When it comes to money, we are usually our own worst enemy.
We spend too much when we should be saving. We get cautious when we should take risk. Blame your brain.
Dr. Daniel Crosby, a behavioral finance expert, explains that our human brains were programmed for fight or flight. This makes decisions about money and finance difficult because we get too emotional about our money.
Only when markets decline can we get a real understanding of our personal risk tolerance.
Psychologically, your brain sees a market decline and it screams “I don’t want to lose it all” even if you are looking at funds that you won’t need for 20 years.
What can you do to retrain your brain? Here are four ideas.
1. Focus on the Longview: We know this is easier said than done. The key is historical data and math. Remind yourself that you are going to work for another 10 or more years and the money you are saving is for you and your family in the future. Sometimes, it is easier to pretend that that money doesn’t exist at all. This will make it easier to make intelligent, long-term decisions.
2. Don’t Chase the Ghost: Experienced gamblers will tell you that the biggest mistake people make in casinos is when they “chase the ghost.” This means that they’ve reached a certain level in their winnings and then as they begin to lose (because everyone loses eventually) they begin to gamble more heavily in an attempt to reach that height again rather than remembering how much they really started with.
3. Time Horizons: You need your money by a certain date, not at a certain risk tolerance. Make sure to remind yourself that as long as investments stay at or above a specific line, you will meet your goals. The time horizon gives you time to succeed.
4. Harvest Your Losses: Let’s look at the silver lining for a moment. As markets decline, you can capture those losses and generate tax alpha. You also don’t have to use all those losses in one year. They can be spread out over time. Obviously, we never root for loss, but we can take advantage of them and put them to work.
We understand, it is very difficult to trust the process when markets are volatile. But remember that volatility creates clarity. It is easy to invest and “keep your foot on the gas” when markets are rising, but as markets decline, you will get a better sense of how much risk you are really comfortable with.
Because at the end of the day, you are investing to a plan and not just investing to YOLO. Investing should be part of a thoughtful strategy for your future.
The good news? You don’t have to do this alone. Anxiety and fear are not a plan. Together, we can take the emotion out of money and take the long view.