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Your personal experiences with money influence how you make decisions. You probably think of these experiences as being unique even when they’re not.
Best-selling author Morgan Housel in The Psychology of Money writes, “Your personal experiences with money make up maybe 0.00000001% of what’s happened in the world, but maybe 80% of how you think the world works.”
Your personal experiences provide context, but that’s not always helpful. Investors who grew up following the Great Depression held a distrust of the stock market from witnessing the market lose two-thirds of its value.
More recently, investors who watched real estate prices soar in the 1980’s and 90’s formed a distinct perspective on the reliability of real estate versus financial assets like stocks.
WHY WE HAVE DIFFERENT EXPECTATIONS
Smart people develop contrasting opinions about the best place to invest based on personal experiences. If you have positive investment experiences, your views will differ from those with negative experiences.
Ultimately, your willingness to accept risk is dependent upon your experiences and expectations. Economists researching this question have long been baffled because one would expect money choices to be made based on personal goals rather than personal experiences.
Some life lessons, however, aren’t readily learned until you have direct experience. Pain, for instance, isn’t understood by reading about it in a book. Only after you experience pain can you comprehend what pain feels like.
The confluence of reasoning and life experiences within the money domain isn’t well understood because it’s relatively new. While money in some form has been around for 2500 years, the framework of investment decision-making only goes back a few decades.
Innovations like IRA’s, 401(k)’s, and index mutual funds came into existence in the 1970’s or later. The newness of these vehicles contributes to the lack of understanding among investors. This helps explain why financial behavior doesn’t always align with reality.
HOW TO GAIN PERSPECTIVE
Most people struggle with making good money choices and staying on track. That’s to be expected since collectively we haven’t been dealing with these issues for very long.
Investors make financial decisions that seem sensible at a given point in time. Your personal experiences shape these choices. The gains or the losses that follow can be traced back to these experiences.
In order to make progress and avoid costly blunders, it’s important to recognize that your experiences differ from other investors. Your goals are different. Your investing timeline is different. What matters most to you is different.
Some investing decisions are good and some are bad. Personal experiences are good and bad. Choices won’t ever be perfect. Temper your expectations and build in a margin of error. Start there.
Related: The Top 10 Financial Mistakes