Tens of Thousands of Americans Could Be Billionaires Right Now If Their Wealthy Families Didn't Make This All-Too-Common Financial Mistake Victor Haghani and James White's book 'Missing Billionaires: A Guide to Better Financial Decisions' unpacks what went wrong for the U.S.'s once-richest families.

If the wealthiest American families of centuries past had managed their fortunes differently, tens of thousands of U.S. billionaire heirs would grace today's rich lists. So, what happened?

That's a complicated question, but Victor Haghani and James White's recently published book Missing Billionaires: A Guide to Better Financial Decisions focuses on one critical answer: the poor risk decisions made in both investing and spending.

"Wealthy families tended to have investments which were not well diversified, had high fees and costs, and were overly risky relative to the families' spending policies, which were not typically very flexible or sensitive to the ups and downs of their investment portfolio," White tells Entrepreneur.

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Investors shouldn't think about their investing and spending policies separately, White and Haghani contend; instead, they should be "intimately connected." For example, consider investors who are risk-takers — but also have high, inflexible spending rates. It's a "quite dangerous" predicament that could force them to buy high and sell low.

White and Haghani say these theory-based insights can be applied across the investing landscape for success:

• At a big-picture level, an optimal spending policy should be proportional to wealth. That means that if investments are highly risky, spending should also be highly flexible.
• An investor's allocation to a risky asset or risky portfolio should be proportional to its excess return relative to a risk-free asset and inversely proportional to the square of risk. So if excess returns double, you should double your allocation. But if risk doubles, you should cut your allocation by 4x.
• The optimal amount of an investment to hold is roughly 50% of the amount at which you're indifferent between making the investment and doing nothing.
• Getting investment sizing about right delivers most of the benefits of getting it exactly right — but being way too big is much, much worse than being too small.

And how might someone determine their risk-aversion levels and use that in their investment strategy? According to White and Haghani, that answer will vary significantly depending on individual circumstances, but the most common thought experiments involve figuring out indifference points.

"For example, say there's an opportunity for which there's a 50% chance that you can increase your spending by 30%, but a 50% chance that you'd have to decrease it by 20%. Would you definitely take it, definitely not take it, or you're pretty indifferent? The answer depends on the asymmetry of how much you value the benefit of increased spending relative to the pain of decreased spending, and this asymmetry, in turn, is what drives risk-aversion," White explains.

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What's more, a sound investment strategy considers not just how to invest right now but also how investment risk-taking should evolve with respect to changes in time (age) and changes in wealth, White says.