It’s not unusual these days to hear people complain about the many faults of millennials. They’re impatient, entitled, expect immediate gratification and have an intense fear of commitment.
But really, what can you expect from the Facebook generation? After all, in a world where you can order a black car from your phone, stream any TV show instantly over the internet and share every second of a seemingly uneventful day with thousands of strangers, is having the expectation of immediate satisfaction actually that unreasonable?
While this outlook may in fact hold true in many scenarios today, it can have negative implications when it comes time for millennials to start investing.
Millennials’ Investing Outlook
According to a recent Bloomberg survey, millennials appear to have perhaps the most unrealistic, if not all together delusional, expectations when it comes to investing. When asked how much they expected to earn on average, the majority said 10.2% - and perhaps even more outrageous was that they only wanted to lock up their money with a 1 year investment commitment!
To put this in perspective, in over 60+ years the stock market has produced a total real return of approximately 7%. Although it is not impossible, 10.2% returns are unlikely to be realized consistently in investments with short time horizons and high liquidity. It is even more unlikely to be the norm in today’s environment, particularly with interest rates at all-time lows and muted growth projections in the US and abroad.
Why Millennials Need a Long-Term Outlook
Given the uncertain macroeconomic environment and improbability of earning double digit returns in liquid assets, millennials are faced with a difficult choice: forfeit the potential of higher returns, or take a longer-term view to pursue higher potential returns in less liquid assets. As a young generation with many years of investing ahead of them, millennials should be the best positioned to adopt a long term outlook for investing, but their age isn’t the only reason to start investing for the long term.
Studies have shown that the early years of an individual’s career are especially formative and can dictate future earnings potential. Individuals who enter the workforce in vulnerable economic times where jobs are scarce often never recover to earn the same as their peers who enter the workforce during more prosperous economic climates.
This is especially salient to millennials, who began entering the workforce on the heels of a worldwide recession in 2008. According to 2014 Census Bureau data, wages are also lower than in previous generations. Median earnings for millennials working full-time in 2014 was just $34,000: lower than what their parents made in the 1980s when adjusted for inflation. As a result, getting a head start on saving and investing may end up being even more critical for millennials if they want to secure a sound financial future.
Benefits of Illiquidity
Back to millennial’s 10.2% expected return: double digit returns do not often naturally occur in highly liquid assets due to a liquidity premium. The liquidity premium represents the incrementally higher price willing to be paid for a more liquid asset, all other factors held equal. A rational investor will naturally prefer more liquidity because it reduces risk. Therefore, there ends up being a trade-off between risk and return where a more liquid investment will command a higher purchase price, translating to a lower potential return/yield.
Unlike their more liquid counterparts, non-publicly traded investment alternatives such as commercial real estate, consumer loans, and private equity often require longer lock-ups. This means they may offer the potential for higher returns in the long run because they do not carry the same liquidity premium. Although private alternative investments do not come without risk, most wealth managers and financial advisors recommend them as part of a well-diversified portfolio.
The benefits of investing in less liquid alternatives also include lower potential volatility and less “easy action”. Easy action is basically making impulse purchases or switching investments based on cursory knowledge—to an uneducated investor, this can spell disaster.
Switching to the Long-Term
With the advent of online platforms like Sofi, Prosper, and Fundrise, technologically-savvy millennials have plenty of tools available to them to quickly and easily diversify into more illiquid private investments. The larger issue will be whether they are willing to approach their financial futures with a long-term view. Their greater than average levels of education plus their technological savviness make them well positioned to take advantage of new trends in online alternative investing.
More than ever, the largest generational cohort in American history has the opportunity to learn the value of choosing a long-term investment outlook.