By Frank Randall
This month we are looking at part three of our four-part journey into common financial pitfalls and what can we do about it! Previously, we explored the common pitfalls of financial disorganization and the lack or prioritization (along with some solutions to combat to be sure to check those out!)
Today, the pitfall we are going to examine is prioritizing rate of return over savings rate. First off what are we talking about from a definition standpoint? In my opinion, there are two ways to build savings and wealth. First it is to grow your wealth via investments with a positive rate of return. Secondly, it would be to increase the amount of money we save every month. Pretty straight forward.
When people’s finances are disorganized, they often measure success solely through the lens of rate of return. If their investments or retirement accounts are up year over year, then they must be doing well, right? This really is a limited strategy that only looks at one part of the balance sheet, not to mention that you really have no control in how your investments do. When we chase rate of return, we have to accept that we are at the mercy of the market – we do not control the rate of return at the end of the day.
Over the last 2-4 years, in my opinion, there has been a noticeable uptick and interest on social media from ‘financial entertainers’. These are people who are not licensed, but want to grow their TikTok or Instagram followers by posting trendy stock “tips”. It is a constant chasing of rate of return that really has been around for decades but has become more visible with social media. While getting into the stock market is great, going in too fast can put your plan at risk when unexpected life events occur.
A significantly better indicator of financial health that is 100% within your control is the rate at which you save. This savings rate gives a much clearer picture into someone financial health. Where you save is a topic for another day, but before we go into the market and make quick investment decisions let’s practice on building up cash and emergency money for unexpected events.
One of the first things we can do to become a better saver is to pay yourself first! I’d suggest setting up a separate savings account, away from your primary bank, to make consistent deposits into cash. The reason why you’d want it away from your bank account is to keep it out of sight, out of mind.
Building up liquidity is often more important than rate of return. It’s important to remember that every dollar has a purpose, and if a home purchase or something major is on the horizon, earning 0.01% interest at a bank is sometimes better than the volatility of the market. Cash on hand at times > potential rate of return. When people chase the stock market too soon, it can put their short-term goals at risk!
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