The following is a portion of my (actual) response to a reader who judged me as unfit for my role as a behavioral finance expert due to the fact that I switched from a 30-year to a 15-year mortgage, violating the logic of pure ROI, and therefore disqualifying myself for my job.
I appreciate your attention to detail and your devotion to logic in matters of financial decision-making….Your point that I could have chosen to invest the extra $250/month in funds rather than invest it in the property is a very good one and if my only goal was to maximize return on investment for any dollar passing through my hands, I may have made this choice... [However] maximizing my ROI was not my only goal, and this is where I think that our philosophies on money management differ greatly.
You mentioned that as a behavioral scientist I of all people should be above allowing my emotions to muddy the waters of logic when making financial decisions. I disagree, and here is why. As someone who has studied human decision-making (as well as economics, personal finance, and pure mathematics) I am well aware of the ways that emotions can alter our decision-making for the worse. However, I am also aware that no decision is free from emotion, and emotions are information. Our task as human decision-makers is not to negate all emotional information as baseless, but to learn to take it in as information, adding it to the mental calculus consciously and with care to understand the possible pitfalls of emotion while appreciating the value of emotions in weighing the non-numeric elements of a financial decision. I do not agree that emotions are the enemy of good decision-making. Rather, they are a form of utility. As such, they are one of many factors we must weigh in our mental calculus. Yes, we must be careful not to overweigh the emotional information, but to disregard it as external to the equation is nonsensical.
It is not the absence of emotion that allows for wise decisions, but the careful examination of them as information of a non-numeric type. Humans are complex organisms with far more than financial ROI at stake. Our relationships, life goals, and personal temperaments all play a role in the mental calculus of many financial transactions, and as a behavioral scientist I believe it is impossible — and ill-advised — to discard the emotional consequences of financial decisions in favor of pure numeric optimization.
In Star Trek terms, the challenge of behavioral finance is not to become androids or Vulcans, and train ourselves to negate our emotions entirely, but to learn and know oneself and one’s emotional drivers well enough to see where they aid and where they inhibit. Extreme risk aversion is often unhealthy, as is extreme returns-seeking, but recognizing when the stress of risk will lower one’s quality of life is an important and necessary part of the mental calculus in choosing investment strategies, and helps people make decisions they can live with in the long term. The lesson of Mr. Spock was not that humans should be more logical, but that logic alone can often lead to suboptimal decisions. What we want is not the Vulcan mind of pure logic, nor the Id of pure emotion, but a healthy integration of numeric and emotional information into a decision calculus that takes the whole person — their financial ROI as well as their emotional ROI — into consideration.
I would go so far as to say that your devotion to logic and numeracy may have an emotional element to it as well. I remember when I first began studying mathematics in earnest, I was struck by how comforting math is when placed alongside the unanswerable questions of existence. Numbers make sense. You can rely on them, and you can make water-tight arguments with mathematical proofs. In a world filled with chaos and uncertainty, I found the exercise of working out a proof was deeply comforting. I still find it soothing to work algebra problems when life feels a bit out of control. Numeric and logical arguments are clean, straight-forward, and reliable. Why wouldn’t we aim for that sort of precision in all of our financial transactions? It was only through trying to apply pure logic to my daily financial life that I learned how contrary to my nature that was, and how deeply unhappy I become when I think only of numbers and ROI. I saw that my budget, for example, needs to include some ‘fun money’. The times I tried pure austerity in my personal budgeting led me to deep unhappiness in many areas of life. Your temperament seems very different, and I imagine that following a pure austerity model may bring you great joy and satisfaction. If so, I am happy for you that your emotional needs align so well with the practice of economic optimization. For many of us, the utility equations are quite different.
No, I do not believe that the task of behavioral finance is to make money management less emotional, but rather to make personal finance MORE friendly to the true nature of human tradeoffs in financial decisions. I have learned, both through personal experience and through surveying the consumer psychology literature, that the task of personal financial management is about fulfilling the needs of the whole person (intellectual, emotional, spiritual, and physical) within the limits of that person’s resources. This is a complex and delicate balancing act that is, unfortunately, not as clean as pure numerical logic. The calculus I perform includes emotions by design, and I believe that is a healthy model for optimizing long-term quality of life. If you believe this makes me unfit for my role, I am sorry to hear it, but I defend my stance as one of pragmatism and respect for the nature of emotions as physiological information that can enhance decisions when properly weighed.