Behavioral finance has uncovered fascinating revelations about how investors approach their money.
Behavioral finance puts the investor front and center, ensuring that the plan acknowledges any fears, values, and goals a client has going into the planning process. This makes it easier to stick with the plan long-term, and to feel positive about the plan’s outcome.
Let’s dig into what behavioral finance is, and how Toberman Wealth leverages it to help clients achieve their goals.
Behavioral Finance at Toberman Wealth
Financial analysts and advisors often construct financial plans thinking that investors are rational human beings. They don’t account for anything other than the raw data. Unfortunately, building a financial plan based only on the numbers is often setting yourself up for long-term failure.
The truth is that all investors are normal people, and people are, by definition, irrational. We all have fears, goals that change, and a deeply rooted need to feel secure. All of this means that it’s not possible to only look at the numbers when it comes to creating a financial plan. As investors, it’s our job to also look at the behavior driving financial decisions to better understand how we operate as individuals, and how our financial strategy can be reverse engineered to support our long-term goals (without stressing us out!).
This is why Toberman Wealth focuses on a behavioral finance model when creating financial plans.
Psychology & Finance
Many of my clients come to me with fears around investing and their portfolio. There’s always similar concerns or ideas listed, regardless of their goals or financial situation:
- An unexpected recession.
- Missing out on a “big win” (like cryptocurrency, or GameStop stock).
- Not doing the same things that their colleagues or coworkers are doing.
- Wanting to repeat past decisions because they feel safe or familiar.
All of these things are clearly connected to key psychological concepts that can impact financial decisions. While there are 10+ different behavioral biases that influence financial behavior, a few that we consistently see are below.
Top Behavioral Biases
- Loss aversion. As humans, we’re geared to avoid any type of loss or negative interaction. We want to feel secure. This is where our fear of market recessions, or the pit in our stomach we get when our portfolio balance drops, comes from.
- Fear of missing out or herd mentality. If we see many other investors making a decision (like investing in cryptocurrency) we are hardwired to want to follow suit.
- Social influence. When you see colleagues or friends making financial decisions that are working out for them, it’s easy to feel like they know what they’re doing, so you should do the same. This is true even if their goals are vastly different from your own.
- Anchoring bias (or relying on preexisting information/the first information you hear). Believing that a previous decision you made, or the first financial information you heard, is best is a common psychological phenomenon. It’s often why people order the first thing they see on the menu, or the first special a waiter/ess lists at a restaurant.
While all of these psychological behaviors exist, it doesn’t mean that financial planning is futile, or that investors are “bad” for caving to their psychological hardwiring. In fact, the opposite is true! By knowing that these behaviors exist and are etched into who we are, we can create a financial plan that leaves room for how we feel and respond.
Create a Behavioral Finance Strategy That Works For You
As a financial planning firm, we focus on several things when we start working with new clients:
- Their current financial situation and past financial decisions.
- Short and long term lifestyle and financial goals.
- How they feel about their money – the good, bad, and ugly.
We look at both the technical financial data and their goals and values. Being able to create a strategy that truly leaves a client feeling successful means defining success, understanding what pieces of investing feel negative for them, and reverse engineering a plan that moves them towards their goals at a pace that’s comfortable.
Working With an Advisor
Of course, most financial plans are built with long-term goals in mind. They’re structured to take risk into account over the course of years, sometimes decades, until you reach the ultimate goal – retirement, or a “work optional” lifestyle. Over the years, different financial events take place and will challenge even the most patient investor. Market fluctuations, unexpected new investments or opportunities that come available, and changing goals are just a few bumps in the road that investors will face.
Working with an investment advisor can help to ensure you have an expert in your corner to act as a sounding board. They can help you to determine whether sticking with your original strategy is wise, or if a pivot is required to meet a new goal, or to allow for an unforeseen circumstance to be addressed.
Want to know more about how Toberman Wealth focuses on behavioral finance with our clients? We’d love to speak with you.
Craig Toberman is the Founder of Toberman Wealth – a fee-only, fiduciary financial advisor based in St. Louis. He assists families and businesses with strategic financial planning and long-term wealth management. He has over a decade of experience in financial services and has crafted custom financial plans for hundreds of families and businesses.
Craig received a Bachelor of Science (B.S.) degree in Agricultural and Consumer Economics from the University of Illinois and a Master of Business Administration (M.B.A.) degree in Finance from Saint Louis University. He is a Certified Financial Planner (CFP), Chartered Financial Analyst (CFA) charterholder, and Certified Public Accountant (CPA).
Craig is a member of the National Association of Personal Financial Advisors (NAPFA), Fee-Only Network, and XY Planning Network.
Craig lives in the greater St. Louis area with his wife, Ally and son, Hank.