The psychology behind our money decisions

Brian Ford (0:05):

Welcome to "Money and Mindset With Bright and Brian," where we like to boost your personal finances and your mental well-being. Every episode we dive into subjects that can help you stress less and feel more confident about managing your money. I'm Brian Ford, and I spend my days helping people improve their financial wellness. I'm here with my bud, my colleague, my co-host, Bright Dickson, an expert in positive psychology who helps others find and live out their purpose. How you doing today, Bright?

Bright Dickson (0:33):

You know, I was already feeling pretty good, but after that very lovely intro, I'm feeling great. So thanks, Brian. How are you?

Brian Ford (0:40):

I'm doing pretty dang good myself. Thank you. I am pumped for today's episode. We're going to be talking about the field of behavioral finance, starting with an important question, what in the world is behavioral finance anyway? Well, in simple terms, it's the study of how our psychology and our emotions affect our financial decisions. We're going to break down a few key theories within behavioral finance, including the idea that overconfidence can sometimes get us into trouble with our money, but beyond that, we'll also explore how emotions and money can actually mix well together and how we can use our emotions to help us make progress toward our financial goals rather than getting in the way of them.

Bright Dickson (1:20):

Whoo, sounds like we have some unpacking to do here. Should we get to it?

Brian Ford (1:24):

Let's get started.

Bright Dickson (1:31):

Brian, you've already touched on what behavioral finance is, but will you explain this concept of behavioral finance and how it can be used a little bit more for our listeners?

Brian Ford (1:43):

Yeah, so I want to start by laying out an idea that is not supported by behavioral finance, which is the idea that, as individuals, we make rational decisions based totally on objective facts. So we all like to believe that, you know, when we're making important decisions, we can be super rational and leave emotions out of it. Think of somebody like Spock on "Star Trek," just this totally logical, scientific character who takes a look at all the data before making a decision with hardly any emotions considered.

Bright Dickson (2:13):

You always like to call yourself a finance nerd, but I think this is the first time you've ever mentioned "Star Trek" on the podcast. So, you know, nerding out, I'm here for it.

Brian Ford (2:22):

Yes, big shout out to our Trekkie listeners. So, now, a lot of us want to think that we can be like Spock when it comes to managing our money, but the truth is that none of us are Spock. We know that from research and experience, we cannot make decisions completely independent of our emotions. We're not always rational, we don't always have self-control, and we're not always consistent with our decisions. And even if we were completely logical and rational beings, we just don't have the time or bandwidth to take all the data in that we need to make good decisions. So that's where behavioral finance comes in. It's a way to study and think about all the emotional and psychological factors that can influence our money decisions.

Bright Dickson (3:07):

Mm-hmm, and Brian, I want to sort of highlight that, that part of what you laid out there, which is that we all want to believe that we're that, and it's really, it's part of self-awareness, it's part of coming to terms with being human to understand that like, no, we're not always based on pure ration. We also have emotion in there, and that's normal, that's human. And I want to issue a little disclaimer. So behavioral finance is a big field within an even bigger field called behavioral economics. So, if you start researching this subject, which I really hope you do, there’s a lot, like a whole lot out there. It can get pretty deep, and it can get pretty, like, populated, right? So there are a ton of specific principles and ideas that get studied within the field of behavioral finance. We're gonna cover just a few of them today, right? So this is just a little appetizer of behavioral finance, and there's much more to this meal. If you're really into this stuff or feel inspired by today's episode, we really encourage you to go out there and dig into it some more. Don't be intimidated by it. You don't need to be a psychologist or an economist or anything like that to understand the key takeaways when learning about behavioral finance. And really, just having this awareness that we're not always rational and like, yes, you too, my friend, and like me too, right, us, all of us, we're not always rational, having that awareness that your emotions can influence your financial decisions, it's huge. It's not a positive, it's not a negative, it just is. And we need to know, understand, and work with that.

