How to Avoid Making Irrational Decisions About Money

Interview With Emily Guy Birken

Emily Guy Birken, author of The Five Years Before You Retire, explains the psychological reasons behind the way people handle their finances. Why is it important to take a pause before making any financial decisions, and what are the biggest retirement mistakes that people make?

Douglas Goldstein:   I’m very excited to be talking with Emily Guy Birken, who specializes in the scientific research behind irrational money behaviors. I have often had a very big interest in what we call behavioral finance, which I describe to people as, why do people make the dumbest decisions even when they know the right thing to do? She’s authored a number of books and Emily, I’m real happy to have you here today.

Emily Guy Birken:  Thank you for having me.

Douglas Goldstein:   Was my very brief definition of behavioral finance right?

Emily Guy Birken:  Yes, absolutely. It’s why you do the weird, stupid things you do even when you know better.

Douglas Goldstein:   It’s like your mother catches you with your hand in the cookie jar, but you still keep doing it.

Emily Guy Birken:  Absolutely.

The Psychology of Money

Douglas Goldstein:   Why do you suppose it is that people do that, especially when numbers and money are, in many ways, black-and-white?

Emily Guy Birken:  Numbers and money may be black-and-white, but the psychology of money is not. What we think about money is very rooted in emotion and psychology and in our childhoods even, in the way money was viewed in our childhood homes. That means that money seems like it should be dollars and cents and plus and minus and very easy, but it really is very much about how your brain wraps around the idea of money, and that is not going to be rational.

Douglas Goldstein:   It’s actually something that I've found in many areas. I wrote a book recently with a woman who is a world chess champion, Susan Polgar, and we even applied the same type of work that you do in behavioral finance and saw the same things happen on the chessboard. This is even and especially true of chess players, who we like to think are very unemotional and are just analyzing and making decisions, but they don’t do that. It turns out that this really messes people up especially in terms of retiring, and in fact, this is another topic you’ve written a great deal about.  You wrote a book called The Five Years Before You Retire. Do you find that people make some of these irrational money decisions when it’s really dangerous, which I think is in those five years?

Why Do People Fall for Scams? Who is Responsible?

Emily Guy Birken:  Absolutely. Something that people often tend to do is say, “I've got about five or seven years left to go. I’m behind.” So they will try to catch up by taking big risks, and that’s why you see seniors who are falling victim to get-rich-quick schemes and conmen, and things like that. You forget everything that you know about when something is trustworthy and when it is not, and you get dollar signs in your eyes like, “I can retire on time if I just put money in this tin mine in Bolivia.” It’s a terrible idea and it’s really quite sad.

Oftentimes, people really know better. It’s somewhere in the back of their minds. They know better. And yet they find themselves being led by their emotions rather than by their rational, actual knowledge of what should be done.

Douglas Goldstein:   I have a lot of questions. One of them is, why don’t they just get over it? I want to try to accuse someone else because in today’s day and age, no one is ever responsible for themselves. It’s always someone else’s fault. When someone buys that tin mine in Bolivia, can’t you just say, “It’s probably the salesman, who used hard-sell tactics on people who are weaker”?

Emily Guy Birken:  That’s one thing that I think is really important. The field of behavioral economics is relatively new. It’s four years old, but still relatively new compared to traditional economics. The thing is that conmen, salespeople, and marketers have all understood the principles of behavioral economics for millennia. So, yes, the salesperson knows exactly what your weaknesses are and is preying on them. That’s not to say that you’re a big boy, you’re a big girl, and you should not fall victim to the conmen, schemes, and things like that. But you do also need to recognize that they are going after what your weak points are going to be. They’re going for the throat. That’s one of the reasons why my dad, who was a financial advisor, taught me early on that I should always embrace my paranoia. So that is something I try to tell people.

Douglas Goldstein:   “Embrace your paranoia,” I love that.

Emily Guy Birken:  Absolutely, when it comes to people offering to help you financially.

Douglas Goldstein:   I can see Darth Vader saying to Luke Skywalker, “Luke, embrace your paranoia.”

Emily Guy Birken:  Yes.

How Should Financial Advisors Help Their Clients?

Douglas Goldstein:   It’s funny, Emily. You and I clearly have a lot in common because I also went into the business, or a similar field. My mother was a financial advisor. In fact, she and I were partners when I started in the field on Wall Street. Before her 17 years on Wall Street, she had been a teacher, in fact, much like you were involved in education. She taught me that the critical thing is helping clients make better decisions. If we are honest advisors, we cannot predict the market, but what we can do is help to educate clients to make better decisions. That goes back again to this topic we were talking on before which is, even if you give someone the tools to make good decisions, is he really going to be able to make a good decision?

Emily Guy Birken:  That’s something that can be very difficult. With a lot of things, we go on instinct and impulse that are not necessarily correct. I see my job as a personal finance writer as giving people the tools to take the pause that they need. What you need to make good decisions is to just stop long enough to let your emotions subside a little bit so that you can use your good sense. There are some people out there who do not have the good sense God gave a goose, so that can be a tough situation. But the majority of us do know what we need to do. It’s the same with diet and exercise. We know what we should be doing, but we just don’t do it. We sit there eating the Oreos.

