“Never go to excess, but let moderation be your guide.” – Marcus Tullius Cicero
Humans tend to have a difficult time with moderation. This is especially true when it comes to money. In fact, there are a number of ways in which excesses can lead to money mistakes, including some that may come as a surprise to many.
One of the obvious ways that excess can lead to money problems is overspending. Too many people spend beyond their means and therefore cannot fund their longer-term financial goals, such as for retirement or their children’s education. In addition, overspending often leads to excess debt. High debt leads to high lifetime interest costs as well as the risk of a negative adjustment to your standard of living should income decline. On the other hand, moderation in spending and the reasonable utilization of debt can be the foundation for a sound financial plan, which may increase the likelihood of achieving financial goals.
Overly aggressive investments are another type of excess which can lead to financial challenges. It is easy to hold aggressive investments when the economy is strong, incomes feel secure, and the financial markets are trending upward. The problem is that most people’s risk tolerance changes with their environment. When the economy tips into recession, incomes fall, and the financial markets are trending downward, it can be very difficult to ride out the decline. Instead, many people sell their risky investments at inopportune times, locking in investment losses in the process. This can significantly damage a financial plan, leading to poor results. In contrast, moderation in investment risk can lead to a slow-and-steady return pattern which may not be very exhilarating during the good times but makes the bad times tolerable.
Moderation is also important when it comes to tackling financial goals. Sometimes individuals seek to speed up their progress toward their financial goals by aggressively funding their retirement plan or a college savings account. Unfortunately, if these accounts are funded at the expense of an emergency fund, it can create a cash shortage when incomes decline or an unexpected expense occurs. This can result in high borrowing costs or penalties for accessing retirement or college savings accounts. These costs could more than offset the benefits from aggressively savings for long-term goals. It is best to exercise moderation in working toward long-term goals. After all, we have all heard the saying the “slow and steady win the race.”
In some cases, aggressively paying down debt can also create problems. For example, a borrower who aggressively pays down their mortgage may find that they need to refinance in order to access their money. This can result in unnecessary fees and possibly higher interest rates if rates have increased since the first mortgage was established. Another risk is committing to a shorter-term mortgage with a higher payment. If an individual chooses a 15 year mortgage over a 30 year mortgage, they may pay off the mortgage at a faster pace. However, their minimum payment will be roughly 50% higher. Should cash flow become a problem in the future, the higher payment could lead to financial hardship which may prove more costly than the amount of interest saved. In this case, moderation may preserve financial flexibility, which may be needed in the future should the financial environment change.
The financial press and the advertisements of financial companies often give the impression that financial success can be achieved overnight by buying a hot investment or using a proprietary financial system. The truth is that for most people financial success comes from taking small, incremental steps day-after-day toward a stated goal. This moderation is an important trait for those who hope to implement a financial plan that has a reasonable probability of success.