A conversation with Stan Davis and Christopher Meyer, authors of Future Wealth HBS Press, 2000.
Q: Before we talk about Future Wealth, tell us how you define wealth.
A: Wealth has a life cycle: it is created and accumulated; then it is distributed, whether through taxation, dividends, or inheritance. In the connected economy, each of these aspects of wealth is mutating: wealth creation becomes more financial (bearing and trading risk) than real (producing and consuming goods and services); wealth accumulation shifts from earned (income) to unearned (investments); middle-class wealth is no longer an oxymoron; and the control of wealth shifts from institutions to individuals. By wealth we mean not just the investment portfolios of rich people, but the stock of value that individuals, companies, and societies generate in a successful economyit is the means by which we fulfill our desires.
Q: What is driving these shifts?
A: Three forces: the growing efficiency of financial and real markets, the primacy of human capital, and the wearing down of social capital. Efficient markets are a direct result of the greater connectivity provided by the 'Net. The primacy of human capital is to a great extent the outcome of software's being smart enough to automate the traditional roles of people in business. The obsolescence of our social capital is a consequence of technology's impact on our privacy, security, and property rights. All three of these drivers intermingle with one another and lead the way to the world we describe as Future Wealth.
Q: What will Future Wealth bring?
A: Future Wealth is about a major economic transformation in the economic life of individuals, the rules of business, and the welfare of society. It will affect not just the wealthy, but every one of us and every aspect of our liveshow we're paid and taxed, what risks our businesses take, how our society invests in itself. As connectivity proliferates, anyone can trade anything of value electronically. Soon everyone will participate in financedefined as trading riskas both traders and tradees. In this world, risk becomes more opportunity than threat, we will build efficient financial markets for the trading of human capital, and societies will need to build stronger social safety nets to encourage and support this new culture of risk-taking.
Q: That's a very provocative vision. Let's take some of it apart. First, explain what you mean when you say that "middle class wealth is no longer an oxymoron."
A: By "middle class" we mean individuals and households not rich enough to live without working, but with enough income to save regularly. The connected economy has introduced millions of these individuals to a Wall Street that was once open to only a select clientelewith the ability to trade not only stocks and bonds, but also derivatives and other kinds of sophisticated financial instruments. As society as a whole gets richer, people will benefit more from the wealth they previously accumulated and will depend less on their current wealth creation. The source of financial wealth is shifting from money that you work for to money that works for you. Unearned income is growing, and more people have it. Instead of sitting on the sidelines watching the elite get richer, a broad segment of society will be on the playing field.
Q: This playing field will offer big potential rewardsbut you also stand to lose your shirt. Can you talk about the first theme of Future Wealth, which concerns risk?
A: We know intuitively that reward almost never comes without putting something at risk. But future wealth demands that we don't use our attitudes about risking real assets to evaluate risking financial ones. As people gain more control over their wealth and have more of it, risk aversion is dangerous, causing us to leave more money on the table than we can afford. When wealth meant illiquid assets, insurance was our primary risk management tool. As liquid assets (those that can be easily converted to cash) assume parity for many of us, we find ourselves in an interesting place. We're still not rich. We can't invest millions of our own in some high-flying private placement. But we can't afford to ignore the upside opportunity by locking all our money in savings accounts. We need to consider everything from Asian mutual funds to Internet start-ups. In the world of future wealth, ignoring risk means kicking opportunity in the teeth.
Q: This incredible bull market has likely made ordinary people a lot more comfortable with riskbut what happens when the market goes south?
A: True, in a bull market, risk involves modest or magnificent outcomes. The more we take, the greater our potential gains. The bull market's end will affect these attitudesat least temporarily. To ride this trend, you must appreciate net worth as the source of wealth, not merely the outcome. The bottom line is that the connected economy is doing exactly what anybody who's been paying attention would predict. It is democratizing markets for risk, creating all kinds of financial packages that can be traded in small quantities. Eventually, the markets will start trading in human capital, and these new instruments, too, will be available to individual investors. They'll offer huge opportunities for players, but also commensurate responsibilities and risks.
Q: It's safe to assume most people will consider this kind of risk trading a radical departure from their current portfolio management.
A: If you thought it was tough selecting a mutual fund for your 401(k), you ain't seen nothin' yet. You'll be choosing how and when to securitize yourself, paying a lot more attention to your own market cap than to someone else's IPO. At the same time, you'll want to manage the risk of personal flame-out by buying hedges against the particular risks that confront you. You can attempt to do this yourself, trading illiquid assets on eBay, liquid assets on eTrade, and human assets on Monster.com, HSX, or some future eBrain. Just as financial reports and analysts support your financial trading, new reporting standards and information sources for human and real risks will arise.
Q: Saying that intellectual capital is important has become accepted Information Age wisdom. But to say that we will invest and trade in humans just as we now do in corporate securitiesthe second and most provocative theme of Future Wealthtakes a huge leap of faith.
A: That's understandable, considering that today the market for human capital is currently one of the least efficient in our economy. But as the connected economy trend of competitive information and online markets continues, the inevitable outcome will be global, efficient markets for human capital. Why? Firstly, financial markets will underwrite future performance and learn to do so more efficiently. Secondly, creating future value depends more and more on people's brains and talents. As human capital becomes the basis for future wealth, the reach and appetite of the market will grow, and the degree of tolerable risk will increase. Once this happens, trading the financial instruments that back individualsnot unlike trading mortgage-backed securitieswill follow. Some entertainers and sports figures have already issued personal securities. Think of David Bowie's "Bowie Bonds."
