Posted by Robert on October 15, 2012
This is a guest post by Robert, who lives in Calgary and worked as a financial adviser before retiring at age 35. He is married, has three kids and has returned to school with the goal of eventually living and working overseas.
We humans are emotional beings. The choices and decisions we make are based almost wholly on emotion. It appears that our rationality only applies after-the-fact in order to justify our decisions to ourselves and others. Usually, we don’t notice this process and it occurs transparently to our conscious mind. But a couple weeks ago, I caught myself doing just this.
As part of a course I am taking, I need to complete a project that shows evidence of personal creativity. The difficulty comes in having to document the entire process. I began with a number of possible ideas and faced the requirement of having to narrow my choices down to one single project. I tried weighing out the benefits and challenges and I tried to predict how much effort and reward would be attached to each alternative. I remember clearly the moment that I suddenly felt more comfortable with one choice than the others. I opened my notebook and started recording some reasons for the decision I made. After I got through three or four, I realized what I was doing. I made the choice because it felt comfortable. Afterwards, I was able to quickly conjure some very good reasons for that choice.
I made a good choice, but I can’t be certain it was a rational choice. This is one of the main reasons why money choices and personal finance decisions can be so frustrating. We want to make sound, rational choices, but when we get into the heat of the moment, for example an impulse to spend, we make our choices based on emotion. That is where having a plan and a system can help set in motion certain regular decisions such as saving and investing, outside of the emotional turbulence.
But knowing that other people make poor decisions based on emotion can also lead to opportunities. Have to ever looked to see how much exercise equipment is available for sale on Kijiji? A smart buyer will buy exercise equipment second-hand (and hardly used) instead of brand new. Beef is currently a good example. Our local supermarket is selling beef for about half the price they used to. Any beef that may have been tainted was already recalled, the processing plant is (apparently) clean now, but buyers are still scared of beef, resulting in sale prices.
Stocks, bonds, real estate and other investment prices are influenced by very similar behaviour. In 2007, real estate prices started to fall after a prolonged period of heady growth. In 2008, stock prices began to fall. Each drop resulted in widespread fright and panic, which caused prices to fall further, which resulted in other problems involving loans and liquidity. A particular company that I was familiar with experienced a drop in their share price from near $4.00 to $1.55. Because I was confident in the management and the company, it looked to me like a sale price. I bought as much as I could afford (but less than I would have liked) and cashed in at $2.70. (It now trades around $4.90). Because people make emotionally-charged decisions, it can result in prices fluctuating higher or lower than is rational, creating buying and selling opportunities for those who are in a position to take advantage.
Which decisions are the most emotionally-charged for you? How do you take advantage of sale prices?