Personality can play a major role in how a person handles money: something as fundamental to personality as how risk-averse a person is can have lifelong consequences to his or her earning potential. The concept of' 'behavioral finance' is taking that idea further. Financial advisors now study how a person's personality, emotions and attitude can change how he or she invests his or her money. Because people can't be counted on to behave perfectly rationally, especially when it comes to money, behavioral finance attempts to predict where personality can impact decisions, possibly to the point of being able to explain how bubbles and crashes are caused.
Key traits to look for include the following: overwhelm, distraction, risk-taking, optimism and overconfidence can all provide their own unique problems when it comes to making financial decisions.
For someone who is overwhelmed, it's common to feel stuck. Statistically, this personality trait is most likely to be found in those with the least education, as well as the least income. Such personalities have a tough time even seeing the value of financial planning and may take no action on their finances at all.
Distraction can be a dangerous personality type. It's most often found in people who are otherwise financially secure, often among the highest-earners, but who may be dealing with young children, careers or other matters that they prioritize over their finances. Distraction often results in a person making some effort to save when he remembers, but failing to put a full financial plan into place.
While risk-taking can be beneficial in small doses, this character trait can too easily lead someone to treat investing as he or she might treat gambling, with all the potential for gambling that entails. With this characteristic, it's easy for someone to pursue a risky scheme without fully educating himself on what's required and what chance of success is actually present. The opposite (a lack of willingness to take risks) can have its own dangers, as well. Knowing how to manage risk can be a very valuable business skill.
It may seem as if optimism is a good thing, but a little too much hoping for the best rather than working for it can cause problems. Someone with this characteristic might be aware of problems, but he or she may be able to reimagine them so that they don't require planning or dealing with. That can be true of both current issues and potential crises down the road.
Someone who is overconfident may be fully aware of the potential financial pitfalls out there but may also assume that he or she is fully prepared to handle anything that comes along. That can lead to vague plans and contingencies, some of which might be very drastic (like selling a home), without solid actions to take.
The Bottom Line
While these personality traits are a fact of life, a person can be aware of his or her own personality but will likely be unable to change it. There are some strategies that can minimize the impact. Finding a knowledgeable advisor or partner who has a very different personality can help add balance to the decision-making process. If an individual recognizes that he or she is struggling with a particular type of decision, it may even make sense to hand it off entirely to someone else. It's also crucial to keep an open mind and to seek out contrary information to avoid repeating the same approach if it isn't working. Personality may always play a role in how a person handles money, but with the right knowledge, most people will be able to avoid the mistakes that certain personality traits might otherwise lead them to.