Share This:


Human Capital: Your Best Investment & How to Increase It

Jake - Author/Founder

Hi. I'm Jake, a frugal Canadian Engineer. I believe you can build a great life through frugal living and index investing.

When I think of investments, I think of rental properties, stocks, and bonds.

These investments are priced based on their future income-generating potential.

But the biggest income producer is missing from the mix. To find this income producer, look in the mirror. It’s you. 

Consider two options to generate an extra $5,000 per year of income. 

Option one is to invest $167,000 into an index fund. It will produce about $5,000/yr in sustainable income (forever). Or you could improve your knowledge and skills to increase your salary by $5,000k/yr.

The latter can be done with greater speed.

“You are your best investment”. And that’s coming from me, someone who hates cliches.

By investing in yourself, you increase your human capital – a measure of your present and future earnings power.

Your ability to earn is rooted in the knowledge, skills, habits, and energy that can be channeled to solve problems for others.

In this post, I cover what I’ve learned about human capital to help you invest in that person in the mirror. 

Finally, I’ll show why investing in your human capital has non-financial spin-off effects that enhance non-financial well-being. I find this oddly exciting.

Table of Contents

Definition time. What is capital?

Webster’ s dictionary defines human capital as “accumulated possessions calculated to bring in income”.

I’ll use this very mechanical definition of capital throughout this post. Capital will be viewed strictly based on its ability to generate income.

This may make you feel dehumanized, as if you are reduced to a number. But that’s the price you have to pay to understand human capital.

Also note that I’ll use the terms cash flow and income interchangeably.

Financial Capital: Present and Future Cashflows

Today’s price of an investment is based on present and future expected cash flows that the investment is expected to produce.

This “asset pricing model” is called the Discounted Cash Flow model (DCF). In this model, you add up all future cash flows and discount them to reflect the value of the investment today.

There are a few reasons that $1000 in your pocket today is worth more than $1000 in the future:

  • Inflation is part of the reason. Future dollars are worth less than present dollars.
  • Humans (that’s you) value present consumption over future consumption because the future is uncertain. Interest rates are a measure of how much we value present consumption over future consumption.
  • Risk. Future earnings are uncertain. Investors will pay more for investments with future payouts that are more certain. 

Cashflow Sources From Invesetments

Stocks: A stock’s price is based on present and future earnings. These earnings are returned back to you via cashflows that come as dividends or share buybacks. You can learn more about the two ways businesses return money to investors in my post on Where Stock Returns Come From.

Bonds: A bond’s price is based on the future cash flows that come to you in the form of interest payments. The price of the bond is very sensitive to interest rates. 

Real Estate: The price of an investment property is based on a future stream of cash flows produced by the tenants in the property.  This cash flow is equivalent to the rent paid minus costs of home maintenance, property tax, and home insurance.

Infographic: Cashflow Sources

What is Human Capital?

Now, look at the human in the mirror. You also have the capacity to produce income in the present and future.

And just like financial investments, you have a price on your head based on your current and future earnings power. Your human capital is a measure of your earnings power. 

Capital, from our robotic Webster dictionary definition, are “accumulated possessions calculated to bring in income”.

I view these “possessions” as your knowledge, skills, and habits that can be applied to solve problems for others.

How To Measure Human Capital

You can measure human capital in the same way that you measure a stock’s price, using the DCF model.

Take all of your future earnings and discount them to create a present value. That present value is what I call “the price on your head”.

A Simple Way To Calculate Your Human Capital

I will assume that you are young and generate a constant income for the rest of your life. I’ll assume you have 30+ earning years ahead of you. Because of math, we can assume 30 years is an infinite amount of years. 

I know this sounds weird, but it’s a good approximation. You have to trust me on this one. 

Human Capital = (Annual Income)/Discount Rate

I use a discount rate of 3%.  

With a portfolio of stocks, you can sustainably withdraw 3% of the portfolio each year, forever, adjusted for inflation.

This is based on the Trinity Study that states a 4% safe withdrawal rate for US stocks, but I like to be more conservative and use a rate of 3%. This rate is appropriately termed the Safe Withdrawal Rate (SWR). 

Human Capital = (Annual Income)/(.03) = 33x(Annual Income).

Human Capital = 33x(Annual Income)

For example, a $1,000,000 portfolio can reel in about $30,000/year, forever. Therefore, if you can earn $30,000/year, your human capital is worth a million bucks. Not bad. 

You can convert your human capital into a portfolio value equivalent by working backwards. Simply divide your annual income by 0.03. That’s the price on your head.

Example time.

Example: Calculating Your Human Capital

Say you earn $70,000 per year on average for the next 30 years (adjusted for inflation). 

That’s equivalent to $2,000,000 of human capital. A portfolio of $2,000,000 (financial capital) could generate the same earnings as your human capital, using a 3% SWR.

Human Capital and Age

The younger you are, the more time that is available to learn new knowledge and skills. Plus, the more time you have to apply knowledge and skills to earn.

