Financial illiteracy and overconfidence

“Mixing a decline of financial literacy with an increase in self-confidence is a toxic combination,” said John Howe, professor and chair of the Department of Finance in the Trulaske College of Business.

Essentially, the big problems that majority of people do not understand are:

  1. Ignorance about one’s own ignorance. We are often not aware of what we do not know.
  2. Assuming that expertise is fungible. It is assumed that expertise in one area is equivalent to expertise in another area – especially “management of personal finances”

Expertise or success in one area makes one confident and sometimes overconfident. Add a dose of ignorance to that and one does not even acknowledge that one could be ignorant in management of money.

Professor Howe further continues, “This opens the door for more honest mistakes as well as fraud. It’s widely known that older adults are very common victims of financial fraud. It’s important that as we age, we find someone who has our best interests in mind when managing our finances.”

Important to recognise our own inability, our own limitation and seek professional help.

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Think, does it really work?

In 2014, a news story int he Times of India caught my attention. A very well known movie star lodged a complaint with the Mumbai police. He had been duped. The con artist had promised to double his money in 45 days and then disappeared. The movie star could not believe that such a fraud was possible. The lure of the high “guaranteed” returns blinded him.

Just to put things in perspective, we present some calculations here. Assume that such a scheme is really available. Assume that one has an option of reinvesting the money in the scheme any number of times.

The scheme would double the amount invested every 45 days, or every 1.5 months. Ethos rate, Rs. 1,000 can grow to Rs. 2.56 lacs in one year, Rs. 6.55 crores in 2 years, and more than Rs. 1,677 crores in 3 years.

At the end of fourth year, one would have accumulated a sum of Rs. 4,29,496 crores. Compare this to India’s fiscal deficit for 2013-14: Rs. 4,90,597 crores.

Think, does it really work? Ask questions. When you are presented with a mouth-watering investment opportunity, your responsibility towards your money is even higher.

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