Brian Ford (4:47):

Yeah, I think that's an important note, Bright. Thank you. And what we're talking about today can really just be a springboard to more learning and progress. So, you touched on another point that I want to mention. A lot of the research around behavioral finance is about how our emotions drive decisions about investing and how that affects the overall stock market. But while much of the research in behavioral finance is done in the context of investing, I think it's also handy to keep in mind when you're making everyday decisions about your personal finances. Something else you said, Bright, I think is really key, which is the importance of awareness. Knowing yourself, knowing your emotions, and knowing some of these psychological principles will help you put good systems in place for yourself and develop habits that will help you build more financial confidence.

Bright Dickson (5:40):

Absolutely, Brian. And I think there's this element of humility involved here too, this mindset that we've really got to acknowledge is that I'm not always right. And I hate to say that 'cause I truly believe that most of the time I am right, and, you know, I have a bit of a reputation for that. But here's the thing, we're not always wrong either, right? And sometimes we're neither right nor wrong, it's just a complicated soup out there. But with the ways that our brains are wired, we develop a lot of mental shortcuts that can save us time, save us energy, but also cost us in terms of accuracy and sometimes efficiency. So, you and I have talked about on the show before this idea of negativity bias, which is a great example of one of these shortcuts, and it comes up in behavioral finance too. So, negativity bias is that we are drawn more to negative information than positive information. We tend to focus on threats and what's out of our control more than we pay attention to opportunities and what is in our control. And negativity bias means that we don't just focus more on the negative intention, but that it's more meaningful to us than positive information and we're more inclined to act on it, which can be a problem, but again, it's not, like, we're not making this consciously, it's a way that our brains are wired, it's a shortcut for processing information. What we need to do is be aware of it.

Brian Ford (7:20):

Yeah. Oh, Bright, I love that. 'Cause sometimes when I think of the word bias, I sometimes shut down emotionally. I don't know why. And the fact that you just said, "Look, bias is just a shortcut, and it's just a way that our brain functions, and it's normal and it's OK." So we don't have to just shut down when we think of the word bias, we just want to listen, kind of see how that applies to us so that we can better manage our money. And I think it's cool you brought up negativity bias. I often use the example of how the media takes advantage with its coverage of economic news. You know, so if we read too much about a down market, for example, we risk getting lost in this kind of negativity bias spiral and potentially making bad decisions about our investments, like selling before, you know, the market recovers.

Bright Dickson (8:09):

Mm-hmm, or just sort of like shutting down completely, right? Like, that's another thing we can get is that there's too much, and so we sort of go into survival mode and shut down completely. And we're wired with these mental shortcuts, right? They're part of our brains. And essentially what these biases, these effects, whatever sort of moniker is attached to them, all it's saying is that we pay attention to some information and ignore other information. They're all versions of that, right? Paying attention to some information and not other information.

Brian Ford (8:45):

Yeah, fascinating.

Bright Dickson (8:46):

It's something that's unconscious, it's unintentional, but it's still there, right? So like, this is one of the places where I like to make this distinction, it's not our fault, but it is our responsibility. It can still affect our problem solving, it affects our decision making in major ways and in minor ways. And like negativity bias, for example, it's not necessarily good or bad, right? It's got these two sort of loaded words in it. But once you understand sort of what it is, you work around it, right? We need to be aware of it and the way it may be driving our thoughts and our behavior, even our emotions. And then we need to look into it and try to see things a little more clearly. And so one way you can do that is by asking questions and looking for outside perspective. So, acknowledge that negativity bias, then try to get whatever sort of information you might be missing because of it so that you can move away with more of the facts. And that's true of all of our emotions, all of our cognitive biases. It's kind of just a good way to operate day to day.

Brian Ford (9:52):

Whoo, I was taking notes. I didn't expect to be taken to school today, awesome. Seriously, I was kind of taken back with some of the things you were saying, and I was like, "Wait, I think it's my turn to chat again." I was busy taking notes, but that was good stuff. OK, so awareness is half of the battle. What about the other half? Coming up, we'll talk more about the role of emotions in managing your money and dive into some more behavioral finance theories.

