Achieving financial success would be awesome if there weren’t any risks involved. Unfortunately, there are many risks that can be hazardous to our future financial success. I myself have experienced many of them, and I want to make sure that you won’t have to experience them.
So today, let’s explore the 4 greatest risks to your financial success that you must avoid at all costs.
Topics we’ll be covering:
- Lack of proper cash management
- Risk of short-sightedness
- Taking more risk than you can afford to take
- Sunk cost fallacy
1. Lack of proper cash management
“Cash is king.” How many times have we heard that statement? If you have been investing for some time now, then you must have heard about it. Not only is that statement true for an investor or a businessman, but also it is true for you personally.
Think about it – what can you do without cash? Most of the things you would like to buy require cash, doesn’t it? Cash doesn’t have to be just physical money. It could mean the cash you have in your bank account as well. Well, you need cash to buy clothes or eat at a restaurant. How many restaurant owners are likely to accept that you will pay the bill after 1 month? Not many, I assume – unless of course, if the owner knows you personally.
Failure to manage cash
Failure to manage your cash can lead to unfortunate events. You won’t know where your money is coming from, or where it is going. You might have initially planned to save some money for emergency purposes. Before you know, that money has already vanished in something you had bought last week, which you can’t even remember now.
Importance of managing your cash
In this fast-paced world, it might be difficult to keep a close track of your money. But this is one of the crucial factors on what separates the rich with the middle class & the poor. All rich people know where their cash is coming from, and where they are spending. Particularly, you can learn a lot from millionaires.
So, start building up a proper cash management system that will help you understand where your cash transactions occur.
“There is really only one way to address cash flow crunches, and it’s planning so you can prevent them in advance.”Elaine Pofeldt
2. Risk of short-sightedness
Ok, I accept it. Our mind is wired to find ways to give ourselves instant pleasure. It is designed for us to want it right now. A new phone released? Let’s buy it right away! A new dish on the menu? Gotta try it before everyone else! New movie coming up? Book the movie hall today rather than watching it from Netflix two months later.
What about the future?
While our short-sighted vision will give us instant joy, it is detrimental to our long term vision. When you spend too much money today, you will barely have anything left for tomorrow. That’s how you become broke. It’s not that you did not have the money, or the job pays you less. But it’s your own spending habits that are destroying your financial success.
My Personal Experience
From my personal experience, the best way to tackle the risk of short-sightedness is by creating a long term strategy. I compel myself to save until I reach $XXX. I create a list of items that I need to buy for my basic essentials. Besides that, I forbid myself from spending any more. This strategy requires a lot of discipline, which I lack sometimes. That’s when the advantages of the accountability partner kick in. The assumption is that even if I can’t seem to control my spending habits, at least my friend can do so for me.
“If you buy things you don’t need, you will soon sell things you need.”Warren Buffet
3. Taking more risk than you can afford to take
Many of us are taught as Risk = Reward. This could be true in many ways. But how much risk can you afford to take in the first place?
How much risk can you afford?
There are many factors that determine your risk-taking affordability. The most common ones are your age, your current financial status, your income, and your financial goals.
If you are young, then you can afford to take more risk as even if you make losses, you can always recover it later on. If your financial status is healthy, then you can be sure that you will be able to live properly even if you risk some money. Have a high income invites a riskier strategy. Finally, if your financial goal in the future is to earn a lot of money, then you might have to take more risks to achieve that goal.
Trading vs Investing, and the risk involved
Which one is fun – trading or investing? Obviously, trading, isn’t it? Why buy stocks and do nothing for a year? Instead, let’s get involved with our stocks almost every day.
While trading is more fun, you must aware that it’s riskier too. Would you gamble your money? For many people, trading equals to gambling. You are exposing yourself to many unforeseen risks while trading. Sudden news could swing the market in anyways. Can you afford to see your stocks decrease by 20%? What about 50%?
Also, you will be charged a lot while trading. These charges include taxes, broker commissions, and so on. So, be careful.
If your future money depends a lot on your trading profit, then your risk-taking capacity would be very minimum.
So it’s better to be bored and more certain while investing than to enjoy and take more risks while trading.
“Successful investing is about managing risk, not avoiding it.”Benjamin Graham
4. Sunk cost fallacy
The sunk cost is a fancy term that means the cost which you have already incurred, and cannot be recovered now. For example, you order an expensive dish at a restaurant and pay for it upfront. Whether or not you eat it, you won’t be able to recover your money. So the dish is a sunk cost.
Psychology too plays a great role in your investing and financial related decisions. Why not use the product or service for which you have already paid?
Sunk cost example in business
If you have ever got involved in a business, you can relate to this. You know how much commitment you have given to make your business successful. You work day and night for years, and still, there’s no certainty that your business will make a profit. If it failed to make a return, then you start questioning whether you should continue your business, or leave it there. Since you have invested so much time and money that cannot be recovered now, you don’t want to stop with your business. But logically, you know that you should quit. The Sunk cost fallacy has been one of the main reasons why most businesses hesitate to close down.
My personal experience with sunk cost
Similar to businesses, the same could happen while investing as well. When I bought my first stock, the sunk cost fallacy kicked in. My stock had lost more than 20% already. What should I do? If I sell, then I won’t be able to recover the lost amount. So as I was thinking emotionally at that time, I decided to hold it for a little longer. Before I knew, it had lost more than 30%. I sold it right away.
I could have incurred fewer losses if I had sold my stock beforehand. Only if I was aware of the sunk cost fallacy at that time…
Besides sunk cost, there were a few other investment lessons I wish I had learned earlier.
“Don’t cling to a mistake just because you spent a lot of time making it.”Aubrey De Graf
Achieving financial success is a “dream” for most of us. The risks involved in the process makes it a “dream”, and not yet a reality. Only a few can master the risk and make financial success a reality. So avoid these 4 greatest risks at all costs to achieve your financial success.
We’ve written a similar article describing the 5 psychological traps you must avoid while investing – 5 Investment Psychological Traps and Ways to Overcome Them.