The latte myth and the real path to financial success

The world of finance is brimming with advice, but few phrases have captured the public imagination like: "Just stop buying lattes."

This overused piece of advice is often targeted at millennials struggling to buy a home, and has been echoed across personal finance blogs, social media, national television and newspapers, and discussed around the dinner table.

Lattes are just the tip of the iceberg; smashed avocado on toast, Netflix subscriptions, and Uber rides have all been under the microscope.

But is this advice realistic or helpful?

Let's explore the origins of the "stop buying lattes" phrase, consider its relevance today, and explore different options for achieving your financial goals.

What Is the Latte Myth?

“Stop buying lattes” is a popular piece of financial advice that suggests if you want to become wealthy, you should cut back on small, unnecessary expenses, such as daily lattes from coffee shops.

The idea is that by cutting out these discretionary expenses you can save money and allocate those funds towards more important things in life, such as buy a first home, build a retirement nest egg, buy a holiday home or second property, repay debt, or even build an emergency stash.

It also suggests if you were to invest those funds you could save even more thanks to compound interest.

The phrase "stop buying lattes" is often attributed to David Bach, a financial advisor and author of the book ‘The Automatic Millionaire’.

Bach argues that everyone makes enough money to become rich, but that their spending habits prevent them from achieving this.

“Are you latte-ing away your future?” Bach wrote in his book.

“We all throw away too much of our hard-earned money on unnecessary ‘little’ expenditures without realising how much they can add up to,” he added.

Bach uses the example of a 23-year-old woman who buys a $5 latte every day. He told her if she invested that money in stocks instead, she would have over $2 million by the time she retired at age 65, assuming an 11% growth rate.

Learn more:

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Challenging the Cliché: Does It Add Up?

Bach's math has been criticised by financial experts, who point out that it does not consider inflation or other factors.

Bach's financial calculations were considered questionable at best. For instance, the Dow Jones' historical annualised returns averaged around 9.7% between 1949 and 1999, not the 11% Bach claimed. That’s also the rate of return before any taxes are paid by an investor. Even if we generously assumed an 11% growth rate, Bach's own "Latte Factor Calculator" indicated that saving $5 per day for 40 years wouldn't equate to $2 million.

Despite these mathematical concerns, Bach's advice on giving up lattes gained significant traction. He appeared on popular shows like Oprah and continued to promote that cutting back on lattes and similar small luxuries was the key to achieving financial success.

“There’s this terrible advice that goes around: ‘Don’t buy the latte. Invest the money, and you’ll become a millionaire,’” Sallie Krawcheck, a former Wall Street executive and CEO of an investment platform, tells CNBC Make It.

Krawcheck argues it would take a lot of coffee purchases and a high annual rate of return (10-12%) to turn your latte savings into $1 million, and most people just aren’t spending that much on coffees.

How Many Lattes Would It Take To Buy a Home in New Zealand?

Bach argues the focus should be on the savings themselves, not just the investment returns.

So, let’s look at how many lattes and how long it would take to save for a deposit to buy a house without investing the money.

The median house price in New Zealand is $905,445, according to the CoreLogic House Price Index released in October. This means that a 20% deposit would be $181,090.

If you buy a $6 latte every day, it will take you 30,182 lattes to save for a 20% deposit on a house in New Zealand, assuming both the house price and latte price does not change during that time, and you are not investing the money or getting interest in the bank. This means it would take you over 82 years to save for a deposit.

The median house price in Auckland is currently $1,259,296, according to CoreLogic. It would take you 41,978 $6 lattes and 115 years to save for a 20% deposit on a house in Auckland.

Beyond Lattes: The Financial Realities of Homeownership

Cutting back on expenses you don’t need is a good way to save, but it’s not enough to keep up with the financial events that have left many potential homebuyers out of the market.

It’s been 23 years since Bach published his book, and a lot has happened in the financial world, including a rise in house prices and interest rates, inflation, and a cost-of-living crisis. However, the phrase is still a popular topic of debate in the media and at the dinner table.

Many younger people feel that the advice to "stop buying lattes" is unrealistic and condescending, especially for young people who are already struggling to make ends meet.

The latest CoreLogic Housing Affordability Report reveals that while housing affordability in New Zealand is gradually improving due to falling property values, rising incomes, and interest rates stabilising, mortgage payments still consume a substantial portion of household income.

Mortgage repayments as a percentage of gross annual average household income decreased from a peak of 53% in Q4 2022 to 49% last quarter. However, this figure remains significantly above the long-term average of 38%, making it challenging for new homebuyers.

The CoreLogic report shows the value-to-income ratio, which measures property values relative to household income, has improved slightly, with New Zealand properties currently valued at 7.2 times the average household income. This is down from 7.8 six months ago but still above the long-term average of 6.1.

Kelvin Davidson, CoreLogic NZ Chief Property Economist, said the situation still looks “pretty testing for new buyers”.

“Even after the recent improvements, almost half of a household’s income being eaten up by interest repayments is relatively unaffordable compared to long-term averages. Although lower mortgage rates seem likely over a one-to-two-year horizon, we’re not expecting any relief via rate cuts in the immediate to short-term,” Davidson said.

