We all like to regard ourselves as rational spenders and
investors, optimizing the use of our hard-earned money. But in fact, say
psychologists and financial advisers, most people are generally in the grip of
emotional traps and cognitive biases that impede the optimum use of their
money, and sometimes guarantee they’ll do the worst possible thing with it. Psychologically
driven money missteps can be costly, and the first step toward avoiding them is
recognizing that they exist in the first place. Below, four money mistakes you
may be making:
Enabling
The problem: Financial
planner Jon Ulin has several boomer clients who have helped pay for their
college-graduate children’s living expenses and loans while allowing them to
move back home.
The fix: Parents
can mitigate the risks of financially enabling adult children by setting
boundaries in advance of providing support, he says. If you’re already
supporting adult children, break the pattern by having a family meeting and
putting down specific requirements in writing. And consider requiring the child
to repay you over a period of time. This will decrease the stress and anxiety
between parents and their kids, and instill a sense of fiscal responsibility
and motivation for moving forward.
Self-Sabotaging
Beliefs
The problem: These
are half-truths that were learned in childhood but that operate unconsciously
in your adult life. A problem with half-truths is that they can induce a type
of passivity known as “learned helplessness” that prevents people from acting
in their own best interests, even as they promote self-sabotaging behavior.
The fix: Counseling
can help you understand your subconscious beliefs, and can be a critical first
step toward a healthier relationship with money.
Overspending
The problem: One
of Karol Ward ’s clients was always stressed about not earning enough, says the
New York psychotherapist. The client said it was because she worked as a
freelancer and that her income was unpredictable. However, when Ms. Ward helped
her analyze her expenses, she realized she was spending way too much on clothes
for her two children.
The fix: The
first step to stop overspending is realizing you’re doing it. When you’re
rested and calm, track your expenses and compare them with your income. If you
are overspending, set some financial goals and create a spending plan that will
require you to live within your means. Setting goals can help you stay focused
on a long-term goal, such as saving another $10,000 for retirement. A financial
adviser or therapist can help you find ways other than shopping to relieve your
stress, Ms. Ward says.
Overconfidence
The problem: A
client lost a lot of money in the 2008 market crash. He then decided he would
manage his own investments, even though he had a full-time job and had limited
knowledge of the stock market. But he made investment decisions based on “good
news” about the stocks he liked, ignoring information that might challenge his
assumptions—a phenomenon known as “confirmation bias.” For a while the strategy
worked, but he eventually ended up losing more than before.
The fix: Don’t
get “hijacked” by the excitement of investing, Ms. Baker says. If you feel that
is happening, stop and make sure you’re doing enough research about the investment
and fully understand its risks. Seek the input of an investment professional or
trusted friend who can give you another perspective. Put some time between your
investment idea and decision.
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