In my work with clients as a Financial Planner, and during my research for the personal finance books I have written, I have identified what I believe are the five main reasons why many people fail to get any wealthier.
What follows is a description of these five financial mistakes. They might not all apply to your own personal financial planning but I hope you will find at least a couple of useful nuggets as you read this article.
1 - You don't really understand inflation
It is an unfortunate fact of life that things get more expensive over time. This is measured by inflation and each month we are told the official rates of inflation. These come in two flavours - the Retail Prices Index (RPI) and the Consumer Price Index (CPI). Both measure the change in the cost of a basket of goods and services.
The Government uses the latter, CPI, as their main target measure for inflation. At the moment it is hovering at around 2% per annum. RPI inflation is around the 4% level at the moment.
It is easy to look at a 2% annual inflation figure and not get too excited about it. Assuming that it remains at 2% today, that £1 loaf of bread you purchased at the supermarket this morning will cost you £1.22 in 2018. It's an increase, but one that you can probably live with given the gradual nature of this price change.
What you might not realise it that the official Government inflation figures are largely meaningless on a personal level. Your own experience of price inflation is very likely to be different from the official version because we all have different spending patterns. This could explain why any inflationary increases in your earnings are quickly eaten up by the rising cost of living.
Take a few minutes to calculate your personal inflation rate using this online calculator from the Office of National Statistics. It will give you a figure to work with that you can use when you are negotiating salary increases or drawing up your business plans for the year ahead.
2 - You earn more so you spend more
Trying to keep up with the Joneses could be holding you back from becoming wealthier. It is the overwhelming desire to buy a new television, flat screen TV or Caribbean holiday that prevents you from paying off debt and building your financial resources.
This has been described as 'affluenza'; a blend of affluence and influenza. In his book, British psychologist Oliver James argued that there is a correlation between increasing levels of affluenza and the resulting increase in material inequality. Affluenza is what messes up the things we want with the things we really need, and that is preventing many people from becoming wealthier.
In theory, building wealth should be easy. If you have a certain level of expenditure today then every time your earnings increase, as they tend to be with age and experience, you will have more surplus income. But that is just the theory. In practice, you earn more so you spend more. Expenditure rapidly inflates to match (or exceed) your new level of income. Keeping up with the Joneses is what is keeping you from acquiring wealth.
3 - You don't follow a long term investment strategy
Recent global stockmarket volatility has reminded many investors about the importance of having a long term investment strategy - and sticking to it. Short term falls in the value of your investments are pretty much irrelevant when you have ten or twenty years left until you reach your financial objective. It usually makes sense to sit tight and ride out the storm.
The alternative to following a long term investment strategy is, of course, simply reacting to what is happening in the markets. Many investors work on this basis. They panic when prices plunge and sell their investments at the worst possible time. These are the same investors who only buy shares when the values are shooting up, usually missing the bandwagon (and best investment returns) in the process.
If you want to become wealthier then there is no substitute for having a written Financial Plan and sticking to it. Matching your investment decision to your financial objectives will ensure that you react to market conditions based on logic rather than emotions.
4 - You spend time on the trivial stuff and neglect the important stuff
How much attention do you actually pay to the most important financial transactions in your life?
Some recent research from a personal finance website discovered that we spend twice as long planning our annual holiday as we do considering our mortgage. The research found that over a third of Brits spend at least ten hours selecting their ideal holiday but only 21% would put the same time into choosing a mortgage.
There could be many reasons for this lack of focus on the more important areas of your personal financial planning. By stepping back for a minute and considering where you can add greatest value to your wealth, you can determine how long you should be spending on different financial transactions.
The biggest financial transactions are likely to lead to the biggest cost savings. For example, your mortgage is usually a good place to start simply because it is often the largest debt you will ever having in your life. Managing to make even a small difference to the interest rate can lead to substantial savings. With up to 1.4 million mortgages coming to the end of a fixed rate deal in the next twelve months, this should be a priority for many households.
5 - You think price is more important than value
A fool knows the price of everything, and the value of nothing. When you make your financial decisions based purely on price you are reducing the chance of building long term wealth. Saving money on the purchase price of an item or service is only one part of the decision making process. There are many occasions when spending a little more results in significantly greater long term value.
This mistake could reflect the short term nature of your attitude towards money. It is easier to rationalise a saving of £10 today than a saving of £20 at some undetermined point of time in the future. When you live like this, always looking for a bargain, you miss out on the bigger picture.
