About a year after my wife and I had our first child, we moved into a neighborhood with homes built decades earlier. Each had two or three bedrooms. We soon noticed that when people had a third or fourth child they moved from the neighborhood in search of more space. One day I mentioned this to my next-door neighbor, who was 70 at the time, and he expressed surprise.

He and his wife had raised their five kids in one of the smallest homes on the block.

One of the most challenging personal finance issues we all face is the ever-expanding definition of “need.” Things we once considered clear luxuries have somehow becomes necessities, often without any consideration of how the change in status happened.

Cars that seemed just fine now seem old fashioned. Then there are children and their cellphones. Only a few years ago it would’ve seemed outlandish for 14-year-olds to need one at all, let alone the latest iPhone.

Achieving clarity about the difference between our needs and wants remains one of the biggest challenges in personal finance and a tremendous source of potential conflict within families. While simple in theory, the calculation is much more complex in practice.

One of the most discouraging parts of modern life seems to be this never-ending sense that we should want more. While this may not be true for everyone, it does seem like it’s become more difficult to be content with what we have. Whether it’s the media, our friends or even our family, it can be a challenge to separate real needs from wants. So here are a few of things to think about:

• What if financial happiness is not about getting more but about wanting less?
• What if things start out as wants and become needs not because the thing itself has changed but because our feelings about it have changed?
• What if you can never really get enough of something that you don’t need?

From personal experience, I know that the shiny new toy I just had to have often ends up in a pile of things that I eventually need to sell on eBay. I’m not the only one that’s fighting this battle. It’s yet another example of why personal finance can be so complex. Because there’s no definitive list of the 100 things that every family must have, these end up being very personal decisions

I’ve talked about some of the ways I’ve seen people look for balance between wants and needs. They include things like sleeping on a decision overnight. My personal rule is that before I buy a book, it has to sit in my Amazon shopping cart for five days.

What have you done to help better define the difference between a want and need? And how have you focused more on being content with what you have instead of always striving for what you think you want?

This sketch and post originally appeared at The New York Times on October 17, 2011.

The stock market is doing what stock markets do. Yet we run around like it’s such a shock. We don’t know when it will happen, and often it’s hard to tell why, but the fact that the market went down shouldn’t have surprised anyone.

So if you were surprised, here’s what you need to ask yourself:

Why so shocked? Didn’t we just learn this lesson a few years ago?

To be clear: this is not a problem with the market. This is a problem with us. How in the world can you invest your hard-earned money without a plan for both the good and the bad days? Any plan needs to account for the reality that markets go down as well as up. Part of the planning process must include a discussion about risk and even include lifeboat drills to see how you will react before you hit the water.

Unfortunately for people who were surprised, the reaction came in one of two flavors:

1) They didn’t have a plan.
2) They had a plan but didn’t factor in the possibility of a market decline.

In both instances, it’s too late to do anything now about what just happened. You can’t hedge against the past. It’s like trying to get flood insurance after your house floods.

This post originally started out as an explanation about why the market dropped, but I realized that we don’t need to know why the market did what it did. In fact, we will never know exactly why the market went down. But that doesn’t keep the talking heads from speculating, a reality that Marketplace Radio’s Heidi N. Moore illuminated last week: “Here’s what none of those people will tell you: they don’t know. No one knows. There is no education, no M.B.A., Ph.D or even market experience that can now or will ever pinpoint a reason or reasons for a market rout that is not directly spurred by some piece of news.”

As humans, we like things to make sense in our little worlds, so we tell ourselves stories. We want others to tell us stories as well, so we can make sense of it all.

Sorry, but no matter how many stories you listen to, the markets rarely make sense, because “the market” is nothing more than the collective representation of what we’re feeling right now … and now … and now.

Just look at how teenagers change the way they feel based on irrational stories they tell themselves about something that happened at school or on Facebook. Now times that by a million! That’s the market.

Again, this isn’t about predicting a particular moment in time or behavior for the market. Instead, it’s about recognizing that big declines happen in markets, and we shouldn’t be surprised when it happens again in the future. Since we seem to have such short memories, I suggest writing yourself a letter or recording a video so you can remember this past week. Use it to remind yourself that you need to learn how to use the parachute before you ever get on the plane.

This sketch and post originally appeared in the New York Times on August 8, 2011. Sign up to receive your FREE newsletter.

So after all the spreadsheets are put away, investing becomes a matter of faith.

This act of faith is most evident when it comes to the stock market. Assuming you’re invested in something like a basket of diversified index funds, the core question becomes this: do you still believe that stocks will continue to do better than bonds, and bonds will continue to do better than cash, just like they always have?

If you approach investing from the perspective of the historical evidence, then temporary declines, no matter how terrifying, are just part of the deal. While this doesn’t make investing easy, it does make it easier. One of the biggest risks to investing in the stock market is getting scared out of it at the wrong time. Avoiding that deadly mistake is easier if you believe that at some point things will turn around, because they always have.

Approaching investing based on the data from the past doesn’t require you to ignore the tough economic challenges we face. It just requires that we believe we will find a way through them. I have no idea how we are going to deal with the massive public debt, the problems in Europe, and everything else CNBC is throwing at us, but I do believe that we will get through it.

This reminds me of a quote from the British abolitionist, politician and historian Thomas Babington Macaulay. Keep in mind that this was written in 1830:

We cannot absolutely prove that those are in error who tell us that society has reached a turning point, that we have seen our best days. But so said all before us, and with just as much apparent reason… on what principle is it that, when we see nothing but improvement behind us, we are to expect nothing but deterioration before us?

