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7 Psychological Tips for Better Financial Decision-Making

by Edison Ade 9 months ago in personal finance
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We all want to make good financial decisions. But how do we go about that?

7 Psychological Tips for Better Financial Decision-Making
Photo by Isaac Smith on Unsplash

When it comes to our finances, we all like to think we're smart, serious and know how to make the right decisions. But according to behavioural scientists, psychology plays a big role in money matters.

Developing good financial habits begins with acknowledging that emotions influence your financial decision-making.

Not investing in the stock market because you're afraid of losing money is like not going on a roller coaster because you're afraid it will make you sick. When we know what we're in for, it ceases to be scary and becomes exhilarating instead

When making financial decisions, it's important to remember that your brain can often get in the way of good judgment. Your brain sends out "hot" signals when something feels good (like when you think about buying something) and "cold" signals when something feels bad (like when you think about losing money)

Most of us have experienced this happening. So how do we learn to deal with our own brains?

If you want to learn how to lower irrational decisions and take a step back when emotions run high, here are 7 psychological tips for better financial decision-making.

1. "Know Thyself" - Acknowledge Your Biases

The first step to dealing with your brain's biases is understanding them, which means taking a hard look at how you make financial decisions in the real world. Are you more likely to take risks with money when playing poker for fun? Do you usually spend more than necessary at restaurants? Do you sometimes neglect to save as much as possible because it's difficult and simply not worth the effort? These are unconscious financial tendencies we all have - acknowledge yours so that you can recognize what they are and find ways to combat them.

Nobody is immune to biases - when it comes to money, we all show some degree of irrationality. The first step is recognizing those tendencies and dealing with them in your daily life.

All of us have mental strategies for making financial decisions. Some of these strategies are well-informed and rational; others are biased, misinformed and irrational. In particular, most of us think about our finances in a way that is much different from how we think about the rest of the world around us. We care enough to develop opinions on what's important in our love lives - whether or not we'll end up married, how many kids we want, who exactly it is we plan to marry - but we don't try to develop equally strong opinions in other parts of our life. Like our finances.

2. Ask yourself this question about your future self: "How would my future self feel about paying more today?"

If you're thinking about spending money on something today, ask yourself this question: "How would my future self feel about paying more for this?" If your answer is negative ("If I have to pay $20 for this…") then don't buy it.

Imagine you are your future self and notice the credit card bill in front of you. "What the hell!" you think to yourself. "How am I going to pay this?" This happens because you never took the time to subjectively value prospective expenses when they are still small.

Of course, you don't need to force yourself to do something simply because your future self would want you to. But it makes a good guideline: pay more today so that your future self can benefit/enjoy it and doesn't hate you.

3. Make rules regarding your spending

The first step to getting your finances under control is to have a plan. Designate a time at the beginning of each month to review what you spent the previous month, and set goals and reminders for upcoming expenses. If you're good about sticking to it, after a few months you'll notice a pattern in how you spend your money and you can adjust your budget accordingly.

It is essential to have rules, restrictions and plans regarding your spending. It is extremely important that you have a spending plan that suits your financial needs. Execute it as you see fit or as needed. This can help in the long run to avoid getting into any unnecessary debt or financially burdening yourself.

Let's start with an important rule: money you use for necessities is never to be spent frivolously, but there are no hard and fast rules when it comes to choosing what you spend your money on. Shopping carries a social obligation to others, so choose what you buy carefully; don't waste your money or your time on things that won't bring you joy.

In order to successfully manage our finances, we need a healthy relationship with money. Having a healthy relationship with money means understanding our spending patterns and how they affect us.

4. Fight an Uphill Battle - Prepare Now, Perfect Later

It's virtually impossible for anyone - and especially those who need time and effort to save - to perfectly plan their future finances in a way that doesn't involve some risk. However, by dividing your assets into "buckets," you can help ensure that emergency funds are readily available when the need arises

5. Limit Yourself - Go One Step at a Time

Limitless choices is exactly what our brains crave. But it has its drawbacks: Research shows that too many choices can overwhelm us, leading to a decreased satisfaction with the options we ultimately choose. By limiting yourself to just a few specific areas of expertise, you give yourself more time to learn and therefore have a better shot at making wise financial decisions.

6. Hit Refresh - Treat Yourself from Time to Time… or Once in a While

It's easy to get caught up thinking about all the money you "should" be saving and miss out on opportunities to reward yourself. Unfortunately, this could lead you towards greater future spending because it's hard to make rational financial decisions when you're feeling disappointed or deprived

So don't be afraid to allow yourself a small treat - you'll still end up saving more in the long run. Just avoid going overboard and remember that nothing is ever good if it's done too much of the time - healthy finances are a lifestyle, not a sprint

7. Retrain Your Brain - Practice Makes Permanent

You're probably already familiar with the idea of "fake it until you make it." Well, your brain doesn't know the difference between something fake and something real; as far as your brain is concerned, practice makes perfect. If you want to adopt healthier financial habits, take some time each day to imagine what those habits will look like for you. By engaging in visualization, you can prepare your brain to act on your financial goals.

By looking for more rational and emotional ways to handle our finances, it's possible to create habits that will help us manage money better.

personal finance

About the author

Edison Ade

Business Strategist, Building Products for companies using Web and Mobile technologies. Fractional CMO.

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