Bright Dickson (10:28):

As we keep this conversation going, now is a great time to open up the old inbox. As a reminder, you can always reach us at AskBrightAndBrian@truist.com. We're looking for anything you want to share, be it your questions, comments, feedback, and especially any stories you have about your own money and mindset challenges, or even better, your wins. We are here for it all, we want to hear about it, and we love talking about your stories and questions on the show.

Brian Ford (10:56):

Absolutely. So right now, I want to bring up a question we came across not long ago about a common piece of advice that we've probably all heard, and this ties in perfectly with what we're talking about today. Sometimes emotions get a bad rap when it comes to managing our money. It's sort of a common idea that emotions and money don't mix. And I normally fall within that camp. But the question is, Bright, so we'll kind of talk about this, the question is, can emotions ever be good for making financial decisions? And I'll kick this off by saying most financial experts would say no. Most financial experts would say that emotions can get us into trouble. And we'll be talking about that today, so we'll get to that. However, I have seen a few instances where our emotions were a good thing. For example, your emotions should play a role in actually motivating you to take action on important financial behaviors. In fact, if your financial goals are independent of your emotions, like whoo, like, you, you might not have the grit to stick to them.

Money can be a means to a much deeper end. So if you're living good financial habits because you know this will help you hit your goals and be happier, well, that's positive emotional motivation, that's a good thing, that can be really powerful. But now, I will say that once you're actually taking steps toward those goals, whether it's investing or saving for a vacation or whatever the case may be, you do want to be careful that you're still making decisions based on good financial systems. In other words, whatever emotion is motivating you, you always want to make sure your decisions are based on trustworthy information. Let me give you another simple example, Bright. So, if a trustworthy financial planner tells you that you're not on track for retirement, you should be saving a little bit more, maybe this can, you know, feel scary in the moment. However, if your reaction is to increase your 401(k) contributions, even just a small amount, then that yucky feeling was used productively. In that case, even an unpleasant emotion, that twinge of anxiety about your retirement, can motivate a positive financial outcome, but only because it was based on solid rational input from a financial advisor that you trust. So I would say normally emotions can get us into trouble, however, sometimes they can be a motivating factor to get going in the right direction.

Bright Dickson (13:36):

Yeah, I mean, we've got to be sort of rational about our emotions too, right? And one way that I like to think about it, Brian, is that emotions are information. They're how our brains interpret our body's reactions to our internal and external environments, right? So it's like a feedback loop in many ways. Your emotions are trying to tell you something, right? They have a message for you. Whether sort of what they're saying to you is accurate or not, that's a different issue, right, and that's where this kind of stuff can be really helpful, behavioral finance can be really helpful in helping you sort out what's accurate and what's not. That's where this sort of logic and rationality come in.

But emotions, emotions are important, and we shouldn't ignore them no matter what they are, because they're trying to tell us something about ourselves and how we're processing our internal and external environments. Whether you act on them or not, that's a separate issue. And then how you act on them is another part of this, right? But this sort of black and white, emotions are good, emotions are bad, that's not a rational way of thinking, frankly, right? It's so dependent, and like, that's the work of understanding your own mind and how you think, and that's a huge part of both money and mindset, right?

Brian Ford (15:00):

Nice. I really like that idea, emotions are information, emotions are feedback. I think a lot of folks, and I include myself in this group, pride themselves on making very calculated decisions based on data. And in a sense, if you think that way, emotions almost feel like the enemy. But the way you just broke it down, Bright, emotions are just another data point. So, you know, for everyone out there who loves logic, who loves making informed decisions, I think we would do well to remember that we have to collect all the data we can, and that may include our emotions.

Bright Dickson (15:44):

Mm-hmm, yep. And I think we have this sort of view that logic and emotions are on sort of separate sides of a spectrum, and they're not, right? They're not sort of like enemies, like they're opposite ends of your brain, sort of like ready to charge at each other, right? Like, that's not how it is. Emotions are a part of the decision-making process, right? Behavioral economics says that they actually sort of precede rationality. So, part of being rational, and a really important part of being rational, is factoring in your emotions, acknowledging them, understanding where they're coming from, why they're there, what kind of message they're sending you, and using that as part of the way that you're making a decision or processing information. And we don't have to make this totally about "Star Trek" or anything, but like, just to use that reference, like the emotional Captain Kirk needs Dr., is it Dr. Spock? No, Dr. Spock's someone else. I'm not super familiar with "Star Trek."

