HOW CAN WE get ourselves to spend less and save more? The money guide’s chapter on saving money includes a host of tips. These tips fall into three broad categories.
1. Make spending painful. Some of us find it easy to control our spending—but many folks don’t. If you’re in the latter camp, what steps should you take? You could try creating and following a monthly budget. But like our efforts to eat less and exercise more,
WE MAKE A SLEW of investment missteps: We trade too much. We read too much into the market’s short-term movements. We’re terrified of short-term losses. We think we can outsmart other investors. How can we keep these mental mistakes at bay? Consider four strategies.
First, never keep short-term money in long-term investments. If we have money we’ll need to spend soon in stocks or riskier bonds, we put ourselves in a high-pressure situation—one that’s likely to lead to panicky decisions and perhaps devastating losses.
WE BELIEVE MONEY can buy happiness—and yet our closets and basements overflow with possessions we don’t care about and perhaps even regret purchasing. We had great hope for these items when we bought them. We were wrong.
Could we do better? Research has uncovered a host of specific tips that can help us squeeze greater happiness out of our money. We list 11 of them in the next section. These various pointers can be clumped into three broad strategies.
THROUGHOUT the day, whether we’re driving, catching up on our reading or sitting in a meeting, we’re bombarded with information. Most of the time, we do a decent job of making sense of it all—unless, that is, it’s financial information and especially market data.
We tend to read too much into the stock and bond markets’ short-term performance, sometimes extrapolating recent gains or losses, sometimes assuming there will be a rapid reversal. We’re sure we see patterns in price movements—and perhaps even a repeat of earlier market events—when,
“KEEP AN EMERGENCY fund equal to six months of living expenses,” advise many financial experts. Seem reasonable? It’s a popular rule of thumb. But it’s also a boatload of money to leave sitting in conservative investments, like a money market fund or a savings account, where it’ll likely lose purchasing power after inflation and taxes take their toll.
Could you hold less than six months of living expenses? For many families, the answer is “yes”:
If your job is secure—think tenured professor or unionized worker—you might hold just three months of living expenses.
SOME RISKS loom so large that the only prudent option is to pool risk. That’s what we do when we buy insurance. We toss our premium dollars into a pool of money overseen by an insurance company.
If we’re unlucky—our house burns down or we suffer a disability—we collect from the pool. If we’re lucky, we pay our premiums and get nothing in return. Most of the time, that’s what we want, because it means another year has passed without major misfortune.
VERY FEW INVESTORS put a big chunk of their portfolio in Amazon or Apple 20 years ago and then held on—and yet such huge winners heavily skew our view of stock market investing. Because we can easily recall these gangbuster stocks, we imagine that picking stocks like these is not only easy, but also the key to investment success. This is the psychological phenomenon known as availability bias.
But it’s also a statistician phenomenon.
TO EARN HIGH returns, we need to take high risk. This is the fundamental tradeoff that every investor has to wrestle with: Are we willing to run the risk of large short-term losses in the hope of clocking superior performance?
That tradeoff is more complicated than many investors realize. For starters, we aren’t talking here about crazy risk, such as betting everything on one or two stocks. That’s as likely to leave us penniless as make us a mint.
WE CAN THINK of our brains as having two parts. There’s the fast-moving, instinctual part that tells us to pull our hand away from the hot stove, even before we’re fully aware of what’s happening. Then there’s the slower-moving, more ponderous part that tries to override our instincts by, say, persuading us to spend less, eat healthily and go to the gym.
Most of the time, our instincts are in the driver’s seat—and that’s a good thing.
MANAGING MONEY is an endeavor fraught with uncertainty, so we should be mentally prepared for what we can’t control, while striving to control what we can. With those twin goals in mind, we might focus on five broad areas.
First, we should make sure we save diligently during our working years, while taking care not to spend too much once we’re retired. Investors expend endless effort to improve their portfolio’s performance—usually to no good result.
WHEN FACED with an array of possible solutions, we should lean toward the simplest—an insight dubbed Ockham’s (or Occam’s) Razor after its originator, the English 14th century Franciscan friar William of Ockham.
But this principle is regularly ignored by investors, who are drawn to complicated investments and investment strategies, with their veneer of sophistication. Think about the popularity of hedge funds, day trading, equity-indexed annuities and market timing.
Unfortunately, such strategies and products mostly serve to transfer wealth from investors’ pockets to Wall Street’s coffers.
NO MATTER HOW much money we currently have, there’s always the temptation to want more. This is understandable—we like the idea that the future will be brighter than today—but it also carries risks.
There’s the obvious danger: We’ll never feel satisfied with what we have. For most of us, the big financial finish line is retirement. How much do we want saved up by then, so we can retire in comfort? Even if we later revise that number,
ARE WE DEVOTING our time and money to things that are important to us—or are our actions driven by what we want others to think? This sort of signaling is often associated with conspicuous consumption. Folks may buy the big house and the luxury sedan because they imagine these possessions will make them happier. But they might also do so to signal their financial success to others. This is one of the downsides of a society where we don’t openly talk about how much we earn and how much wealth we’ve amassed.
IT SEEMS ALMOST everything can be rented today—clothes, movies, music—and often renting makes financial sense. Still, it isn’t the road to wealth. When it comes to key parts of our financial life, we should strive to be owners—provided we have a long enough time horizon.
For instance, if we plan to keep a car for more than three years, we’re usually better off buying rather than leasing. Indeed, that’s typically the only option with a used car,
WE GET TO MAKE life’s financial journey just once, so we should do everything in our power to ensure the trip is successful. But how? As you might expect, we at HumbleDollar strongly suggest approaching the journey with a healthy dose of humility.
Think of it this way: We may have just one past, but we’re confronted with all kinds of possible futures—and we should try to ensure we’ll be okay financially, no matter which future we get.