Making sure your investments help you towards your true life goals.
Too often, we inadvertently compare ourselves to the people around us – and that can lead us to make financial mistakes.
In his book Predictably Irrational: The Hidden Forces That Shape Our Decisions, Dan Ariely remarks, “We don’t have an internal value meter that tells us how much things are worth. Rather, we focus on the relative advantage of one thing over another, and estimate value accordingly.” Later he adds, “We not only tend to compare things with one another but also tend to focus on comparing things that are easily comparable.”
In other words, we use completely irrelevant benchmarks to gauge our success and make decisions. We compare the car we drive or the clothes we wear to our siblings. We draw comparisons with how our children act relative to the neighbors.
Your Yardstick Should Be Relevant
None of these comparisons make reasonable sense. Instead, they take the common shortcut and follow things easily comparable to a simple, concrete – and irrelevant – answer.
Simple comparisons also often gloss over details. In another example, you lament that you refinanced your mortgage at 4% interest while your brother got 3.75%. The interest rate provides a simple comparison and misses the big picture.
Digging deeper, we find that your brother paid closing costs and you didn’t. The monthly savings of that 0.25% difference covers the closing costs after ten years, but your brother only wants to stay in the home for five. The lower rate ends up costing more.
Nowhere is relative benchmarking more prevalent and more irrelevant than in investing. How you perform against the Standard & Poor’s 500 bears little on your financial well-being. The S&P 500 is not trying to accomplish with its money what you try to accomplish with yours. Your individual goals, from saving for a wedding to travelling the world in retirement, need to consider varying factors (i.e., income, level of risk, etc.) and timelines.
Consider Your Portfolio as Your Business
For instance, if you own a business, you understand that revenue and profits rise and fall. It is not always a consistent upward trajectory. You continue running your business because of the lifestyle it provides, and you make decisions that ensure continuity. Few owners run their business to maximize returns at all times – those that do are often hung out to dry when things get rough.
Consider your retirement portfolio as your own small business, comprising ownership in real, functioning businesses.
If you strive to maximize gains in all of the businesses at all times, you eventually get burned. Not to mention that the business (portfolio) performance of the bicycle shop guy down the street bears no relation to that of your bakery. That comparison makes no sense. Your portfolio provides you with the lifestyle you want.
At Biondo Investment Advisors, we see the wealth advisor-client relationship as an important component of portfolio management. Honest, two-way communication ensures an understanding of what your true life goals are, the timetable needed to achieve them, your acceptable level of risk, and current and future cash flow needs. Your unique portfolio is one that cannot be blindly compared to an arbitrary benchmark, but rather is relevant to you and what you value, and also helps provide financial confidence.
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