Brian Ford (16:28):

Oh boy.

Bright Dickson (16:29):

But I do have a William Shatner story. Anyway. But that like more emotional Captain Kirk needs Spock and vice versa, right? Like there's a reason that they're there together, right? So we need both of them, and it's not wise to exclude one over the other.

Brian Ford (17:09):

Agreed. And before we reach the final frontier of our conversation today, just gonna give that a moment so our Trekkies can appreciate it. I want to share our email address. I want to get that out one more time. Please, reach out to us, AskBrightAndBrian@truist.com, questions, stories, comments, we want them all. We'd love to hear from you, even if, you know, this is your first episode with us.

Bright Dickson (17:33):

Yes. All right, next, we're highlighting a few helpful key concepts from the world of behavioral finance. So beam us up to the next segment, Scotty. So, Brian, I thought we could start talking about some specific concepts within behavioral finance by looking at one some of our listeners may have already heard of in a different context, so this concept of herd behavior. What's herd behavior, and how can it influence our financial decisions?

Brian Ford (18:16):

Well, it's describing really what the name implies. So herd behavior is when people stop acting as individuals and start following the crowd. It's pretty common for us to look around and say, "What is everybody else doing?" And then possibly just going along with that. It certainly applies to our financial lives, but also really just our lives in general. But when it comes up particularly, you know, in finance, it usually comes up in the context of investing and the stock market. When the market's going up, everything's going great. The herd wants to double down and invest more in a market that's possibly overheated. And when the market's not doing well, you know, it's falling, the herd's reaction is to pull its money out or stop investing altogether. Oftentimes we shouldn't be doing either of these things. And when it comes to investing, going against the herd may be what you should be doing instead.

Bright Dickson (19:10):

Yeah, and Brian, it makes me think of that whole phenomenon of like, meme stocks from a couple years ago. When people were investing all this money, there was all of this talk about these, like, what seemed to me to be like kind of random stocks, and it was because of hype on social media and online forums and not necessarily because of the profitability or outlook on the companies themselves. Like, what was up with that?

Brian Ford (19:40):

Totally, great example. But I love even more old-school examples. I mean, you can go back in history for examples of this kind of thing. And one that comes to my mind, one of my favorites is called tulip mania, which is just, yeah, it's a fantastic name. So back in the early 1600s in Holland, tulips became crazy fashionable. And because of their popularity, the price of tulips skyrocketed. So more and more people bought up these super popular flowers until a lot of folks were actually using credit to buy more tulip bulbs than they could really afford. Sounds crazy, I know, but this was real.

And a little later on, less than a year after the whole craze kicked off, prices of tulip bulbs started to fall back to normal, surprise, surprise, and a ton of tulip bulb-crazed buyers, they lost their shirts. So this is just an early demonstration of what we call a financial bubble, which is a term you may have heard in reference to the stock market a few times. It's also a pretty good example of herd behavior, people looking around and blindly following what everybody else is doing, which was, in this case, buying tulip bulbs.

Bright Dickson (20:50):

Yeah, I mean, it's like that fear of missing out, right? So you see people buying tulips or meme stocks or whatever, and they seem to be benefiting from that, right, in extreme ways. And so like, of course I'm gonna, why shouldn't you join up, right? Like, why shouldn't I be a part of that? And it's a case of your emotions, and like in this case, a type of fear or a type of, I would say like irrational optimism, totally overpowering the more rational part of your decision-making process, right?

