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The Personal Part of Personal Finance

by Ashby Daniels, CFP®

“When you come a fork in the road, take it.” - Yogi Berra

This week on Twitter, there has been a lot of talk about whether it’s smart to pay off your home or to invest those funds. It evolved into a discussion about whether to use a total return or income-based strategy for retirement planning. The answer is neither and both are right and wrong. You read that correctly.

When it comes to retirement planning and financial planning in general, we all have a rational brain and an emotional brain. The rational brain makes decisions based purely on the numbers and the emotional brain makes decisions based on how the decision makes you feel.

The problem is the emotional and rational brains are often at odds with each other. Your emotional brain is there to protect you today and your rational brain is there to protect your future self. While they are both working for you, they seek the benefits that matter most to either your current self or your future self. I’ve found that when formulating a plan for retirement, it’s best when both your rational brain and emotional brain are “in the room” at the same time since the key to retirement success is striking a balance between the two.

Contrary to many retirement discussions, retirement isn’t about optimizing every last penny. In fact, the best way to increase your probability of retirement success is often to embrace a strategy that makes emotional and rational sense.

For instance, to the Twitter discussions noted above, I have yet to see anyone that is disappointed after they paid their home off - even if mathematically it doesn’t always make perfect sense. I’ve also seen people that have their entire portfolio in low-yield bonds even while knowing that, in the long run, it will likely cause them to run out of money entirely. They just traded one risk for a terrible known outcome. Based on just those two examples, we can see the spectrum of how, sometimes, making emotional decisions can make a lot of sense and sometimes it can be to a fault.

The rational side of your brain can be just as much of a liability. For example, investing 100% of your portfolio in the stock market just because it might make long-term rational sense probably isn’t smart because your emotional brain is likely to panic at some point when blood is in the streets.

If I got any push back from the article I wrote a couple of weeks back (A Portfolio Strategy for a 30-Year Retirements), it was that I focus on an equity income versus total return strategy. While I plan to publish my thoughts on that matter next week, my belief in favoring equity income over total return comes from the emotional side. Rationally, you could say that investing for the highest possible return makes the most sense, but we live in the real world where emotions are very much a part of the retirement experience and I believe the equity income strategy will yield an increased probability of success - which is really the only thing that matters.

Taking a total black and white approach (emotional vs rational) toward any topic of personal finance is ignoring the preferences of the very people we seek to serve. It’s also why it’s so important to work with an advisor that is philosophically aligned with your belief system.

The art of my job is helping people find the intersection between rational and emotional because there are no “right” answers, just answers that are right for you and your personal situation. Because when it comes to personal finance, it is just that - personal.

Related Posts:

“Optimal” Retirement Planning Strategies

A Portfolio Strategy for 30-Year Retirements

Disclaimer: Opinions expressed are those of the author and are not necessarily those of Raymond James. All opinions are as of this date and are subject to change without notice. Any information provided is for informational purposes only and does not constitute a recommendation.
Future investment performance cannot be guaranteed, investment yields will fluctuate with market conditions. Keep in mind that there is no assurance that any strategy will ultimately be successful or profitable nor protect against a loss. Investments mentioned may not be suitable for all investors.

Filed Under: General

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