Opinion
Scared to invest? You might be thinking about it all wrong
Paridhi Jain
Money contributorSometime back, I was in a conversation with someone sharing that they were burnt out and wanted to quit the corporate job they’d had for years and go travelling for several months.
Their family certainly didn’t approve. How could they quit without a plan? Didn’t they want to get ahead? What about their future? How could they just throw it all away?
When it comes to money, people often struggle to discern the difference between actual and perceived risk. It could be holding you back.Credit: Simon Letch
This person had plenty of savings. They didn’t have financial responsibilities like kids or a mortgage. They had a stellar resume at a respected company, and it would likely have been fairly easy for them to find another job in the industry.
But none of that seemed to assuage their (or their family’s) fear of leaving.
Having worked with hundreds of people in improving their finances, I frequently notice that most people struggle to discern the difference between actual and perceived risk.
In the story above, the actual risk is much lower than the perceived risk. What’s the actual risk? What is the likelihood that a senior professional with a stellar resume and reputation in a high-skilled industry won’t ever get another job? Pretty low.
The bigger the gap between the actual risk and your perceived risk, the more suboptimal your decision-making will be. You’ll either unwittingly take on more risk than you want (when your perceived risk is lower than the actual risk), or you’ll unnecessarily rob yourself of the payoffs of taking risks (where your perceived risk is higher than the actual risk).
Here are some common examples of an incongruence between actual and perceived risk:
- Are you excited about the idea of buying a property, even if it comes with a multiple six-figure mortgage, but scared to invest $1000 in the share market?
- Does the idea of investing in shares scare you? Meanwhile, you have thousands invested via superannuation.
- Do you think “investing is risky” but don’t think it’s risky to have your entire financial security dependent on a single source of income that’s tied to your ability to earn?
- Are you worried about losing money in a market crash or recession but are not concerned about losing money to inflation every year?
Improving your ability to identify and assess actual risks starts with questioning your perceptions of risk so you can close the gap between the two. Here are some questions that will help:
- Where did I learn that this is “risky”? What evidence do you have that the thing you perceive as risky is, in fact, risky? Did you develop that belief based on anecdotal evidence or what other people told you? How credible, complete and reliable are those sources of information
- What are the specific risks involved with this decision or activity? Try to get as specific as possible. If you come up with “I might lose money”, try to go the next step – how? Why would you lose money? The more specific you get, the easier it is to see how big that risk actually is and what strategies you can use to mitigate it. The more general the risk, the more it keeps you paralysed in fear. “Investing is risky” is so general that you can’t do anything about it. “If I invest in shares, the company could go bust” is a more specific risk. You can then go, “Okay, well, maybe I could buy an ETF instead to diversify my risk across different companies.”
- What are the risks of the alternative? See, you don’t have a “risk-free option”. It’s not true that one option is risky and the other is not. It’s more accurate to say that both options have different risks. You don’t get to choose an option without risk. You only get to choose which risks to take on.
Investing has certain risks associated with it, and not investing has different risks associated with it. Buying a home and taking on a mortgage has certain risks associated with it, but not buying a home and continuing to rent has other risks associated with it.
When you start to get clear on the risks associated with the alternative option, it forces you to get a clearer picture of the risks involved on both sides of the fence.
Misperceptions of risk thrive on emotions and assumptions. When you start to challenge and question your perception of risk, you give yourself the opportunity to make more informed and balanced decisions, paving the way for better outcomes.
Paridhi Jain is the founder of SkilledSmart, which helps adults learn to manage, save and invest their money through financial education courses and classes.
- Advice given in this article is general in nature and is not intended to influence readers’ decisions about investing or financial products. They should always seek their own professional advice that takes into account their own personal circumstances before making any financial decisions.
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