Open Your Eyes to Financial Blind Spots

Physician's Money Digest, May 15 2004, Volume 11, Issue 9

Could you live comfortably on 80% of yourincome? Would you drive 20 minutes to save$8? Which would you choose: a sure gain of$240 or a 25% chance to gain $1000?

These are just some of the questions physicians,lawyers, and accountants were asked in a recentNorthwestern Mutual survey of 2700 US professionalswith annual incomes of $75,000 or more. The sciencebehind the questions is behavioral economics, a fairlynew and increasingly relevant discipline that combinespsychology and economics to explain why smart peopleoften make big money mistakes. The answers are a windowinto the most common blind spots that hinderphysicians and other professionals.

Different Answer, Same Question

When asked whether they would be able to livecomfortably on 80% of their current income, 72% ofphysicians said yes. But only 45% of doctors said theywould be able to save 20% of their household incometoday—which is really the same question, framed in adifferent way.

Two thirds of physicians polled said they would definitelydrive 20 minutes to pay $10 for an alarm clockthat was selling for $18 closer to home. But when itcame to driving 20 minutes to save the same $8 on a TVselling for $250 in a neighborhood store, 75% drew theline and said they would spend an extra $8 for the convenience.Their mental accounting treated money differentlydepending on how it was going to be spent, whenin fact all money spends the same.

When asked to choose between a sure gain of $240or a 25% chance to gain $1000, 80% of the physicianssaid they would take the sure gain. When the choice waschanged to a sure loss of $240 vs a 25% chance to lose$1000 (or a 75% chance to lose nothing), 69% of physiciansopted for the chance to lose nothing. This behavioris called loss aversion. People will avoid a sure loss atall costs, because to them, losses are more significantthan gains, even if it's not true.

Sound familiar? These three key blind spots—framing, mental accounting, and loss aversion—werecommon not only to physicians, but to all the professionalspolled. Some other common blind spots thatemerged include status quo bias (following the herd,even when it's not in your best interest), overconfidence (overestimating your abilities, knowledge, andskills and being overly optimistic about your financialfuture), and decision paralysis (doing nothing in theface of a long list of choices).

Bad Financial Habits

Like all habits, bad financial habits can be difficult tochange. Understanding your blind spots is a good firststep toward adjusting your behavior and truly attainingfinancial security. Many of the biggest mistakes physician-investors make seem to come from decisions basedon emotion. With a well-crafted strategy based on clearfinancial goals, objectivity can trump human naturewhen making important choices.

Most physicians don't have time to educate themselvesabout all the options in the marketplace. Morethan a third polled see a financial professional less thanonce a year, while more than 10% have never seen oneat all. By talking with a qualified financial professionalyou can sort through the options and develop a planconsistent with your personal goals.

You control your financial destiny, so you may wantto ask yourself if your blind spots are controlling yourfuture or if you are. Will you be the physician maxed outon credit cards, with huge loans for your house, car, andkids' private schools, who works to maintain a show ofsuccess? Or will you be the physician enjoying a nicehome, family vacations, and children in fine schools,who is in a position to choose a retirement age?

John Adams is a financial representative with theNorthwestern Mutual Financial Network based inAkron, Ohio, for the Northwestern Mutual LifeInsurance Company, Milwaukee, Wis. To contactMr. Adams, please call 330-668-6135 or e-mailhim at john.adams@nmfn.com.