“Given the uneasy prospect that property values may start rising, albeit gradually, once again as we’re already starting to see in a couple of regions, this will only add to the strain on new home buyers, at least until interest rates start to come back down,” he said.

A Kickstart for Your Investment Journey

Most people cannot afford to buy a $6 latte every day, and even if they could, it would be impractical to simply save for a house in this way.

“So let's set the record straight. You can't un-latte your way into a home deposit in today's market if you're starting with nothing. And skipping your daily lattes won't leave you with a $4 million… [investment],” writes Maurie Backman, a personal finance writer for the Motley Fool.

But it could be the key to starting your investment journey.  

A more realistic approach would be to cut back on your latte spending and invest the savings instead. For example, if you currently spend $20 per week on lattes – as we said earlier, most people aren’t buying a latte each day – you could cut back to $10 per week and invest the other $10.

• You don’t need a lot of money to open an online share trading platform and start buying stocks. Many major online share trading platforms allow you to get started with no account minimum.  The key is to maintain a steady flow of funds into your online share trading platforms to build your wealth, so if your finances are tight, you might need to trim discretionary spending to ensure you can make regular contributions to your account. Of course, if you’re investing in shares for a first home deposit that can be risky, as the stock market's value can fluctuate significantly in the short term. If you are saving for a home, it's usually wiser to prioritise more stable and secure savings options to ensure your potential house deposit is preserved and not subject to market volatility.

• Even if you’re not keen on the stock market, a simple savings account can still be a great way to get started. If you’re worried about accumulating an accessible pile of cash you might be tempted to spend on something trivial, just open a savings account with a different bank to the one you regularly use and set up an automatic transfer of your surplus pay the day after each payday.

But if you’re a coffee-lover, it doesn’t mean you have to give up your lattes. You can cut costs in other areas, for instance, stop a gym membership you don’t use, or cancel a subscription you’re still paying for but may have forgotten about.  

“Some financial experts equate buying lattes to setting wads of bills on fire. Rest assured, that's not what you're doing,” Backman writes.

“Maybe you're not investing that money in stocks, but you're investing in your comfort, your happiness, and, in some cases, your productivity (heck, that's definitely the case for me).

“And so those store-bought coffees should not serve as a source of shame in any way. But if you're willing to cut back ever so slightly - either on lattes or on something else - you may be surprised at how nicely your brokerage account balance grows over time.”

Self-made millionaire and ‘I Will Teach You to be Rich’ author Ramit Sethi agrees.

“Everywhere you turn, you hear people telling you what you can’t do with your money: No lattes, no jeans, no vacations,” Sethi tells CNBC Make It.

Sethi says “extreme frugality” is unrealistic and “life simply isn’t about cutting back” just so you can enjoy it “when you’re 2000-years-old”.

Sethi suggests automatically putting money away for savings and investing before you start spending. He recommends putting away 5 to 10 percent of your take-home income into savings and investing a further 10 percent.

He tells CNBC Make It that this might sound like a lot but then “you’re on a good track and that means that the rest of your money, after your fixed expenses like your rent or your mortgage, is guilt-free money.”

Learn more:

• How to start investing in shares
• How to Save Money on Petrol
• ESG: Is the Bubble About to Burst?
• Don’t save money
• Thinking About Inflation Leads to Inflation

A Personalised Approach

There is no one-size-fits-all approach to financial success. Though the wealthiest among us have been extensively studied at length and the steps they have taken have been confirmed and mapped out. If you’d like to start the process of becoming a self-made millionaire, here are some steps, without mention of lattes:

1. Set financial goals. What do you want to achieve with your money? Once you know your goals, you can start to plan to reach them.
2. Create a budget. This will help you track your income and expenses so you can see where your money is going. Once you know where your money is going, you can make adjustments to save more money.
3. Pay off debt. High-interest debt can eat away at your savings. Plan to pay off your debt as quickly as possible.
4. Generate income. To be financially successful, you need to increase your net worth by earning something in the first place.  
5. Educate yourself. If you’re just starting out, generating income is probably the most important thing on this list. To do that, you’ll need to bring value to the marketplace in some form or another – people need to want to pay you for the application of your skills and knowledge.
6. Automate your finances. Set up automatic transfers to your savings account and investment accounts. This will help you save and invest money without even having to think about it.
7. Invest your money. Once you have paid off your debt and have a solid emergency fund, you can start investing your money. Investing is a great way to grow your wealth over time.

The Bottom Line: Ditching Lattes Won’t Make You a Millionaire Overnight

Telling others to stop buying lattes may be well-intentioned, but it’s time to give the coffee-shaming a rest.

Giving up lattes is not a magic bullet for achieving financial success and financial planning shouldn’t be all about deprivation. It should be about making choices that will help you achieve your goals in the long-term while also enjoying yourself in the short-term.

In the unlikely event you are buying a daily latte you enjoy, there is not necessarily a need to give it up. Just be clear on exactly how much you are spending on it and ensure you are saving and investing enough elsewhere to reach the financial goals that truly motivate and inspire you.