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Where Bankrupt Lottery Winners Go Wrong

For most people, winning the lottery would be a very welcome piece of news. It would mean a bigger house in a better neighbourhood, a shiny new car, holidays to exotic locations and, of course, better health care and the chance to look after other members of the family who were not quite so lucky. Furthermore, it could mean the chance to retire early and enjoy various hobbies and pursuits.

While this blissful result can often occur, most of the time lottery winners squander their jackpots and are left facing bankruptcy. In fact, a study undertaken by the US National Endowment for Financial Education found that around 70% of people who unexpectedly come into a large sum of money will lose it all within seven years. This shows that, while having a large amount of cash can be a blessing, it can also easily be mismanaged and leave an individual facing a worse outlook than prior to receiving the windfall.

Of course, budgeting does not always come easy to many people and it appears as though the temptation to spend takes control, with planning for the future seemingly being an unnecessary step to take when cash is so abundant. However, through planning for the long term, lottery winners could enjoy a very high standard of living while also being able to spend a portion of the money on various one-off luxury items.

In this sense, managing a lottery win is no different from managing any other amount of money. As a starting point, it is always a good idea to have a pile of cash which can be easily accessed (i.e. not tied up in fixed rate bonds or similar) and used to pay for unexpected expenses. These could range from food and energy bills resulting from a loss of employment, to funding housing repairs in case of an unexpected external factor such as a storm. This liquidity, while earning a relatively poor return, will provide a peace of mind and allow any individual to survive in the short run if other income channels turn sour.

Clearly, the bulk of any portfolio should be invested in assets which are forecast to offer a mix of capital growth and income, with the proportion between the two differing according to a person’s stage of life. This is also relevant regarding risk since a younger investor (or lottery winner) should be able to take on more risk, since they have a longer investment timeframe through which temporary falls can recover.

In terms of the mix of assets, shares tend to be the preferred option due to their simplicity, accessibility, their ease of diversification and their traditionally excellent long term returns. However, holding bonds is also a sensible move, since they can appreciate in price during challenging periods for the stock market and economy (particularly government bonds).

Furthermore, holding property could make sense for some investors, but valuations are less appealing than they once were and the combined costs of taxes, maintenance, lack of diversity and the potential for problem tenants make is less appealing as an asset class than either shares or bonds. In any case, the key is to only spend a proportion of income from a portfolio (if possible) so as to allow it to grow over the long run.

Clearly, though, the majority of lottery winners do not follow a plan such as that stated above. And, while winning a large amount of money may prove to be a life-changing event, without discipline, risk management and a long term view, it can easily be for the worse rather than for the better.

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