The concepts of behavioral finance are applied increasingly in our world. Governments are using decision-making psychology to encourage behaviors like saving more for retirement. This type of psychology is also used by a wide range of businesses to help maximize their profits. Although plenty of behavioral interventions do work, others fall short of expectations or even backfire. Understanding what creates these differences is essential for CFPs® who want to provide the assistance clients need to make the right financial decisions:
The Role of Emotional Triggers
Both governments and businesses that use behavioral finance strategies have to overcome the challenge of getting people’s attention in a world that’s full of distractions. To cut through the noise technology is being developed using systems that trigger emotional responses.
One example of these types of triggers has been developed from the concept of loss aversion. The theory of loss aversion states that people react more strongly to the threat of a loss than the possibility of a gain. Using this concept, app developers have found that the average person doesn’t want to use something that solely tracks their failings without any positive reinforcement.
Another example arises from the realization that nudges become less effective over time. It’s standard practice for app developers to do extensive testing to figure out exactly what works best with users. But as many technologists have discovered, what’s fully optimized now may not be nearly as effective in a few years. Dealing with this issue is why more resources than ever are being put towards creating and delivering experiences that are highly personalized.
Using Behavioral Finance on a Big Scale
While behavioral finance is something that has a lot of appeal to smaller technology companies looking for a big opportunity, it’s on the radar of larger financial institutions as well. Designing more effective savings products, small-dollar loans, and automobile loans with lower rates are all things that established financial companies have enlisted help with from behavioral finance experts.
One interesting aspect of all the attention on this topic is the realization that this attention will eventually reduce the effectiveness of behavioral finance. While these practices currently have the ability to improve outcomes by ten to thirty percent, experts have stated that consumer suspicion is something that may eventually make it more difficult to achieve these results.
By taking the time to test out some of the apps and other types of technology being developed in the area of behavioral finance, CFPs® can gain some hands-on insights that they can pass along to clients.