Five money mistakes we all make
Learn from the every-day mistakes our fragile brains make when we go hunting for bargains, invest in our pensions, or make any other financial decisions.
We all make a lot of mist cakes. I mean mistakes. On a weekly basis we perform dozens of logical errors, attentional errors and memory, um, things...Yeah.
The errors that our fragile minds make affect all aspects of our lives, including money decisions. Here are just five of them to watch out for.
A primitive form of psychological pricing is to mark prices down from nice round figures like £10 to £9.99, but I don't expect many lovemoney.com readers are fooled.
More advanced techniques are discounts and three-for-two offers. Each of these make people buy things they otherwise wouldn't, purely because they think they're getting a good deal. Here's an example: if a shirt was priced at £40, you might um and ah over the cost of it. However, if it was £70 reduced to £40, you'd be more inclined to stretch your budget to buy it. Even though it's the same shirt!
There's an error we make (called, if you're interested, the availability heuristic) that causes us to make terrible decisions.
Let's say you read over and over in the papers about one frightening terrorist attack on a plane. This makes you think how dangerous flying is, so you decide not to fly for the rest of the year. However, the odds of this event happening to you are ludicrously small. You're more likely to be struck by a car when crossing the street or to get cancer from sunbathing, but you don't stop doing those things, do you?
Of course, making fewer flights will probably improve your finances, but most of the time this type of error is more likely to cost you money. This happens, for example, when you hear or read about one bad experience someone has with a company, and from that you leap to the conclusion that it is more untrustworthy than its competitors, or that all its products are rubbish. Conversely, you may read about one good experience and presume that the company is all nice and fluffy.
I read posts from people making this particular error time and again in the comments on lovemoney.com articles. People refuse to use a company based on just one event.
It's why, despite the occasional appeal from readers, I single out one financial company as 'bad' only with caution, because to do so could easily be misleading; they're all, pretty much, as foul and incompetent as each other.
Closely related to error two is when people over-react. I dunno what this error is called, but I call it over-reacting or, maybe, the 'It's all about the principle' effect. After having one bad experience with a company, sometimes people refuse to deal with them again based on an emotional reaction, which they justify in their heads as 'the principle'.
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However, it's usually just the mistake of one employee, whom you'll never have contact with again. Or, you found out the company ripped you off with poor terms and conditions, so you refuse to take out a different, market-leading product from them, even though you know the conditions are better. This is to the detriment of your finances.
It's common for people to make an emotional purchase and then to try to rationalise and justify it afterwards. This is called post-purchase rationalisation. Don't try telling me you haven't done this before!
Research has found that people disproportionately stick with any default choices when making decisions, for example, in retirement planning. Say that a group of people are offered three choices of investment fund for their pensions: low risk, medium risk and high risk. Let's say that half of these retirement savers are told that, if they don't specify a fund, the default fund will be the medium risk one, and the other half are told the default is the high-risk fund.
You might find that, of the first lot, 80% stick with the medium-risk fund, but of the second lot, only 40% switch to the medium-risk fund. This might be caused by the status quo bias, where people perceive a greater risk if they make changes.
Of course, you could also call this laziness.
Hopefully, this catalogue of errors will make you take a step back before you make any financial decisions. Ask yourself: is your brain being fragile?