth £250k, an older car worth £5k, equity of £35k and cash of £10k. That’s total assets of £300k. Quite a bit less than Bobby.
The only line of credit that Claudette has is a mortgage on her property, for £200k.
Her NetWorth is £100k. Wait a hot flaming second! Isn’t that exactly the same as Bobby’s? Wow, Nanna was right, first impressions can be deceiving. A side by side comparison might be helpful;
So on the surface their NetWorth’s looks the same. But get out your Pick Axe of Finance and dig a little deeper and you find two very different stories. Bobby’s assets are sat a top an abhorrent pile of credit, seething with high interest rates and potential penalties. (In personal finance circles we tend to include liabilities at their outstanding value, rather than a dicounted cashflow valuation. Which is at odds with our market consistent valuation of assets. But that’s a topic for another post).
Claudette is in a much healthier position, with only her property funded by any debt. Yet the NetWorth metric doesn’t reflect this, so it should be treated with a little caution.
Too Often, Too Schmoften
Checking your NetWorth can become an addictive thing. It’s always nice to see it heading northwards.
But checking it too often can lead to destructive behaviour, especially when the markets start to get a little volatile, head south and cause your NetWorth to shrink.
You see your NetWorth decrease, despite you actually saving money regularly and your flight response starts firing on all cylinders. It can cause you to panic and sell.
Or you may come to the conclusion that it was all a waste of time. That momentary decrease may give you the (false) impression that the saving wasn’t worth it.
Checking your finances too often can be destructive. Unless you are emotionally dead inside. So do it with caution.
It’s all positive
For myself, the initial calculation of my NetWorth over a couple of years ago ultimately led to me taking my finances much more seriously.
It was that act of pulling everything together, doing some very basic maths and actually seeing where I stood financially that shocked me into action. “Nearly 10 years of working and I have fuck all to show for it!” is never a nice thought.
And since then it’s allowed me to track progress, calculating NetWorth is me putting on my Financial Trousers, ushering any spare cash into savings and stomping out any outbreaks debts.
In short, 20 minutes spent calculating your NetWorth is a superb use of time. For Mr Z, the return on investment is going to be eventual financial freedom.
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