Brian Ford (21:25):

Yeah, that's exactly right. And it's why I place so much emphasis on developing your own good systems and habits to keep you on track no matter what's happening in the news. You know, have a good financial plan, work with a good financial planner, and then stick to that plan, even in tough times. When it comes to investing, don't sweat those short-term ups and downs in the market, and remember the importance of dollar-cost averaging. Just keep putting in a set amount of money at regular intervals over time.

Bright Dickson (21:52):

Yeah, and maybe like, you know, if it sounds too good to be true, maybe it is. And I can't look inside the heads of those Dutch tulip buyers from, you know, 400 years ago, but I'd be willing to bet that at least some of them also fell victim to what's known as overconfidence bias.

Brian Ford (22:10):

Hmm, well, look, I'm not really a betting dude, but if I were, I would not take that bet, Bright, because I think you're right.

Bright Dickson (22:22):

Maybe we can just bet in tulip bulbs from now on, Brian. And I mean, I think, you know, I think we can say that with some confidence, right, that overconfidence bias is there. And so again, like we talked about earlier, all of our brains are wired with various shortcuts, right? Some of us are more prone to fall into some, and others, others, right? But we've all got this system, it's the way we're wired. And you can probably get the idea of overconfidence bias from the name, but overconfidence bias is this notion, this phenomenon that we tend to be way more confident in our knowledge and abilities than the actual objective facts would allow. So, my favorite example of this is that there have been a few surveys of drivers, people who drive motor vehicles, and like 80% of people said that they were above average drivers, which mathematically that isn't possible, right, like the math doesn't math there. There can't be that many above average drivers.

Brian Ford (23:25):

Yeah, but I'm pretty sure that I fall in the percentage of those who are actually better drivers.

Bright Dickson (23:31):

Yeah, and here's the thing, Brian, I also deeply believe that I am a better driver than most people, right? And so we'd both be in that 80%. But we can't all be right, can we? So, because of our mental wiring, it's really hard for us to be objective and have a totally objective self-analysis of our abilities and, you know, a lot of different things about ourselves, right? And this kind of bias can get a lot of people into trouble financially, right, like if you really overrate your knowledge as an investor or even as a borrower when using credit, for example. And I don't mean to pick on bad drivers, although maybe a little, or our tulip mania friends, right? But because, again, all of us have these biases. And as educated as you and I are Brian, and as smart as our listeners are, our brains simply just do not take in all the information there is. And that's why, like you mentioned, you've gotta have systems in place, and have conversations, and maybe tough conversations, with people who disagree with you. You've gotta be open to being wrong. And that's a big way that you can keep yourself safe or at least in some way protected from your own cognitive biases.

Brian Ford (24:56):

Yeah, solid information. I think herd behavior and overconfidence bias, they're good examples of the kinds of theories studied in behavioral finance. I mean, there's a lot more, we talked about it, you can jump into this. But I want to talk about just one more today, and that's the concept of mental accounting. So, we tend to create separate mental accounts for our money, meaning we treat money differently depending on which account or bucket or compartment, whatever you want to call it, we put it in. You think about the money you make at your job probably differently than the money you get on a gift card you got for Christmas, for example. Or you think about the money you spend on groceries as separate from the money you spend on entertainment. Things like this, mental accounting.

Bright Dickson (25:44):

Yeah. Well, that doesn't sound so bad. What's going on with that one?

Brian Ford (25:47):

Yeah, no, you're right, Bright, it doesn't have to be, but to be clear, there are ways that mental accounting can sometimes influence you to do the wrong thing. Because of mental accounting, it's easy to forget that money is fungible, meaning it's interchangeable. Our tendency is to see money as relative depending on what bucket we have it in. But at a fundamental level, the value of $1, it's $1. And so, you know, if you need to, you can always reallocate money between these different mental buckets. You also see mental accounting in the ways many people think of spending with a credit card versus spending with cash. Mentally, you might not register the immediate cost of buying something with a credit card in the same way that you would buying something with just cash, like green pieces of paper. So if that causes you to spend more money than you should on credit, well, then mental accounting isn't doing you any favors at all. But when I think of mental accounting, and I think this comes to a point you wanted to make, Bright, I also think of this innate natural desire we have to kind of put things in buckets as something we can use to our advantage.

