If you’re in your 50s or 60s and starting to think seriously about retirement, you’ve probably asked yourself some important questions: Have I saved enough? When should I claim Social Security? How should I invest my money now that retirement is so close?
But here’s a question you probably haven’t considered: Are my own emotions and psychological biases putting my retirement at risk?
Most people think retirement planning is purely a numbers game. Save enough, invest wisely, and you’ll be fine. But research shows that’s only part of the story. The way you think, feel, and react to financial information can have just as much impact on your retirement success as how much you’ve saved.
This is where behavioral finance comes in.
Behavioral finance is the study of how psychology and emotions influence our financial decisions. It explains why smart, successful people often make irrational choices with their money, especially during times of market volatility or major life transitions like retirement.
Understanding behavioral finance isn’t just academic. For pre-retirees and retirees, it’s critical. Unlike younger investors, you don’t have decades to recover from emotional mistakes. One bad decision driven by fear, envy, or overconfidence could significantly impact your quality of life in retirement.
The good news? Once you understand the psychological biases that affect your financial decisions, you can take steps to counteract them. Let’s explore four of the most common behavioral finance traps that threaten retirement security, and more importantly, how to avoid them.
1. The FOMO Effect: When Envy Costs You Everything
Remember the GameStop craze? Or that coworker who won’t stop talking about their latest stock pick?
That uncomfortable feeling you get when everyone else seems to be making money except you? That’s envy. And in the world of retirement planning, it’s one of the most expensive emotions you can have.
Behavioral economists call this the “lottery ticket effect.” We’re hardwired as humans to chase big wins, even when the odds are terrible. It’s why Americans spend $73 billion on lottery tickets every year, despite having a one in 292 million chance of winning Powerball.
When it comes to investing, this same tendency causes us to abandon our steady, diversified retirement portfolios in favor of whatever’s “hot” right now. We buy high because everyone else is buying. Then when it inevitably crashes, we’re left holding the bag.
The Isaac Newton Example
If you think you’re immune to this, consider this: Isaac Newton (arguably one of the smartest people who ever lived) lost over $3 million (in today’s dollars) to this exact bias. In 1720, he made money on South Sea Company stock, sold it, then watched it continue to soar. Convinced he was missing out, he bought back in at the peak and lost a fortune when it crashed.
Newton later said he could “calculate the motions of the heavenly bodies, but not the madness of people.”
If Newton couldn’t outsmart his emotions, what makes us think we can?
The Perspective Problem
Here’s an interesting psychological study: Researchers found that bronze medal winners at the Olympics are actually happier than silver medal winners. Why? Because silver medalists focus on how close they were to gold, on what they missed. Bronze medalists are just grateful they got a medal at all.
The same principle applies to your retirement portfolio. When you’re constantly comparing your returns to the “winners” you hear about, you’ll always feel like you’re losing, even when you’re actually on track for a secure retirement.
2. Loss Aversion: Why Losing Hurts Twice as Much
Here’s a psychological fact that explains so many of our money mistakes: Studies consistently show that losing money hurts about twice as much as gaining money feels good.
This is called loss aversion, and while it might have helped our ancestors survive, it’s absolutely terrible for retirement planning.
The Panic Sell
Picture this scenario: The market suddenly drops 20%. You watch your retirement account balance plummet. The financial news is all doom and gloom. Your stomach is in knots. So you sell everything and move to cash, just to make the pain stop.
You feel immediate relief, until three months later when the market has bounced back and you’ve missed the entire recovery.
This isn’t a hypothetical. It happens all the time. And here’s the kicker: Over the last 20 years, 24 of the 25 best days in the stock market happened within one month of the 25 worst days. By trying to avoid the pain of loss, investors miss out on the biggest gains.
Action Bias
Loss aversion often triggers what behavioral economists call “action bias,” which is the feeling that we must DO something when things go wrong, even when doing nothing is actually the better choice.
Think of a soccer goalkeeper facing a penalty kick. Statistics show that staying in the middle of the goal actually stops more shots than diving left or right. But goalkeepers dive 94% of the time because standing still feels like giving up.
The same thing happens with retirement portfolios. When markets get volatile, we feel like we have to act. We want to rebalance, sell, buy, something. But often, the best action is no action at all.
The Other Side of the Coin
Loss aversion doesn’t just make us panic sell. It can also make us too conservative. Some pre-retirees become so afraid of losing money that they keep everything in savings accounts or CDs. They feel safe, but inflation is quietly eroding their purchasing power every single year.
As you approach retirement, you can’t afford to let fear drive your decisions in either direction.
3. Recency Bias: Your Brain Is Lying to You About Risk
Quick question: When you think about the stock market, what’s the first thing that comes to mind?
If you’re like most people, it’s probably whatever happened most recently. Great year last year? The market feels safe. Bad quarter recently? Everything feels risky.
This is called recency bias. It’s our tendency to give disproportionate weight to recent events and assume they represent the new normal.
