The Power of Simplicity: Why Your Finances Shouldn’t Be Complicated
There are countless biases and cognitive errors that humans make on a daily basis -- and many of them can affect whether or not you find financial success.
That’s because evolution hasn’t quite kept up with the rapid pace of societal and cultural development, so we’re stuck with the original operating system with programs that often lead us astray in the modern world.
One of the trickiest biases to navigate when it comes to managing your finances is known as complexity bias, or the human tendency to “give undue credence to complex concepts.”
In other words, we’re more attracted to complicated products and solutions…even when the simpler approach would serve us better.
Are you falling for the fallacy of complexity?
Complicated systems are more likely to break down and fail, and even when they work, they’re harder to manage than simpler solutions. Even though we’re wired to think it, complexity is often not beneficial -- and this is especially true when it comes to your finances.
Unfortunately, there are parts of the financial industry that take advantage of both the fact that people are prone to confuse “complicated” with “better” -- and the fact that it’s easy to hide unnecessary costs or poor performance within an overly complicated plan or product.
Many advisors deliberately peddle overly complex solutions because they’re easier to market and sell. It’s also easy to pass complexity off as valuable, even though these two things aren’t necessarily related.
A complex investment strategy that has 25 mutual funds, for example, can make it hard for a you to really understand what’s going on within your account. It then becomes more difficult to account for all the fees and to understand the purpose of each fund.
Meanwhile, an investment strategy with 8 holdings could probably accomplish the same thing as the more complicated portfolio in a much more efficient, low-cost way (as more funds typically equates to more management fees for you as the client).
The simpler strategy is probably not as exciting or exotic. But it’s more likely to help you reach your goals for a lower cost.
Keep your finances simple and straightforward
Simple plans and solutions are the best way to go because they’re easy to maintain, easy to understand, and easy to implement. Also, the ability to take action with a simple plan might be one of its most important qualities.
All the information, complexity, and fancy strategies in the world won’t do you a bit of good if they remain ideas that you don’t any take action on. Your approach to building wealth does not need to get complicated.
In fact, we’d suggest keeping your financial plan and investment strategy as straightforward as possible. The more you truly understand the investment strategy you’re pursuing, the more likely you are to stick with it over time.
All of this being said, suggesting you choose a simpler approach that you can actually understand does not mean you should leave things out of your plan or ignore challenges that need solving.
We want to follow the suggestion often attributed to Einstein: that we make a financial plan “as simple as it can be, but not simpler.”
If there are difficult problems to work through, an advisor can help tackle them with you -- but with as straightforward a solution as possible, rather than overcomplicating it with a lot of unnecessary advice or actions.
Characteristics of a high-quality (but not overly complicated) financial plan
At a minimum, your financial plan should likely consist of a few key components:
Your stated goals, and why they matter to you. In other words, where are you trying to go with your life, how much money will you need to get there, and why do you want to go?
A measure of where you stand today (and the progress you make over time). This is often going to be in the form of a net worth statement that you can update on a monthly, quarterly, or annual basis.
A way to manage your money day to day and month to month. Think things like systems for tracking your spending and budgeting your money coming in.
A plan to save and invest as much as needed to meet your goals: Once you understand where you want to go and how much it will take to get there, you can set targets for the amount of money you need to save and invest. Your systems for tracking and budgeting will help keep you on the right course over time.
From here, we can add some sophistication and nuance -- and yes, even a certain degree of complexity. But only as much as needed.
Just as we don’t want to oversimplify your financial life, we don’t want to make it more complicated than necessary to map out the required actions to take to meet your goals.
Conclusion
When it comes to your personal finances, often the first direction you should travel is towards simplicity (despite what you’re told). However, this shouldn’t be confused with the uniqueness of your finances.
As your situation becomes more complex THEN the proper and adequate (and more complex) solutions may be presented to fit those needs. Not the other way around.
