Dumbest Things You Do With Your Money

by Kathy Kristof
Saturday, May 1, 2010

Brad Klontz knows all about the dumb things that smart people do with their money: He's a smart guy (with a
doctorate in psychology) who lost half of his assets in the technology stock bubble.

A financial psychologist, Klontz says that when it comes to money smarts, size matters: The logical part of
your brain is so much smaller than the emotional side that it's like "a circus performer riding an elephant." To
make smart decisions about your finances, you need the logical side to dominate. But once you get tweaked
by greed or fear, that elephantine emotional brain is likely to run amok.

That's why otherwise intelligent people chase get-rich fantasies. Or cling to stocks that are long past their
expiration dates. Or find other ways to let fear and superstition keep them from smarter financial moves.
Here are nine of these common, emotionally driven money mistakes — plus some tricks from experts for
getting that elephant in line.

1. Falling in Love ... With Your Investments

It can be great to fall in love with a person, but stocks can get you into deep trouble. Newport Beach, Calif.,
financial planner Laura Tarbox says she sees this all the time: Some clients keep concentrated stock
holdings because they inherited them and "Mom just loved IBM," or because they work for the company and
feel that selling would be disloyal.

Then there's the couple who came to her asking for help investing $12 million. "That sounded really great
until we found out that this couple used to have more than $1 billion," Tarbox says. "All their money had been
invested in a company that the husband helped launch — and he couldn't convince himself to diversify when
he walked away."

Sorry, but that relationship just won't work, says Tarbox. No one should have more than 10 percent of his or
her wealth locked in one stock. Just ask the former employees of Enron, who lost both their jobs and their
retirement savings when the company filed for bankruptcy 10 years ago.

2. Chasing a Fantasy

You've read it 100 times: "Past performance is not an indication of future returns." But no one appears to
believe it. Purveyors of investment data can trot out tons of statistics showing that when a mutual fund or
asset class (such as gold, emerging markets stocks, or junk bonds) gets singled out for great quarterly or
annual returns, investors start to pour money into that investment like it was going out of style.

And, of course, it is. One extensive study that looked at 19 years of market data found that investors
consistently poured money into "hot" investments just as they were about to turn cold. That left the average
investor with returns that fell way below the market as a whole and didn't even keep up with inflation. (For
more on this, see our recent story "The Biggest Mistake Investors Make.")

Klontz admits that this is why he lost his shirt in technology stocks. It's a natural inclination to "run with the
herd," he says with a shrug. Maybe so, but if you don't want to get trampled, you have to devise an
investment strategy that suits your goals and then stick to it, even as your neighbor gets (temporarily) rich on
the investment du jour.

3. Equating "On Sale" With "Good Deal"

Consider two television sets: Both are $500, but one is marked down from $800. Which one do you buy? If
you're being reasonable, you buy the one that got the better rating in Consumer Reports. But most people
buy the one that's on sale, says Matt Wallaert, a consultant for LendingTree, which owns the money
management Web site Thrive. In fact, even people who would never have spent $500 on a television often
will when it's discounted — simply because it's so cheap!
In reality, $500 is $500. If you wouldn't normally spend that much on a television (or any product, for that
matter), you shouldn't do it now. We've been fooled by "anchoring": the illogical, but nearly inescapable,
tendency to base our estimates of value on the nearest number we see, rather than an independent
assessment. Just because the tag has $800 crossed out and replaced by $500, that doesn't mean $800 was
a meaningful price. Indeed, an MIT experiment revealed that students who wrote down the last two digits of
their Social Security numbers based their estimates of a wine bottle's worth on those two random numbers.
The higher their numbers, the more the students were willing to bid for the wine.

Before you pull out your checkbook to splurge at a sale, evaluate whether the product, be it a television or a
bread machine, is worth that price in enjoyment. Consider how often you'll use it, for instance, and whether
you can get something of similar quality for less.

4. Retaliatory Spending

You don't need it. You don't want it. But, dang it, no one is going to tell you that you can't have it. New York
psychologist Bonnie Eaker Weil calls it "POP" spending — for "pissed-off purchases." She did a survey
before publishing her latest book, Financial Infidelity, and estimated from the results that POP spending
accounts for about $424 billion in purchases each year.

One of Weil's Brooklyn-based clients, for example, went on a retaliatory $500 shopping spree when her
husband gave one of her beat-up old jackets to charity without asking her first. When she got home, she
informed him that since he didn't like her old jacket, she had gotten a new one from Saks Fifth Avenue. Such
purchases can also result from a fight with your boss, mother, or best friend, according to Weil.

But as good as retaliatory spending may feel, it can do real damage to your financial health. Tarbox says a
better approach is to talk out the anger, hurt, or disappointment — or just your bad day — with a friend, or
even a professional counselor. If you have to spend money on a psychologist, it's probably still cheaper than
the golf clubs or designer shoes you put on your credit card after that last argument with the boss.