Q: Can you give some idea of how this might play out?
A: Electronic markets, with offers bid and asked, will likely challenge headhunters and help-wanted ads in clearing the job markets. After this early phase rationalizes the familiar buy-sell exchanges called "hiring," then "contracting," "freelancing," and "outsourcing" innovations will slowly move the market for human capital into other financial instruments. The next step could be futuresbetting on a person's future earnings or performance. Over time, job markets will morph into human capital markets, trading a variety of wealthcreating activities from job creation and placement to rationing scarce talent. The trend will start with superstars, at the level of a Tiger Woods or a Michael Jordan, then broaden to include a bundle of Internet CEOs, and then finally widen to embrace you.
Q: Aren't the Bowie Bonds an entirely different matter though? After all, most of us don't have a string of hit record albums and international fame to entice investors.
A: Other entertainers have already followed Bowie's lead, and sports stars aren't far behind. Once investors get interested, and as additional talent pools learn about efficient markets for human capital, the market is sure to broaden. In the wake of professional stars, star professionals will auction their talents. In fact, that's already happening, as with the management team that advertised itself on eBay last April. Eventually, you won't have to be a rock-and-roll star, an athlete, or a motivational speaker to market your assets, because most of us possess the assets that investors want: the skills, talents, great ideas, relationships, and smarts that make up our intellectual capital.
Q: This scenario takes the "Free Agent Nation" idea a giant step forward in terms of the shift of power in the workplace.
A: Absolutely. In Future Wealth, individuals own the desired resource, and they are free to take it anywhere, electronically or physically. For now, businesses are still constrained by the talent they have. But to exercise this degree of freedom, individuals must first compare their employment opportunities and economic rewards in terms of wealth rather than income. Second, they must realize that how they invest their human capital matters as much as how they invest their financial capital, for the same reason. Its rate of return determines their rate of future options. Take a job for what it teaches youfor how much it will improve your skills, talents, and smartsrather than for what it pays. It's not hard to see how this changes the job interview or indeed, who's really interviewing whom. Just as employees now invest in their companies via stock options, companies will bid to purchase pieces of their employees' futures. Individuals will shift their focus from jobs to human capital managementtheir own.
Q: How will business professionals make themselves tradeable in human capital markets?
A: Remember how mortgages became less risky when bundled together in a financial wrapper? The same is true of professionals. Physicians unite to form a practice and easily find financial backers. You, too, can bundle your talent with that of your peers for greater future wealth. How does a new Harvard MBA differ as a public offering from a single mortgage? Not that much. Not every Harvard grad makes the grade. The stakes are too small, and the risk too great to make her marketable. What if the Harvard MBA class of 2001 bundled itself and turned its aggregate future earnings stream into a public offering? What if the Baker Scholarsthe top 5% of the classbundled themselves and went to market? One Baker Scholar in a hundred could become a cropper, so investors might shy from a single individual's bond. But we suspect that, as a group, Baker scholars would be rated AAApractically an Internet IPO. Bundled talent appeals more to investors. From an individual's point of view, you should gladly bundle yourself to spread your risk and benefit from the aggregate.
Q: If we're to imagine trading stock in people as we now do in companiesthen we must assume that an individual's stock will rise or plummet based on things like performance and reputation (or an investor's whim), correct?
A: That's right. And you can already see the implications of such a stock market for the movie industry, if only virtually. At www.hsx.com, the Hollywood Stock Exchange, users can buy and sell virtual securities in media properties, from movies to actors to musicians. In early 1999, for example, comedian Mike Meyers rose from HSX$60 to HSX$2391 in anticipation of his much-anticipated new Austin Powers movie. Granted, HSX is a game, not a financial market, and unlike Bowie Bonds, Mike Myers' price isn't direct related to movie receipts. But it raises the question: could this game be played for real money? Of course, it will be some time before you can actually trade shares in individuals. The first deals will resemble private placements and venture funding more than IPOs.
Q: The idea of trading human capital certainly opens up a lot of new possibilitiesbut it also raises a lot of difficult questions about exactly how such a market would really work.
A: Securitizing individuals is far from boilerplate work. The practice is still new, and individuals bring individual complications to the table. The Pullman Group, at the forefront of most of these deals to date, has so far engineered only private placements in order to protect its knowledge of how to orchestrate such deals. As the demand to trade human capital develops, so will the infrastructurelegal, technical, social, and informationalto support it. Securitizing your family may sound far-fetched, but the prospect of issuing bonds or shares secured by your own talents instead of your home is not. Like it or not, the world is heading in this direction.
Q: This brings us back around to risk, and the last theme of Future Wealth. Once we have all these people taking higher risks on the hope of higher rewardswhat happens to those who fall?
A: As all risks become tradable and outcomes become transparent and controllable, not through rules but through consequences, what goes around actually will come around. Bankruptcy laws are a longstanding example. Societies that best support risk takinghigh wires, strong netsrather than limiting risk taking to ensure security, will create the greatest innovation and growth. The development of a safety net that encourages risk taking without guaranteeing a bailout will be a social and legal challenge for the twenty-first century.
· · · ·