I read an excellent post by Morgan Housel recently that discussed financial goals and financial systems.

We all have goals. They might be physical (like losing some weight by summertime), academic (like a achieving a specific grade this semester), or financial (like saving a certain amount of money this year). Let’s get one thing straight, having goals is a good thing. They show iniative and focus. Morgan explains the issue with goals:

“Goals can be dangerous because they tempt you to do crazy things to achieve them on time.”

The issue with a lot of goals is that they also include an end date. For example, you bust your butt for a semester trying to get an A in physics class. Your goal leads to an unhealthy amount of cramming for physics, less sleep, and less focus on other areas of study like English and math. You’ve built an unsustainable model that you’re incapable of following for more than a semester. Whether or not you actually get an A in physics, you’ve compromised your grades in other areas of study and your personal well-being to do so. Looks like the goal created some unintended consequences.

Instead of goals, Morgan suggests creating systems. What’s the difference between a goal and a system?

“A goal is a target with an end date. A system is a way of doing things all the time.”

Going back to our example, a system would allow you to become a better physics student in a more natural progression. You carve out some additional time during your day to study for physics, but pass on the late-night cramming sessions. Maybe you don’t get an A this semester, but you get a B. Along with your B in physics, your other grades remain strong and you continue sleeping regularly. Then two semesters later, through your sustained efforts, you finally end up with that A in physics. You’ve actually increased your physics knowledge instead of just cramming to achieve a short term goal.

How does this relate to finance? Having financial goals might mean that you want to put $18,000 into your 401k this year. Having a financial system might mean saving as much as can realistically afford to this year. If that amount is $18,000…great! If not, there’s no use contributing $18,000 to your 401k if it’s going to create financial distress. You’re going to wish you assessed your cash flow better when you try taking money back out of your 401k.

When we set goals, sometimes we become so focused on achieving the result that we neglect the process. This can lead to us doing things we never intended to. When we create systems, we focus on the process and the result takes care of itself.

Source:

http://www.fool.com/investing/general/2014/04/17/goals.aspx

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