Investing: reckless money habits you need to recognize and guard against

What if you can’t rebuild everything, a friend asked. She spoke about her childhood and losing her father when she was too young to even remember. The tragic stories of being betrayed by relatives and the family losing property and wealth; the struggles of the seven children who are still in school; and the hapless uneducated and uninformed mother who signed every paper handed to her. Such a cruel tragedy. She believed that her determination and determination to be financially secure led her to where she was as an adult – independent, fearless, and hardworking. She then asked me if that financial devastation was a thing of the past now that we live in the modern world of free enterprise, insurance, and a consumer culture that feeds many businesses. She would be surprised.

I was once invited to speak with a small group of ex-bankers who had taken VRS and were keen to learn the modern tools of investing. Upon meeting them, I realized I was speaking to a group who were addicted to on-screen day trading, indulged in derivatives trading, which they barely understood, and very passionate about PSU bank stocks. That was in 2006 and I learned a few years ago that at least four of them are now bankrupt and blame the government for their misery.

Not long ago, another friend called me to spread the horrific story of a huge credit card debt her husband had run up without telling her. They had to sell their house to pay off that and many other different loans he took out to start businesses, all of which had failed.

We no longer need unexpected natural disasters to unbalance a household, I said to my friend. The modern world offers multiple routes to bankruptcy and many go into it with impunity. Poor households participate in leaflets running in the neighborhood and lose their savings to unscrupulous operators. Middle-class citizens and retirees are chasing higher returns and investing in shady custodians and questionable stocks. The rich buy into curated systems and structures and lose money beyond being too ashamed to admit they are obsessed.

What makes hard-working, otherwise sane people recklessly lose money? Behavioral scientists will attach it to overconfidence. Many overestimate their ability to make money. Sociologists believe it’s about belonging to a league or community and adopting money habits and tricks that make you a group of intelligent people. Psychologists consider it a behavior of denial and coping when someone realizes they cannot build wealth to the extent they dream of and therefore takes extreme measures.

How can we know? What can we do to avoid falling into a trap? What can we do to help?

Look for favorite theories and success stories. When people think they’ve found the precious key to simple wealth, they can’t help but brag about it. They would act like they were the generous ones, letting others into their newfound world of surefire riches. The truly successful investors are well aware that repeatable, predictable formulas for success do not exist. You can speak of an approach or a framework; but they won’t tell stories, and worse, they won’t drop names for others to pick up on. Be wary of get-rich-quick stories. Be even more wary of stories that are slowly creeping into the general consciousness just because they’ve been floating around long enough.

Be alert when reckless spending is unannounced and unexpected. It is well known that easy money is easy to spend. We’re prepared to treat it casually. One-off windfall wins are squandered before you realize they’re lost. There are many tragic stories of lottery ticket winners becoming beggars; and by Kaun Banega Crorepati winners returning to their former jobs.

Always be careful with concentrated bets. When all of the household wealth is invested in the family business; when family members’ personal guarantees for loans even cover the house they live in; if the employee’s entire assets are in ESOPs of the company in which he works; and if a big house or a safe-deposit box full of bullion and jewels is all you need to bang around the Middle East for years, recognize each of those positions as high-risk positions.

As boring as it sounds, wealth is built over time in a diversified portfolio that provides income, growth and liquidity. Assets become less risky through diversification. Good quality long term investment products are not dramatic in the way they are structured, sold or managed. Anything else that’s being pursued for the thrills and tricks they offer has to be on the periphery of the portfolio. The portfolio should not suffer if they are completely lost.

It’s hard being the friend who tells the truth and holds up the mirror. We love being surrounded by people who think like us or admire and approve of us at all times. Those who speak up risk losing the relationship. But they are precious as they are the ones who will save us from doom. Make sure you have at least one such ruthless friend in your life. You are blessed if this is your partner or relative. Care for and appreciate that person.

How do you help someone who is in trouble?

First, allow them to speak up, admit the harm, and seek help to remedy the situation. Without a safe place to talk, they may choose to live in denial. Second, let them liquidate their remaining assets and rebuild block by painful block. Bailing someone out will only perpetuate the wrongdoing and encourage them to try again. Third, support them through the process of capital punishment from the habits that caused the ruin. People struggle to make behavioral and habit changes. Fourth, help secure income and control expenses. Without these two tools, progress on any personal finance problem is difficult.

Nobody seeks ruin voluntarily. But it’s alarming how many fall for it out of greed, ignorance, hubris, or false bravado. Look for signs in your life and make corrections. My friend’s tragedy was unfortunate; she had the courage to overcome it. Modern financial tragedies are stupidities; They need a lot more to be adjusted properly.

(The author is Chair of the Center for Investment Education and Learning)

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