When most people discuss finance they look at it objectively as a science with hard and fast guidelines dictating every decision. However, financial planning has much more to do with behavior and emotions than one may think.
Behavior in Finance
Human behavior drives most actions in our lives, including financial decisions. For example, we can analyze your income vs expenses and come up with a supposed $1,000 per month surplus in your budget. This would be a fantastic surplus to be used towards saving towards retirement, saving for a new house, etc. However, for a lot of people, when they see the surplus piling up in the bank they see this money as easily accessible to be used towards a vacation, improving their lifestyle, etc. This is why as financial planners we may recommend you set up a systematic deposit into your retirement account with this surplus. The surplus immediately leaving the bank allows it to be invested for the goals you want to achieve, and prevents you from your own human behavior of spending the surplus you see. “Out of sight out of mind” as the saying goes.
The Value of Emotions
There is no scientific way to put a nominal dollar figure on your emotions. Using the same example as above, you very well could use the extra surplus to improve your lifestyle. Would you rather improve your lifestyle and be able to live more freely? Or would you rather have the potential to retire earlier and/or live more comfortably in retirement due to your systematic savings during your working years? There is not an analysis to be done to show exactly how much this improved lifestyle or early retirement means to you. This is where the art of financial planning comes into play. As your planner, we can talk you through these options and show you the various options you have for your future. In a sense, we can show you an estimate for how many dollars it will cost you by the end of your life to have spent the surplus rather than invest it for retirement. However, then it is up to you to decide if the opportunity cost is worth it for your family, or if the cost is too much.
In my personal life I am dealing with these decisions right now. My fiancé and I recently got engaged, and of course this means it is time to plan the wedding. I can spend hours running through the various analyses to show exactly how much it will cost in our lifetimes to spend money on the wedding rather than invest it towards retirement. We have sat down and looked over our financial plan and the various analyses and discussed how we feel about the opportunity cost of missing out on future investment returns with the money. This is exactly why finance is a science. We have talked about our feelings regarding the opportunity cost. There is no way for us to run an analysis based on our feelings to figure out the exact dollar figure down to the dollar our wedding, the celebration of our future together, means to us. So we must use the art of feelings, emotions, and discussion to figure out what is most important to us and our future.
While you can certainly estimate the opportunity cost of any financial decision you make, there is no way to assess the various emotions these decisions can bring. The best we can do is have an educated discussion on how the decision will make you feel, how much the decision costs, and how you feel about knowing the cost. You should meet with your financial planner to discuss big financial decisions and have them help you through this process to make sure you are making a well educated decision about your future. If you would like to speak with me regarding your financial future please call our office at (734) 681-7575 or email me at firstname.lastname@example.org.