Do you learn from mistakes?
You might think so, but probably discount the role emotion played in the mistakes. It’s hard to know how you’ll react to mistakes. It’s even harder to learn from these errors retrospectively.
You probably believe that you make decisions rationally and previous mistakes were simply errors in judgement. In reality, money choices are made emotionally, with rationality only a justification of the decision.
Every financial decision you make won’t work out as planned. That’s actually the starting point for learning from mistakes. To really learn, you need to recognize reality and expect some mistakes.
HOW TO BUILD A MARGIN OF SAFETY
Famed author Benjamin Graham called it “margin of safety.” Others may refer to margin of error or even redundancy. Whatever the name, this describes how you deal with a world built on probabilities. It’s a way to acknowledge uncertainty in your day-to-day choices.
Building a margin of error into your decisions allows you to endure mistakes without abandoning your long-term planning goals.
Standing in your way is the false idea that someone, somewhere can accurately forecast the future. There is no Wizard of Oz.
It’s difficult to beta test exactly how you will react to decisions transforming into mistakes. Your rational brain says you can handle market volatility, but what about in real life when the stock market declines sharply?
Your confidence wanes and your emotions take control. This creates a disconnect between what you think and what you feel.
WHY RATIONALITY FAILS
In late 2007 we witnessed firsthand a few rational clients turn into “bowls of jelly” at the onset of the financial crisis. We counseled one client against increasing his target investment allocations early in 2007 when the stock market was rolling ever higher. In his words, “if 60% stocks is good, 80% is better.” He ran for the exits during the first week of the market decline. Emotions drove out all of his calm rationality. He learned very little from the experience because he didn’t acknowledge his emotions.
There is another mistake creator that you can’t ignore. Reliance on everything staying the same with your source of income. The past 18 months have highlighted dramatic changes within many industries and professions. You can’t know what the future holds so savings, yet another word for margin of error, is your friend amidst an ever-changing world.
You don’t need a big, fancy goal in order to save. You just need to save because it provides the endurance you need to stay in the race. Start there.