STRATEGY SHEET
August 1999
Human Nature Risks Biggest
Threat to Financial Success, Part 2
© Talbot Stevens
This is a continuation of last month's discussion of how the biggest threat to your financial success is you, and that investor performance is much more important than investment performance.
Most investors listen to their heart, and not their head. We make financial decisions based on emotions, and then rationalize intellectually. Greed compels us to buy an investment because a neighbour made a lot of money last year. Fear prevents us from buying more when our head knows we should, and to sell when we should buy.
Would you rather buy after an investment has risen by 20%, or dropped by 20%? Before you answer, look at what you have actually done in the past, and are doing right now. When stock markets dropped about 30% last August, what did you do? Did you take advantage of the sale opportunity, or did fear prevent you from acting on your head's logic of buying low?
Not defining priorities and being true to them is another common behaviour that is so easy in our overcrowded, hectic lives. Ask yourself and your spouse, “What are our top three financial goals?” What amount of time and money are you willing to give to achieve these goals? Only when your true priorities are identified can you proactively plan and act in a way that is consistent with what is uniquely most important to you.
Let's assume that living the last third of your life not financially dependent on family or the government is a worthwhile goal. Do you spend more time planning your annual vacation than how to ensure you don't outlive your money?
If your real investment priority is retirement, then it is important to direct tax refunds towards that goal. Simply reinvesting your RRSP refund is an easy way to increase your RRSP retirement fund by 25 to 50%.
Then there's procrastination. If I had more time, I would detail how this behaviour itself can mean the difference between success and failure. Maybe next time.
Recognizing some of these human nature risks, it is important to have systems in place to overcome them.
Monthly “pay yourself first” plans are a simple and effective way to automatically save before we spend everything. Unfortunately, these automatic savings plans are often “temporarily” suspended for one of a hundred reasons.
For many people, forced savings plans like paying off a mortgage or an investment loan are more effective because they guarantee a higher level of commitment. Once the loan program is started, we don't have the flexibility to bail out, and the loan payments are a simple route to forced discipline.
Working with a trusted financial advisor is perhaps the easiest and most effective “system” to overcome human nature risks. The most valuable service that good financial planners provide is helping clients clearly define their goals, putting a plan together to achieve those goals, and then helping them stay focused and stick to the plan.