The Butterfly wealth effect can be best explained by the small money decision that are made today and could have a dramatic effect on a person’s life for years down the road.
Small decisions that you make every day can be the difference between you owning a luxurious house while running the business of your dreams and renting a modest apartment while working at a low paying job. These decisions start off small; they are typical daily ones that eventually compound over time to make one giant changing your life.
In order to dive into how this works. Let’s take a look at the cases of two average Millennials. These Millennials have a net worth of about $10,000 each. They both have an average income of $39,000 per year, they are both likely working in the service industry. They spend roughly $1,100 a month on rent, $350 on groceries, a few hundred month on health insurance, their monthly utilities are about a $150 per month and they have a series of other fixed expenses, like internet, taxes, car payment, student loans, phone bill and other necessary expenses. At the end of everything these two typical Millennials usually have a few hundred dollars a month left over to spend on whatever they want. In our case, we’re going to say that each of these Millennials has about $300 per month in excess money. So what are they going to use the Money for?
|Type||Millennial A||Millennial B|
|Excess Money Left||$150||$150|
Both of them spend about $150 per month in some form of entertainment takeout or other experience, maybe Netflix, whatever it may be…
Here is where they diverge; every morning Millennial A spends about $5 a day on the coffee and maybe a snack from a local coffee shop. Millennial B instead, puts that money into an investment account. This is the only divergence in their life so far; just a morning coffee and snack.
Fast forwarding about 30 to 40 years, if nothing else in their lives were to change -meaning that they make the same amount of money and had the same expenses-, this small daily divergence will result in Millennial B having a $300,000 investment portfolio by the time of his retirement. Meanwhile, Millennial A will have no investment account. Worthwhile restating that this is just assuming that neither of these Millennials got a raise, promotion or change to jobs during their lifetime.
But what if they did?!
By introducing another small divergence; Millennial B spends a few hours of his free time per week reading books or trying to learn new skills which help his career. On the other hand, Millennial A does not do this, and instead replaces that time by watching Netflix or spending time on social media. Millennial A would still likely get some promotions in job offers because he is still gaining valuable experience from work, but Millennial A would progress at a slightly slower rate than Millennial B career-wise because Millennial B is learning new skills during his free time and that’s more attractive to his current or other companies, hence he can ask for slightly more money or a slightly better position. In other words, because Millennial B brings more to the table than Millennial A, when both are able to change jobs or ask for a raise Millennia A gets an average salary increase of 3% per year -that is roughly the same for the average worker in the United States- but since Millennial B is a slightly more valuable than Millennial A, he would most likely be able to get a 5% pay raise rather than the average 3%. This is just a 2% difference in terms of what he is able to get for a salary, but this has dramatic effects in the long term. By the time Millennial A is 55 years old, his salary will be approximately $94,000 per year which is a good salary. However, Millennial B would be making $170,000 per year because of the higher salary which has compounded over time.
Now if Millennial B decided to put the additional income into the saving account, the difference in net worth between these two Millennials could be millions of dollars.
In brief this is the butterfly effect, where small decisions we take today would have a significant outcome in the future