Start making decisions based on value as well as price, and you will have a winning combination for greater wealth.
What follows is a description of these five financial mistakes. They might not all apply to your own personal financial planning but I hope you will find at least a couple of useful nuggets as you read this article.
1 - You don't really understand inflation
It is an unfortunate fact of life that things get more expensive over time. This is measured by inflation and each month we are told the official rates of inflation. These come in two flavours - the Retail Prices Index (RPI) and the Consumer Price Index (CPI). Both measure the change in the cost of a basket of goods and services.
The Government uses the latter, CPI, as their main target measure for inflation. At the moment it is hovering at around 2% per annum. RPI inflation is around the 4% level at the moment.
It is easy to look at a 2% annual inflation figure and not get too excited about it. Assuming that it remains at 2% today, that £1 loaf of bread you purchased at the supermarket this morning will cost you £1.22 in 2018. It's an increase, but one that you can probably live with given the gradual nature of this price change.
What you might not realise it that the official Government inflation figures are largely meaningless on a personal level. Your own experience of price inflation is very likely to be different from the official version because we all have different spending patterns. This could explain why any inflationary increases in your earnings are quickly eaten up by the rising cost of living.
Take a few minutes to calculate your personal inflation rate using this online calculator from the Office of National Statistics. It will give you a figure to work with that you can use when you are negotiating salary increases or drawing up your business plans for the year ahead.
2 - You earn more so you spend more
Trying to keep up with the Joneses could be holding you back from becoming wealthier. It is the overwhelming desire to buy a new television, flat screen TV or Caribbean holiday that prevents you from paying off debt and building your financial resources.
This has been described as 'affluenza'; a blend of affluence and influenza. In his book, British psychologist Oliver James argued that there is a correlation between increasing levels of affluenza and the resulting increase in material inequality. Affluenza is what messes up the things we want with the things we really need, and that is preventing many people from becoming wealthier.
In theory, building wealth should be easy. If you have a certain level of expenditure today then every time your earnings increase, as they tend to be with age and experience, you will have more surplus income. But that is just the theory. In practice, you earn more so you spend more. Expenditure rapidly inflates to match (or exceed) your new level of income. Keeping up with the Joneses is what is keeping you from acquiring wealth.
3 - You don't follow a long term investment strategy
Recent global stockmarket volatility has reminded many investors about the importance of having a long term investment strategy - and sticking to it. Short term falls in the value of your investments are pretty much irrelevant when you have ten or twenty years left until you reach your financial objective. It usually makes sense to sit tight and ride out the storm.
The alternative to following a long term investment strategy is, of course, simply reacting to what is happening in the markets. Many investors work on this basis. They panic when prices plunge and sell their investments at the worst possible time. These are the same investors who only buy shares when the values are shooting up, usually missing the bandwagon (and best investment returns) in the process.
If you want to become wealthier then there is no substitute for having a written Financial Plan and sticking to it. Matching your investment decision to your financial objectives will ensure that you react to market conditions based on logic rather than emotions.
4 - You spend time on the trivial stuff and neglect the important stuff
How much attention do you actually pay to the most important financial transactions in your life?
Some recent research from a personal finance website discovered that we spend twice as long planning our annual holiday as we do considering our mortgage. The research found that over a third of Brits spend at least ten hours selecting their ideal holiday but only 21% would put the same time into choosing a mortgage.
There could be many reasons for this lack of focus on the more important areas of your personal financial planning. By stepping back for a minute and considering where you can add greatest value to your wealth, you can determine how long you should be spending on different financial transactions.
The biggest financial transactions are likely to lead to the biggest cost savings. For example, your mortgage is usually a good place to start simply because it is often the largest debt you will ever having in your life. Managing to make even a small difference to the interest rate can lead to substantial savings. With up to 1.4 million mortgages coming to the end of a fixed rate deal in the next twelve months, this should be a priority for many households.
5 - You think price is more important than value
A fool knows the price of everything, and the value of nothing. When you make your financial decisions based purely on price you are reducing the chance of building long term wealth. Saving money on the purchase price of an item or service is only one part of the decision making process. There are many occasions when spending a little more results in significantly greater long term value.
This mistake could reflect the short term nature of your attitude towards money. It is easier to rationalise a saving of £10 today than a saving of £20 at some undetermined point of time in the future. When you live like this, always looking for a bargain, you miss out on the bigger picture.
Start making decisions based on value as well as price, and you will have a winning combination for greater wealth.