Financial planning: What are common mistakes to avoid
October 28th, 2024 General Blog
Financial planning is a detailed process of understanding one’s financial status and milestones and then coming out with a comprehensive solution. However more often than not, financial planning is looked at more from a quick fix solution. I often come across people asking me which product I should invest in. The question is not about where to invest, but why to invest, which will decide your asset allocation. However the habit of jumping to fast solutions sometimes end up having adverse consequences. The common mistakes which I have come across while people plan their finances are as under:-
1) Current status and Way ahead:-
Financial planning can often be compared to a long distance travel. The first thing we do when we plan our travel is understand which places we want to go to. Then we decide on the affordability of the same. Then we decide on the mode of transport, whether the travel has to be completed by plane, bus, train etc. Then finally we buy the ticket and get our travel plans implemented. Similarly in financial planning; the first step should be to understand where I want to go, as in to decide your goals or milestones to be achieved. The second step should be to understand your current financial position which is your assets, liabilities, cash flows, taxation etc. to exactly know where you stand as of today. The third step should be to choose the asset class and products if required to reach the goal. Finally, the plan needs to be implemented because “A financial plan not implemented is a futile excersise”. However we more often than not first choose a product and get impressed with its features and invest in it not realising whether the same fits into our scheme of things. So it’s like first choosing our mode of transport and then deciding on the location.
2) Listen to advice, implementation can wait:-
In the process of financial planning, we come across a few people who are very excited about the whole exercise initially. They are keen to take advice and understand their financial status from a financial planner. However, taking advice is just a small percentage of the entire financial planning exercise. The process actually starts after the plan is presented. The implementation is of crucial importance because, a delay in the same will affect the effectiveness of the suggestions and achieving one’s milestone could become difficult. Similarly regular financial plan reviews are extremely crucial because there would be changes in one’s goals, incomes and expenses. One needs to know where he has reached in comparison to his goals in the financial planning excersise.
3) Emotional planning for logical decisions:-
Financial planning deals a lot with financial behaviour of the individual. We often see people investing in markets at the highest point and refrain from investing when valuations are indeed attractive. Similarly we tend to follow fads a lot, so if gold or real estate seems to be doing well we end up allocating a major part of our portfolio towards such assets. This hampers our portfolio allocation. However what causes a real dent in our path to effective financial planning is our expenses which are more often than not driven by emotional needs. It can be a small purchase in a shop or a big purchase like buying your home. We tend to base decisions on emotional counts. We often come across cases where the budget to buy a car was Rs. 4 lacs but ended up spending more than double the amount. Another common example is that of home rennovation which always over shoots the monetary limits assigned. So every time there is a cash outflow its extremley important to ask whether what we are giving into is a need or a desire.
4) Short term memory :-
I often conduct corporate seminars on financial planning and I have seen a trend in the questions asked by particpants at various market conditions. When markets are doing well the questions are more about assets which are growth oriented and less biased towards security of ones asset class. Similarly when markets start tapering down everyone is on look out for guranteed return products. This is a problem, as our portfolio needs to be well balanced and has to be reviewed from time to time. We tend to forget the past as to how certain assets behaved and tend to focus all our attention only looking at the immediate present. This can prove expensive in the long run.
The mistakes mentioned above are just a few of the several mistakes which we do in managing our finances. These errors, if not tended to, can lead to bigger financial blunders in the long run. However it is never too late to try and get your finances in place. All it requires is a proper guidance and a strong financial discipline.