So why not go with that natural human tendency? If you're looking to become a great saver, it's great to set up separate accounts, you know, separate buckets. Have a bucket dedicated for saving, maybe for a down payment on a house, and another separate bucket dedicated to money you're saving for a vacation, you know, with your family. We're always telling people all the time how important it is to have an emergency savings account. So use this idea of mental accounting to our advantage to save more. And technology these days, it's super cool, it makes doing this easy, but, you know, you can also do it just kind of within your own personal budget, kind of from a mental standpoint.

Bright Dickson (27:37):

Yeah, 'cause it's like if those buckets are like, in some way real, you're more likely to make better decisions, right, than it all just sort of the buckets being in your mind and coming out of a mutual pot. So when you have this awareness of mental accounting and the way it works, as well as those potential pitfalls of it, then you can use it to work towards your goals. And I think that's true of everything that we've talked about today. So, none of the concepts in behavioral finance are inherently negative, right? But they're so important to be aware of because of how they influence us, and they're influencing all of us, right? Even you and me, Brian, who are like, you know, we pride ourselves on being so smart and so rational, but it's kind of a fantasy in and of itself.

Brian Ford (28:27):

Totally agree. And I admit that to my kids all the time. I bring that to their attention. I'm like, "Guys, I read this stuff all the time and I fall into these same behavioral finance concepts. I need to be aware of 'em, and I need to admit that." So I agree.

Bright Dickson (28:41):

Yeah, and, Brian, as you were talking about mental accounting, what I was thinking was about how I'm much more likely to buy that cute shirt or sweater or whatever on sale and feel like I've won, even though I wouldn't have bought it at retail. If it's on sale, I'm like, "Oh," I'm like, "I'm saving here," but no, I'm not, 'cause I'm still spending that money, right?

It's that kind of stuff. Like, it's so everyday and built into what we're doing every day, the way we think every day, that it can kind of be hard to track, but it's there and present for all of us. And, you know, I know one thing I'm gonna take away from today's episode and that I hope our listeners do too, is that our emotions and our logic, our rationality are not in conflict, they are working together, and the thing is to understand how that's happening for you. And when we stay mindful of the ways our psychology and our emotions can influence and do influence our decision making, then we can make much better decisions with our money and like in our lives in general. So that's a huge takeaway. Your emotions, your rationality, your money, and your mindset, they're not enemies, they work together, and, like, let's make them work together better. So Brian, what's your big takeaway? What made an impression on you in our conversation today?

Brian Ford (30:06):

Yeah, a couple things. One, I liked, Bright, when you said, you know, to overcome some of this stuff, ask questions, look for outside perspective. I love that, solid advice. I also like the idea that a better understanding of behavioral finance can help me manage my money better and make good decisions during tough times. And although our emotions can get in our way, I like that I can use behavioral finance as a way to hack my brain's normal, possibly negative tendencies, and make better, more informed decisions. So for example, with herd behavior, just going back real quick, and investing, when the market is going down, it's normal, it's totally a normal feeling to get scared, but just knowing about herd behavior and my natural tendency to look at what everyone else is doing, which unfortunately may be acting on that fear and pulling their money out of the market, I like knowing that I can meet that fear with knowledge, and I can take a step back, take a deep breath, chat with my financial planner, and continue with my plan to dollar-cost average into the market, which seems counterintuitive, but is backed by years of research.

Bright Dickson (31:25):

That's a wrap on another episode of "Money and Mindset With Bright and Brian." We'll be back next month with more tips and insights to help you care for your finances and your mental well-being. We appreciate y'all listening, and thanks to you too, Brian, as always for doing you.

Brian Ford  (31:40):

Yeah, I appreciate that, Bright, back at ya. And a big thanks to everyone listening. If you enjoyed the show, be sure to subscribe on whatever platform you're listening on to get new episodes as they are released. And consider giving us a rating or a review. Or just share the podcast with somebody in your life who could use a little money and mindset boost. We'll see you next time.

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