  • We suffer cognitive decline starting in our 20s & 30s. After this point, your IQ begins to drop (source).
  • Not only is your capacity to develop new skills diminish, but so does the time available to acquire new skills.
Just like investing, the earlier you start the better. This is especially relevant when it comes to building good habits. Good habits compound over time to maximize your human capital. 

The Transition From Human to Financial Capital

Throughout life, you will use your Human Capital to generate income. 

Over time, your human capital diminishes as your energy levels decline, cognitive capacity drops off and you have fewer years ahead of you to earn income. 

To solve this problem, you (and I) save a portion of these earnings to accumulate financial capital.

You may do this by contributing to a pension, investments, or home equity acquired through mortgage payments that act like Forced Savings.

While human capital is increasing, plateauing, and dropping off, your invested financial capital steadily undergoes compound growth.

Eventually, financial capital can produce enough income (dividends or rental income) to cover your expenses.  This is known as Financial Independence, and it’s the basis for retirement. 

 Some aggressively save and invest to retire early, and will retire even when they have significant human capital in the bank. That’s Financial Independence Retire Early (FIRE), and I talk more about it here

Negative Earnings and Human Capital

You can still increase your human capital while taking on debt. This is a student. 

Consider a student named Fred. 

Freddy is spending more on tuition than he earns, and is therefore taking on more debt every year. 

Thankfully, Fred is studying engineering and approaches learning to understand key concepts. This arms Fred with the ability to solve society’s problems and increase his future earnings potential.

Fred takes on debt to increase his human capital. This is not much different than borrowing to invest in real estate or borrowing to invest in stocks. This can be viewed as a form of leverage.

I don’t like leverage and enjoy being debt-free. Because of this, I always think it’s important to minimize student loan debt, by working as much as possible during school or joining the military.

How to Increase Human Capital: Solve Problems for Others

Your human capital comes from your future earnings potential. To increase human capital, you must increase earnings potential.

The question now becomes “how to increase earnings potential”?

The capitalist system, when working properly, allocates financial capital (money) to those who add the most value to society.

This is true in most cases, but not all. There are still problems that need to be solved and go unrewarded. 

I believe the ability to add value to society can be distilled into two factors:

  • The difficulty of the problems that you can solve; and
  • Your ability to scale these problem-solving capabilities.

 You could directly help individuals solve their problems through 1:1 service provision. Or, you could scale up your 1:1 service provision to expand your influence.  

In each case, you are solving problems for people, either directly or indirectly through an intermediate organization.

Consulting is a good example of solving problems for people through an intermediate organization. You could help a business solve its leadership problems. This, in turn, would make the business better at solving problems for others. 

Human Capital = (Ability to Solve Complex Problems) X (Ability to Scale)

Improve Your Problem Solving Capacity

“You are paid in direct proportion to the complexity of the problems that you solve” – Elon Musk.

This is based on supply in demand. It’s sensible to assume that the easy problems have already been solved, leaving the hard problems behind. 

Back to Economics 101 of supply and demand:

  • There is a low supply of problems solvers
  • There is a high demand for those who can solve hard problems. 

That means those who can solve hard problems are paid more. And solving hard problems requires that you focus on a specific domain. 

Examples of problems include:

  • Engineers at Tesla are trying to increase the battery capacity to solve the problem of limited electric vehicle range.
  • Fred is trying to find the best investment approach to meet his financial goals. He hires an advisor to help solve this problem.
  • Fred also wants to relieve decision stress and maximize wealth (the problem). He works with Jake to conduct an assessment on whether to rent or buy a home.
  • An auto shop fixes vehicles to bring them back on the road.
The ability to solve problems for specific individuals is great. But eventually we need to be able to solve problems at scale. 

Improve Your Ability To Scale

Consider George, a financial planner, who does 1:1 financial counselling. George is paid by hour and is ready to expand his client base.

But his time is tapped, even though he followed the 6 Time Saving Tips That Cost Nothing.  

George hires other financial planners to deliver the service. He now learns how to hire people, design organizational structure, and design processes.

George learns new skills to scale so he can solve financial problems for more people.

To scale, a different set of knowledge and skills are required. These softer skills are less technical in nature and are centered around influencing other people. Here are some examples:  

  • Develop leadership skills to motivate others to pursue your common mission. 
  • Organizational skills: Process development, Project Management to solve problems at scale. 
  • Marketing knowledge and skills to reach more people. 


I view knowledge not as the simple retention of information. You can go to Google for that.

Instead, knowledge is about understanding concepts and generating linkages between various topics. 

If you understand a concept, you can apply it to an infinite amount of situations. I can’t say the same for memorizing a piece of information.

For example, the concept of compound interest applies to the growth of habits, money, and businesses. 

 The power of core concepts is why I love physics, where a tiny number of core concepts (and equations) can be applied in an infinite number of ways. That’s why this blog is structured with a category specifically titled “Core Concepts“. 

