Money Mistakes That Fly Under The Radar

There are a variety of mistakes that we can make when managing our money. Most of them are easily discernable. Their consequences are usually easily apparent. But there are some mistakes that are hard to notice and guard against. And it usually ends up being too late to change course by the time we wake up to them. But the silver lining is that it is largely or entirely in our control to not commit them. Therefore today I am going to talk about such mistakes and how we can get around them. 

Not Maximising Our Human Capital 

Not Maximising Our Human Capital 

Human capital refers to our ability to work and earn money. Our income is the fuel on which our portfolios run. Optimising our ability to earn and increase income therefore gives us a massive advantage when planning for our financial goals. A growing income would likely mean that we funnel more money into our portfolios. As our ability to invest increases, our dependence on portfolio return reduces. 

Assume an individual requires Rs 120 for a particular goal. They are able to invest Rs 100 towards the goal. The required rate of return to meet the target amount for the goal therefore comes up to 20% ((20/100)×100). But if the individual is able to invest Rs 110, the required rate of return reduces to 9.09% ((10/110) × 100). 

One can of course argue that increasing our income is not entirely within our control. While this is true, we still retain a significant degree of control in this regard. Most individuals typically work between the ages of 25 and 55 or 60. So they usually have 25 to 35 financially productive years within them. During this period, their income would generally grow in line with the trajectory of their professional success. 

Everyone would have enough opportunities to sharpen existing skills and add new ones during this period. How well these opportunities are identified and leveraged is completely dependent on each individual. Leveraging such opportunities almost always leads to significant growth in our income and earning potential. It would be prudent to identify emerging disciplines that are going to be disruptive in the future. We must then look to develop our skills in those disciplines. 

Artificial Intelligence (AI) and Machine Learning (ML) are prime examples of such disciplines. AI and ML are going to disrupt almost every professional field in the years to come. They are also going to remain relevant and in demand for a very long time. Developing skillsets in these disciplines would therefore significantly boost our employability and earning potential. The point here is that there is enough money to be made provided we work hard and leverage the right opportunities. All of us should therefore look to take advantage of every available opportunity to increase our income. 

Taking Unreasonable Risks 

Bearing risk comes with the territory of managing money. Our returns are the reward earned for bearing risk. Not bearing risk means our money would not grow. But this does not mean that we take risks indiscriminately. We must ensure that we only bear reasonable risks. A reasonable risk is any risk where : 

1.  The chances of a positive outcome are more than 50%

2.  The potential reward is commensurate to the degree of risk and effort involved. 

Most forms of investment risk are reasonable and manageable. But there are certain risks that can never be justified as reasonable risks. They must therefore be avoided at all costs. Common examples of such risks include active portfolio management, investing in structured products, trading derivatives and so on. To understand why each of these are unreasonable risks have a look at my previous article Investment Risks That Are Not Worth Taking. 

Marrying A Financially Incompatible Partner

When it comes to marriage, most couples today talk about a variety of issues. Money is almost never one of them. There may be cursory discussions as to how much each partner earns and the relevance of merging finances. But care is seldom taken to check whether both partners share similar (if not identical) philosophies on money. Unsurprisingly, financial incompatibility is one of the leading causes for relationships and marriages not working out today. 

Financial incompatibility between couples has nothing to do with how much money one partner makes versus the other. It is always down to one spouse not agreeing with the other's philosophy on money. It is very rare for two people to have similar or identical philosophies on money. But an effort can be made by each partner to objectively understand the other's money philosophy before marriage. Both partners can also work on arriving at a common ground with regard to a money management philosophy.

There may be instances where both partners cannot agree on a common money philosophy. In such cases the decision to marry must be taken only after sufficient forethought. Ending a marriage in today's times can be an extremely taxing and expensive affair for both spouses involved. So the decision to end the relationship (if deemed necessary) is better made before marriage. 

Ignoring The Risk Of Tail Events 

The world we live in is reasonably predictable most of the time, but not always. Therefore there are times when we may not even know the entire range of possible outcomes to an event. Most of us are usually cognisant of outcomes that are highly likely to happen. We may even be cognisant of outcomes that are reasonably likely to happen. But very few of us (if any) are cognisant of outcomes that are highly unlikely to happen, but could. Such outcomes are called tail events (events such as the death of an earning member or a large medical bill for instance). Such events have a pervasive and materially adverse impact on our chances of achieving our financial goals. Not planning for the risk of such events is therefore a major threat to us. 

We must therefore plan for tail events and their risks even though we don't expect them to happen. This is a very big part of the reason why we purchase insurance. Take health insurance for example. When one purchases health insurance, they don't expect to develop major health issues that require hospitalisation. But by purchasing health insurance they would be well prepared if such a situation were to arise in the future. Being prepared for negative tail events therefore serves as a massive advantage. 

Final Takeaways 

Avoiding mistakes is a critical prerequisite to achieve our desired outcomes when managing money. The mistakes discussed in today's post have the potential to be pervasive and extremely damaging. It is therefore important for us to avoid these mistakes the moment we wake up to them.