The 5-Dollar Coffee

The rich are always going to be rich and the poor are always going to be poor, right? Not necessarily so, but it does seem that often money follows money, whether the direction is up or down. Why is that?

In my business, I counsel people on how best to save, grow, protect and spend their money. The people who come to my office run the gamut from the wealthy to the not-so wealthy, from the spenders to the savers, from the debt free to the deeply indebted. In an effort to better understand and aid my clients, I’ve done some research on why people behave as they do with their money. Bottom line? Wealthy people think differently.

In a former life, I spent quite a few years working with college students. I received a call one day from a former student who had “hit it big” in day trading and wanted to establish a sizeable immediate scholarship. “Wow!” I thought. This young man had grown up without luxuries, had borrowed his way through college and professional school, and now his life would change. Or so one would think. Three months later, when I finally got him on the phone again, all the money was gone. His thinking had not changed and neither had his behaviors.

In “The Compound Effect”, author Darren Hardy speaks of the actions and mindset of people who are considered to be wealthy. He gives as an example the five-dollar cup of mocha fru-fru joe that so many of us cannot live without every day. Categorizing consumers into three categories, he explains it something like this.

Three people walk into the local hot spot for a meeting – John, a paycheck-to-paycheck person; James, a middle-income person who saves every month; and Joseph, a person with monetary wealth. They are each offered the same five-dollar cup of coffee and they each want the coffee, but the “clicks” in their minds process the options differently. John wants the coffee and is going to get the coffee. It’s not a matter of “if” but of “how”. He whips out a credit card. He’ll worry later about how to pay for it. James wants the coffee and asks himself, “Do I have five dollars?” If the answer is positive, he’ll buy the coffee; if not, he’ll pass until he has the money. Joseph wants the coffee and has the money for the coffee, but he’ll first measure the future value of that five dollars, and whether the coffee today is worth the opportunity cost. He knows that five dollars today compounded over 30 years at 8% interest is worth over $50 tomorrow. So, is that coffee today worth giving up the opportunity to earn $50 toward his retirement?

Mr. Hardy gives perhaps a more eye-opening example of Joseph’s understanding of the future value of money. If you were offered today, right now, a choice between $3 million in cash or a single penny that doubles in value every day for 31 days… QUICKLY, which would you choose? I was actually taught in a college economics class to always take the bird in hand, but here’s how Joseph’s mind would process that choice. He would choose the penny.

On day five, my economics professor would have $3 million, while Joseph would have 16 cents. On day ten, the comparison is $5.12 to $3 million. On day twenty, Joseph is lagging behind still with $5,243, but he’s patient. Day 29 brings Joseph close with $2.7 million, but then on day 31, the true miracle of compounding bursts forth to show Joseph as having a whopping $10,737,418.24 to my professor’s $3 million. And that’s assuming that my professor has bucked every statistic and has not spent a good bit of the money (Hardy, 2012). Even if my professor had safely invested that $3 million, he would likely have a 30-day return that was miniscule compared to that of Joseph.

Wealthy people think differently. Does that mean that John or James at the coffee shop can never be wealthy? No, but it does mean that they need to do things differently. I would suggest to them that they start by learning how money works – compound interest, credit card debt, debt in general, investing. They can change their futures, and so can you (or your child!), but it doesn’t happen by wishing it to happen, and it doesn’t happen by continuing to do what you have always done. Small steps lead to big steps, and pennies lead to dollars. My mother always told me, “If you’ll watch the pennies, the dollars will take care of themselves.” Turns out she was right.

So really… I don’t mean to put any of the local coffee shops out of business, but is that five-dollar cup of joe really worth the hit to your future?

Submitted by: Barbara Runnels Coats, barbara.r.coats@mwarep.org, 662-418-7957

Barbara Runnels Coats, FICF, RICP, Modern Woodmen of America Financial Representative. Securities offered through MWA Financial Services Inc., a wholly owned subsidiary of Modern Woodmen of America. Member: FINRA, SIPC.