Ways to enhance knowledge include:  

  • Formal Education
  • Writing About Ideas In Your Own Words
  • Books
  • Podcasts


Skills are different than knowledge.

I can read as much as I want about blogging and writing. But I’ll be useless until I actually practice writing on a daily basis. 

Likewise, you may understand how human biases influence investment decisions, but this doesn’t mean you won’t panic selling in a market crash. 

And just because you have access to a video on how to change the brakes on your car doesn’t mean you will execute a successful brake change. 

To develop skills, you must do. Execute.

Skills involve doing things well. This often includes knowledge but is reliant on experience and expertise that are baked into your intuitive “System 1” thinking, for those who have read the book Thinking Fast and Slow by Daniel Kahneman. 

Some examples of skills include:

  • Leadership Skills – Permits scale up your problem-solving capacity by motivating and aligning in solving the problem. 
  • Communication skills – Permits scale of your problem-solving capacity. 
  • A Surgeon’s fine motor skills when performing surgery
  • Coding skills

Skill development naturally involves consistent practice. And consistent practice requires you to push through inevitable failure. Therefore, strong habits are required. They enable consistency.

In addition to habits, you must have an ability to endure hardship and press through the times where you “don’t feel like it”. This is self-discipline.

The Foundations of Human Capital

I’ve explored how knowledge and skills permit you to solve problems for others. That, in turn, increases your human capital by increasing earnings potential.

But there is one problem.

You could have all the knowledge and skills in the world, and be incapable of applying them. Perhaps your let your health decline to the point where you have minimal energy. 

Or maybe the self-discipline you once applied to develop the knowledge and skills fell off to the wayside.

To apply your knowledge and skills consistently, you need:

  • Strong Habits
  • Self-Discipline
  • Focus
  • Energy (health).

I see these as the foundations of human capital. Interestingly, these foundations are also critical to improve human well-being. 

Human Capital And Habits

Your habits are like your operating system, a concept from James Clear’s book “Atomic Habits”.

It takes self-discipline to form a new habit. But once the habit is formed, the demands on your willpower diminish and the habit becomes automated. It becomes part of your operating system.

For example, cognitive effort was required when you learned to drive. Today those fine motor skills are automated. Now you can allocate your mental capacity while driving elsewhere, like listening to a podcast to increase your human capital. 

You can see how habits layer upon each other. Habits, and your human capital, compound over time. Growth seems slow at first, then boom, it takes off.

Just like investing, the compound effect for habits is slow at first. But this changes with time as the aggregation of many small changes over a few years can make you unstoppable.  

It’s never too late to form habits, but we can’t avoid the fact that habits are easier to form when you are young, relative to when you are older. Plus, you get to reap the rewards of a longer duration of compounding for these habits. 

Human Capital and Self Discipline

Self-discipline is the practice of controlling your short-term desires to intentionally delay gratification.

Investing, by definition, involves the sacrifice of consumption today to increase future wealth.

You must sacrifice spending today to invest financial capital.  Similarly, you must sacrifice time and present earnings to invest in yourself to enhance future earnings capacity.

A few examples of self-discipline applied to human capital include:

  • Electing to go to workout and eat healthy (hard), instead of watching TV and munching on Cheetos (easy). Future energy levels are higher so you can better learn and earn.
  • Reading a book before bed (hard) instead of getting lost in Instagram reels (easy).
  • Building a new habit (hard) instead of remaining the same (easy). Future you will be more robust and competent.
  • Spending four evenings a week building a business (hard) instead of spending every evening drinking with friends (easy).

Self-discipline is not only critical for human capital, but it forms the basis for success in all areas of life.

It is critical to a wealthy life, especially in our very comfortable world, filled with sources of effortless immediate gratification. One-click ordering of high-calorie foods, 

In this environment, self-discipline is more important than ever.   

Human Capital and Focus

Speaking of immediate gratification, it seems that few people can focus anymore.

You live in a stimulating world where everything is fighting for your attention.

You must be able to focus to solve hard problems, acquire knowledge and acquire skills. In addition, focus can be great for your well-being, as it usually brings about a state of flow.

In the state of flow, you are fully immersed in a task, time flies and all thoughts of the past and future disappear. Flow takes you away from life’s difficulties.

Some things I do to enhance focus:

  • Meditate Daily
  • Sleep well
  • Do hard things daily (like writing or a fitness activity).

Human Capital and Wellbeing

The efforts you exert to expand and preserve your human capital are the same efforts required to improve your own well-being.

Fitness is a good example of this. Exercise reduces the rate of cognitive decline, increases your energy levels and improves your stress tolerance.

Money, Happiness and Wellbeing: The Ultimate Guide.  Most of this is rooted in the PERMA Model of Wellbeing.


  • Your human capital is a measure of your ability to earn in the future.
  • You increase human capital by enhancing knowledge and skills that help you solve complex problems for others at scale. 
  • Habits, self-discipline, and capacity for focus are the foundations of your human capital.