Douglas Goldstein:   I love Oreos.

Emily Guy Birken:  Yeah, they’re delicious. I could eat an entire sleeve of them in one sitting if I don’t stop myself, and in fact, I just don’t keep them in the house for that reason. It’s the same with money. You know what you should be doing. The vast majority of people just don’t do it. What I want to try to help people do is find a way to take that pause, that quick pause, between stimulus and response so that you’re not reacting emotionally. You take the time to react rationally.

Douglas Goldstein:   We’re talking with Emily Guy Birken who tries to get people to pause long enough to buy one of her books be it Five Years Before You Retire, or Choose Your Retirement, and actually, you're working on a new book about Social Security. I think a lot of what we’ve been talking about so far has been about the fact that people often make bad decisions even when they know the right thing to do, and one of the tools that she mentioned is you should pause before making a decision and I tell people that a lot.

A lot of times I will tell it in the framework of dealing with an inheritance. A lot of times people wander into my office and they have just got an inheritance, and this is the first time they’ve ever dealt with money. They're surprised when I tell them, “Let’s just put in the bank,” and they go, “I’m going to make 0%!” I say, “I know. I know where rates are,” as if they needed to tell me that banks pay zero. I say, “Let’s just leave it there for a while because there’s a lot more going on in your mind than just trying to make many decisions for weeks after you inherited it from someone who just died.” You have to stop and pause, but it sounds like you’re describing this as an effective tool for making better money decisions. Is that right?

Emily Guy Birken:  Absolutely. That’s for everything, from impulse buys at the grocery store to what your investments should be. It’s so important to be able to know what you really want, rather than what your impulse is asking you to do in a momentary problem. A lot of times, we make permanent decisions for momentary problems.  But you should take the time and really think through what is going to be best for you financially and is going to make you most contented and satisfied.

What’s the Biggest Retirement Mistake that People Make?

Douglas Goldstein:   Let’s focus now on the retirement issue. The title of your book is The Five Years Before You Retire. What would you say is one of the biggest mistakes that people make? Again, I guess we mentioned before that they tried to be super aggressive. So what’s another mistake that people make as they are nearing retirement?

Emily Guy Birken:  People often will rely on factors outside of their control when it comes to retirement. People will say, “I need to have returns of 8%, I need returns of 12%, or whatever, to be able to get to where I’m going.” Well, no, what you really need is to be able to save enough. People will also, this is less common, but people will say, “I’m going to be an heir when my great-aunt or my father passes away, so I don’t need to save any money.” People really take the onus off of themselves in terms of saving for their own retirement, and that is the big problem. People don’t realize that.

Douglas Goldstein:   First of all, obviously I agree with you because you cannot control nor predict what the market is going to do. But let’s say that someone is 60 and plans to retire in five years, and like most 60-year-olds doesn’t really have much in the way of savings. They literally may have under $10,000. You're going to tell this person, “Put away is much as you can every month,” and he’s going to say, “I can put away $400 a month.” It doesn’t move the needle.

Emily Guy Birken: Yes, but that’s where you need to start thinking about your life on a more global scale. People tend to bisect their life. There is my working life and then my life in retirement.  “Once I retire, everything will be great. I can play golf all the time,” or whatever. The thing is, it is all your life. So if you get to be 60 and you don’t have enough saved and all you can put away is $400 per month for retirement, you want to think about what you want your life to look like now. But what do you want your life to look like in five years? What do you want it to look like in 15 years? What can you do now to get to those places? At that point, it is not to take retirement out of the equation because obviously you’re not going to be able to work forever. But if you start thinking about your life on a more global scale and think, “What are the things I can give up now and keep my life satisfaction at a satisfactory level? What are the things I can give up financially so that I can put money aside? What are the things that I value most?” Then you can end up in the life that is going to be most contented for you, rather than a race to the finish line for retirement because that can be real problematic.

Douglas Goldstein:   That type of attitude is what then leads you to make mistake after mistake, which will, unfortunately, ultimately destroy your retirement instead of making sure that you will be okay. Emily, we are just about out of time, but tell me in the last few seconds, how can people learn more about you and the work that you’re doing?

Emily Guy Birken:  I am a personal finance writer. You can find my work all over the web, but in general you’re going to want to go to emilyguyBirken.com, where you can find all of the articles that I write as well as all of my books. I’ve got The Five Years Before You Retire, Choose Your Retirement, and Making Social Security Work For You. I’m currently at work on a fourth book that will be coming out in 2017 called End Financial Stress Now.

Douglas Goldstein:   I hope we will get to talk to you about that when it comes out.

Emily Guy Birken:  Thank you.

Douglas Goldstein:   Emily Guy Birken, thanks so much for your time.

Emily Guy Birken:  I appreciate it. Thank you.