When you’re making financial decisions, it can be difficult to look at your options objectively. Indeed, factors like your past experiences and emotions may influence the conclusions you draw.
Behavioural finance seeks to understand how people make financial decisions and what factors influence them. Understanding some aspects of this area of study could help you identify when you’re making choices that aren’t based on logic or facts.
Over the next few months, you can read about some of the different factors that could be affecting you. Now, read on to discover how habits and experiences could cloud your judgment.
Financial habits start forming in childhood
Your relationship with money might go back further than you think, and these early habits could still influence your decisions today.
In fact, a 2013 study published in the Telegraph suggests most children have formed financial habits by the time they’re seven. By this age, children often recognise the need to plan ahead with money and why you might delay decisions until a later day.
Money views that are reinforced while you’re young could go on to affect how you approach managing your finances in adulthood.
For example, a child who grows up in a household where money is scarce might develop a habit of frugality. While not overspending is positive, it could lead to a fear of spending that means they miss out on opportunities.
It might affect their long-term financial decisions too. A person who is worried about losing money might avoid investing or be overly cautious. So, their relationship with money could result in overlooked opportunities to grow their wealth over a long-term time frame, even when it’s appropriate for them.
Similarly, if you saw your parents making frequent impulsive purchases, you might be inclined to do the same.
It’s not just childhood where potentially harmful money habits are formed. The experiences you have as an adult could also influence your decisions.
Let’s say the first time you invest you lose some of your money. You might decide that investing isn’t right for you based on this outcome, even though the investment risk associated with new opportunities and your circumstances could be very different.
4 practical ways you could change your financial habits
The good news is that it’s possible to change financial habits and learn to recognise when past experiences are affecting your ability to weigh up options.
1. Have a clear financial vision
Being clear about what you want to achieve with your finances could help inform your decisions.
For example, if you’re focused on building a pension that will provide you with an income you can comfortably retire on, you might plan to invest your savings, so they have a chance to grow at a faster pace. Understanding why this is the right decision for you could mean you’re less likely to alter your investments, even if you’re fearful due to previous experiences.
2. Learn to spot when poor habits could affect you
Learning to recognise when you’re more likely to fall into negative habits may help you improve your financial behaviour. If you’re unsure where to start, keeping track of your financial decisions might be useful.
For instance, you may realise you’re more likely to overspend when you’re feeling low. You might then create a separate pot for your disposable income so your spending can’t affect other goals. Or if you note frequently checking the performance of your investments leaves you wanting to make adjustments, you may limit how often you review them.
3. Evaluate your decisions carefully
You’re more likely to fall into poor decision-making patterns if you rush. If you don’t have enough time to go through your options properly, using past experiences to decide provides a shortcut. However, it could mean you’re not making decisions based on all the information that’s available to you.
Where possible, give yourself more time to consider what’s right for you. While you might feel like you need to make a decision quickly, giving yourself some time could ultimately be more valuable.
Once you’ve made a decision, interrogating it can be useful as well – why have you come to that conclusion? What influenced your choice?
4. Get an outside perspective
It can sometimes be more difficult to spot your negative habits than it is in others. So, getting an outside perspective may be invaluable.
Simply having a conversation about your plans might highlight how previous experiences are influencing your decisions. Or the other person may be able to point out that you’re not acting in your best interests because you’re sticking to old habits.
As a financial planner, we could offer you an outside perspective and help you understand how a financial decision might affect both your short- and long-term finances.
Contact us to talk about your financial plan
As your financial planner, we might help you identify when habits and experiences could be leading you to make a decision that doesn’t align with your financial plan. If you’d like to review your finances or have any questions, please get in touch.
Next month, read our blog to find out how emotions may affect your financial decision-making skills.
Please note: This blog is for general information only and does not constitute financial advice, which should be based on your individual circumstances. The information is aimed at retail clients only.
The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.
Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.
