Money
If You Want To Learn About Money, Watch How Celebs Waste Theirs
Here is why so many go broke again
GQ has an exciting video series called My First Million.
The guests are sports stars who earned millions of dollars thanks to their first professional contract. They talk openly about what they did with their paycheck.
We all know the gossip headlines. How stars spend their money is often incomprehensible — but it relies on simple principles. These principles affect everyone — rich and poor alike. Perhaps you will notice your behavior somewhere in this text.
Let’s look at Tyler Herro's example and what we can learn from it for our finances.
The young NBA star signed a contract with Miami Heat which will earn him almost 3 million dollars in his first year¹. An incredible amount of money. Sure he can spend something of it — that’s what Herro talks about with GQ².
Here are a few highlights:
- $85,000 for clothing
- A Mercedes Benz for $200,000
- A Jeep for $60,000
- $30,000 for a chain.
- $10,000 for glasses.
- By the way, he also hired a financial advisor.
Of course, these were not very intelligent expenses, but that’s not a problem with so much money. However, it is. To understand, we must take a closer look at the contract.
Herro could earn about 17 million over the entire term¹. But: only if Miami Heat continues the contract. If he gets injured, it could be the end. Let’s hope that doesn’t happen to him — but still, other problems could occur. The current pandemic is the best proof.
The GQ video was released in mid-March 2020, shortly after the WHO declared a pandemic. Due to the lack of spectators and tournaments, many top clubs got into financial difficulties³.
Herro secured a fat contract, but what if Miami Heat can no longer pay?
It looks like the young star made some stupid spending. But how did it get this far & what can we learn from it?
Don’t let numbers fool you.
Are 5 dollars always 5 dollars? No, they are not. I’m not talking about inflation or other factors — just psychology.
The value of things is not something fixed for our minds. Responsible for this is the anchoring effect. The number that appears first in a context affects the valuation of the following numbers. It sounds complicated, but it is not. Here is an example.
You have $20,000 at your disposal this month. With this money, you buy a pack of toilet paper for $15. No problem, right? But wait, $15 for toilet paper? — That’s a lot of money for such a product.
In the context of $20,000, it doesn’t seem much anymore. That explains why people who suddenly have a lot of money also spend a lot. But it doesn’t only affect the super-rich; it affects us too. Fortunately, there is a trick.
Never compare your spending with your income. You should evaluate your expenses with fixed criteria — that’s the only way to make an objective evaluation. Your income can change — if you have more money, you will spend more.
Set yourself an upper limit of what you would spend each month. Track all your expenses and consume only enough so that you do not exceed the limit.
Be aware of your mental accounts.
The idea of these accounts goes back to the economist Richard Thaler⁴.
A superstar like Tyler Herro certainly doesn’t go shopping in a supermarket — he’s much more likely to have someone cook for him, for example, in a restaurant.
You can spend a lot of money on a lovely evening in a fancy restaurant. An appetizer for $10 or wine for $20 is not uncommon.
When shopping at the supermarket, it then becomes unusual — putting a $20 wine in the cart with the cheap vegetables feels wrong. Only in context do we realize how much money the wine actually costs. So on vacation, in a restaurant, and the supermarket, we have different mental accounts — they’re the reason we often don’t realize how much we’re spending.
Your money has more value in the future.
The first thing Tyler Herro mentions as an expense in the GQ video is a Gucci purse. He paid $5,000 for it — not much compared to the other stuff.
He certainly could have paid the five grand from investments — that’s what I would advise him to do: Invest first, then consume — advice you hear all the time. I want to answer an important question behind it. Why do we prefer to spend the money right away?
We think that the $5,000 is not much compared to our total wealth — and it might be true. But we forget the opportunity cost, the money we could have earned.
Humans are terrible at thinking exponentially — here’s the proof.
How much capital do we get if we invest $5,000 at 6% interest over 10 years? Correct, almost $9,000.
Since Herro is young, he should calculate even more long-term — 25 years, for example. Then the 5,000 will become an unbelievable 21,000 dollars. That’s how much the Gucci bag actually costs him.
Patience pays off. In 25 years, he could consume much more — and not even have to go to the substance of his assets.
Don’t just plan your income.
You probably know how much you earn each month. Therefore, you probably also know how much you have to pay in taxes.
But do you know how much you’ll spend? Most people don’t.
Planning your income is essential, of course. We usually know what’s left at the end of the month. But what do we spend the money on?
For most people, spendings are something that is just there — that’s the wrong approach. You can influence your expenses much more than your income. Expenses matter. If you want to get closer to passive income, start by cutting your expenses.
In the 21st century, there is no excuse for not keeping track of your spendings. Banking apps, as well as third-party software, can help organize it.
- Categorize your expenses—food, leisure, clothing, and so on.
- Track how much you really spent on the categories.
- Calculate it to a year or more — then, it starts to hurt. I once convinced a friend to quit smoking. All I had to do was figure out that the addiction was costing her $1,500 a year.
- Try to spend only as much money as a necessary per category for one month.
You can use your newfound knowledge for planning. I have set myself such maximum prices for things. For example, I spend a maximum of $30 on shirts.
These limits can protect you from a skyrocketing standard of living that you might not even realize.
Sources
[1]: https://www.spotrac.com/nba/miami-heat/tyler-herro-31570/
[2]: https://www.youtube.com/watch?v=La1lj4mYpc4
[4]: https://www.behavioraleconomics.com/resources/mini-encyclopedia-of-be/mental-accounting/
