How to deal with irrationality in your financial life?

Traditional economics was based on the assumption that human beings are perfectly rational.

- Sudipta Mitu

They weigh the pros and cons and then take perfectly logical, well thought out decisions. But we know that in reality this is not so. An entire new field called behavioural finance has come up, which is based on the assumption that humans are irrational creatures. They fall prey to greed, fear and laziness and often take suboptimal decisions. For instance, most people give higher weight to their current needs and desires instead of more urgent needs of the future. This is the reason why a large number of people, despite working all their lives, do not have an adequate retirement kitty. In this article, we shall discuss ways and means you can employ to tackle your behavioural biases.

Invest before you save:

Many people wait until the end of the month to invest the money that they have left over after they have met all their expenses. This is a suboptimal way to save and invest. Experts suggest you should have two bank accounts – one should be your salary account (which can also serve as your expense account) and the other one should be your investment account. As soon as your salary comes into your first account, transfer a fixed percentage – say, 30 per cent of your in-hand salary – to your investment account. If you wait till the end of the month to invest what is left, you are unlikely to achieve whatever saving and investment goal you have set for yourself.

Automate processes:

Taking action requires an expenditure of willpower. Given how fallible human beings tend to be, it would be too much to expect that you will take the required action, such as investing in mutual funds each month, with clockwork precision. So, automate the process instead by starting a systematic investment plan (SIP) or a systematic transfer plan (STP).