5. Hanging On to Debt

The number of people who have money in savings accounts, earning less than 2 percent, while carrying debt
on credit cards that charge more than 14 percent is "shocking," Wallaert says. Of Thrive's customers who
have more than $500 in credit card debt, almost 40 percent have more than enough in savings to pay it off,
he says.

Wallaert connects this mistake to "mental accounting" that separates our money into different stacks that we
think ought to stay separate. But illogical separations can create mathematical mayhem.

Consider a person with $5,000 in credit card debt and $10,000 in savings. The debt costs him 14 percent per
year, or $700, but the $10,000 in savings earns just 2 percent annually, or $200. He could pay off the debt,
saving the $700, and still earn $100 annually on the remaining $5,000 in savings. Net result: He's
immediately $600 richer and can start saving faster.

You might argue that you need those savings for emergencies. And you do need some emergency savings,
allows Frank C. Presson III, a financial planner in Tucson, Ariz. But if you've got considerably more savings
than debt, there's no excuse. Keep one month's worth of living expenses in the bank, even at those sorry
returns, Presson advises. Use the rest to pay off the high-cost debt. Then rebuild the emergency savings, not
the debt. Worst-case scenario: You still have the credit cards (now with zero balances), and you can tap
them in an emergency.

6. Parental Martyrdom

An emerging problem involves parents who spend themselves to the edge of insolvency bailing out their
children. "It starts from a good place, basically from wanting to be a good parent," Klontz says. "They'll say
that Johnny is going through a rough patch and needs some help. But it becomes financial enabling."

Worse, it often causes the parents to suffer money woes that keep them from retiring or living comfortably
because they're constantly paying Johnny's bills.
Any time you help an adult child, you should have a clear idea of how much help is necessary, how long it
will be required, how it will help the child get back on his or her feet, and when (or whether) the child will
have to pay you back. When there's no plan — just an open checkbook or couch — you turn the child into a
dependent who becomes increasingly incapable of taking care of himself, Klontz says.

"I talk to the parents about how their attempts to help are like giving a drink to an alcoholic because his hand
is shaking. This kind of helping is hurting," he says. "Then we talk about what kind of help would really help."
(Hint: That kind generally doesn't involve cash.)

7. Cyber Insecurity

Roughly half the world has signed on for free online banking, which makes money management easier and
saves the typical consumer about $50 annually in postage stamps. Among the people who don't use online
banking, 41 percent say they've held back because of security concerns, according to a recent survey by
Gartner Research.

What do banks typically do to secure online customer accounts? They put up multiple firewalls, which are the
equivalent of brick enclosures around your house, and they have techno-security teams attempting to find
the weak spots and shore them up. They also patrol the firewalls 24/7, looking for climbers.

Now, let's look at your mailbox. It's probably unlocked and unguarded — just what a thief needs to steal your
credit cards. In reality, the chance of becoming a victim of identity theft or financial fraud as the result of low-
tech crime — whether it's somebody stealing cards or "spoofing" you into providing private information via e-
mail — is a lot greater than the chance that somebody will breach your bank's online vault.

So sign up already and save the stamps. And if you're worried about security, check your account regularly
to make sure there's no suspicious activity.

8. State of Denial

Remember when you were 2 years old and you thought you could hide by closing your eyes? When the
stock market plunged last winter and spring, that's just what investors did, leaving their quarterly statements
sitting unopened on the counter.

If watching too closely would make you abandon a reasoned investment strategy, go ahead and ignore a
statement or two. But losses don't go away just because you don't look at them, Tarbox points out. At some
point, particularly if you're nearing retirement or need the dough for some other reason, you need to take a
look, assess where you are, and figure out what to do about it.

9. Hoarding Money

Children of the Depression did a lot of this — stuffing $20 bills in their bibles or balling up tinfoil and rubber
bands so they wouldn't have to buy more. But planners say that this is often a problem with wealthy and
responsible older folks today: They're so afraid of running out of money that they don't enjoy the money that
they have.

"When people deny themselves things that they could clearly afford, you have to ask them what they're
saving that money for," Tarbox says. "We have to tell them that they're not spending enough."

If you're worried about running out of money, sit down with a financial planner and work out the math. Make
sure you consider worst-case investment scenarios, not just the averages. That will make you more
comfortable about weathering a bad patch like the one we just muddled through. Then, if you still have more
than enough, make a plan that will allow you to enjoy your wealth by either spending the excess or giving it
away.

Money, after all, is a means to an end — not the end itself. You save it to make you, and the people you
love, calm and comfortable. And it's a lot more fun to take the kids and grandkids on vacation — or provide
them with college money or other gifts while you're around to get the hugs and kisses — than to know that
they'll inherit a fortune after you die.