The Whiplash Effect
Here’s how recency bias typically plays out in retirement planning:
The market has a great year, and you think, “This is amazing! I should invest more!” So you increase your stock allocation at exactly the wrong time, when prices are high.
Or the opposite happens. The market has a rough quarter, and you think, “It’s all going downhill from here.” So you sell at the bottom.
Both reactions feel completely logical in the moment. But they’re based on a cognitive error. You’re taking a tiny slice of recent history and treating it like the whole story.
The 2008 Lesson
We saw this play out dramatically during the 2008 financial crisis. In 2007, when the market was peaking, investors felt confident and stayed heavily invested. When the crisis hit in 2008, that recent pain was so intense that many investors pulled out entirely and missed one of the greatest bull markets in history that followed.
Warren Buffett understood this perfectly when he said, “Be fearful when others are greedy, and greedy when others are fearful.” In other words, the best investment decisions often feel wrong in the moment because they go against our recency bias.
The Long View
The antidote to recency bias is maintaining a long-term perspective. Yes, the market had a bad month. But what about the last 10 years? The last 30 years? When you zoom out, short-term volatility becomes noise, not a reason to abandon your retirement strategy.
4. Confirmation Bias: Only Hearing What You Want to Hear
Be honest with yourself: When you’re researching a financial decision, do you look for information that challenges your thinking, or information that confirms you’re right?
Most of us do the latter. It’s called confirmation bias. It’s our tendency to seek out information that supports what we already believe and conveniently ignore everything else.
The Echo Chamber Effect
Here’s how confirmation bias shows up in retirement planning:
Maybe you’ve convinced yourself that you should wait until 70 to claim Social Security. So you only read articles and talk to people who support that decision. You ignore any information suggesting that claiming earlier might actually be better for your specific situation.
Or perhaps you’re certain the market is overvalued and due for a crash. So you only pay attention to bearish predictions and doom-and-gloom headlines, filtering out any positive economic data.
The problem? You’re making major retirement decisions in an echo chamber. You’re not getting the full picture. You’re getting a carefully filtered version that makes you feel right, even when you might be wrong.
Herd Mentality
Confirmation bias often works hand-in-hand with herd mentality, which is the tendency to follow what everyone else is doing because it feels safe.
If all your coworkers are making the same pension election, it must be the right choice, right? Not necessarily. Everyone’s financial situation, health status, and retirement goals are different. What works for them might be completely wrong for you.
But it’s so much easier to follow the crowd and surround yourself with information that says you made the right choice.
The Danger for Pre-Retirees
Confirmation bias is particularly dangerous for people approaching retirement because the stakes are so high. You don’t have decades to recover from a major mistake. If you make the wrong decision about pension options, Social Security timing, or how to structure your retirement income, and then only seek out information that confirms it was right, you could be setting yourself up for serious financial problems down the road.
Breaking Free: The Discipline Solution
So what’s the answer? How do you overcome these deeply ingrained psychological biases?
Warren Buffett said it best: “We don’t have to be smarter than the rest. We have to be more disciplined than the rest.”
Discipline means:
- Creating a plan before emotions take over. Develop an Investment Strategy Plan that outlines your goals, risk tolerance, and the specific conditions that would trigger changes to your portfolio. That way, when your emotions start running high, you have clear guidelines to follow instead of making impulsive decisions.
- Working with a financial professional. Just like you’d tell a friend about a bad habit you’re trying to break so they can hold you accountable, a financial advisor serves as an intermediary between you and your emotions. Their job isn’t just to manage your money. It’s to help you avoid the behavioral mistakes that derail retirement plans.
- Turning off the noise. Wall Street experts are right about the direction of interest rates only 48% of the time, which is worse than a coin flip. Stop making decisions based on financial news predictions and focus on your long-term strategy instead.
Being critical when times are good, and opportunistic when times are bad. This goes against every instinct we have, but it’s the key to long-term success. Question your decisions when everything feels great. Look for opportunities when everything feels terrible.
The Bottom Line
Your biggest retirement risk isn’t market volatility, inflation, or even how much you’ve saved. It’s the behavioral biases that cause you to make emotional decisions at exactly the wrong time.
The good news? Once you understand these biases, you can build strategies to counteract them. You can’t eliminate your emotions (you’re human, after all). But you can prevent them from sabotaging your financial future.
As you approach retirement, you need to answer critical questions: Have I saved enough? When should I claim Social Security? How should I handle my pension options? Will I outlive my savings?
These aren’t just financial questions. They’re behavioral challenges. And getting them right requires both expertise and discipline.
At SBS Retirement Consultants in Fairbanks, we specialize in helping Alaska state employees, federal workers, and union members navigate these exact challenges. We understand the unique retirement benefits available to you, and we help you make rational, disciplined decisions that serve your long-term interests, not your short-term emotions.
Ready to take control of your retirement planning? Call us at 907-374-0487 or visit sbsrc.com to schedule your complimentary discovery appointment. Let’s build a retirement strategy that works with your psychology, not against it.
**Information for this blog post was provided by: BlackRock