In some regard, investing based on the weighty evidence of history is the most prudent thing we can do. So far it has always proven to be correct. Every time someone has predicted the death of the stock market, they have been wrong. Given this record, isn’t it reasonable to assume that stocks will continue to be better than bonds, and that bonds will continue to be better than cash?

This sketch and post appeared originally on the New York Times on August 15, 2011.

Why do stories about Google and Apple make it so hard to behave? Because they’ve delivered results, according to a recent YCharts post, that make the most cautious of investors secretly wish they’d jumped on board.

“From August of 2004 to December of 2010, Google’s (GOOG) price increased from $100 to $600 per share. And Apple (AAPL), from the end of 2000 to the end of 2010 returned 43.35X. Those are returns that put dollar signs in any investor’s eyes.”

Who doesn’t want an investment that performs like Google or Apple? The problem, and it’s a big one, is that we tend to look to the past when we’re seeking answers about the future.

Nathan Pinger at YCharts describes this situation perfectly. “Trying to pick a stock’s future growth path based on past growth is like trying to guess if a coin will come up heads or tails when you know that the last toss was a heads. The previous toss tells you nothing.”

Every so often I’ll get a phone call from a client. He has the next big stock, and to him it makes perfect sense to dump his plan, ignore his goals and bet the future on, well, a tip from his brother-in-law.

We grow up for a time believing that superheroes and magic are real. We root for underdogs even though we know beating the favorite will take a miracle. So does it really seem all that crazy to believe that the stars will align and that one financial decision will change our lives forever?

The problem is that when you chase after a particular stock, you lose sight of the things you actually can control. You lose sight of your goals and plans, for instance.

For 99.99% of us, chasing after the Googles and the Apples of the world will lead to the investing version of dating rejection. Meanwhile, the odds of you achieving financial success by behaving correctly are insanely high. So do you really want to toss a coin and make such a big bet on the next big thing?

This sketch and post appeared originally at the New York Times on February 7, 2011.

But what this does highlight is that experts are not right 100 percent of the time. Yet we’re still held rapt by their predictions. And the bolder their calls, the more we’re interested.

Last month, I talked about gurus and their forecasts. Based on questions I heard from some readers, it might help to understand why these forecasts and predictions are so tempting.

1) It’s fun. We like having something to talk about at the neighborhood barbecue or around the proverbial water cooler. Now with Facebook and Twitter, the fun is multiplied a hundredfold. As social animals, we love being in the know and place value on being the one to break the news.

2) It’s genetic. Our natural instinct to survive makes us sensitive to the world around us, and we’re constantly trying to predict dangers lurking in the bushes. There is obvious value if you’re the person in your tribe who can successfully warn others of danger or guide them to bounty. We rely on predicting and forecasting for almost every decision we make, including the weather, our commute time and even what to wear based on what we predict others will think or say.

3) We want control. We all want to control our environment and our futures if we can. It’s very difficult to accept that much of what goes on is random and that the only constant seems to be change. In fact, I recently heard a speaker at a conference say that we’re becoming increasingly certain that the future will be uncertain. Because of the value we place on being in control, we tend to gravitate towards people we think can tell us what will happen in the future. After all, that gives us a sense of control.

4) We forget quickly. Many of the currently famous market forecasters have been wrong for years, but we quickly forget their incorrect forecasts from days gone by and cling to the one big call they recently got right. If you carefully analyze your history with market forecasters, you quickly realize that it’s a revolving door. The forecaster who appears to be a prophet today will fade into the distance and a new one will appear.

Our willingness to listen to predictions, despite research that dismantles the notion that they’re worth much, is an example of why it’s so difficult to behave correctly when it comes to our relationship with investments. It doesn’t seem to matter that these predictions are worthless. We still look for them, and genetically, we still want them. However, the best part of being human is that we can overcome genetics and recognize predictions for what they really are: a 50/50 guess.

This sketch and post appeared originally at the New York Times on February 15, 2011.

If the mistake is so frequent that it actually has a name, why do we keep doing it, and what can we do to stop?

When we make financial decisions we’re faced with a choice: Do we act based on what we know or how we feel?

In an intellectual exercise, knowledge wins. But in the real world, we’re hardwired to pursue the things that give us pleasure or provide security and run as fast as possible from the things that cause us pain. This genetic trait means that we’re often driven by how we feel instead of what we know.

Here is an example. In December 2008, The Economist published one of its classic covers. I remember seeing this cover, and a year or so later being struck by how well the image captured how I had felt. In fact, when I saw it again in 2010 I had an emotional response that surprised me as I thought back to those feelings. The picture made me feel like everyone else did during that time. I was depressed, sad, hopeless and felt like I was a fool for not gathering what little gold I had left before it too fell into the dark, bottomless hole pictured on the cover.

But how I felt at the time was exactly the opposite of how I knew (in an intellectual sense, at least) I should act. Every investment decision should at least be informed by what we know, instead of driven solely by what we feel.

So if you’re thinking about making a sudden change to your portfolio here are a few things to consider:

1) Stop long enough to ask yourself if your decision is based on how you feel or what you know. Is what you are about to do based on what is going on in the market or is it based on an investment plan you put in place when you were thinking clearly?

2) Don’t just do something, stand there. When dealing with investments there is often this feeling that we should be doing something. A lack of action implies we’re missing an opportunity or making a mistake. Growing a garden takes lots of hard work, but at some point you have to let the plants grow. If you have a plan, let it work.

3) If you’re still convinced that you need to act, take a mandatory timeout. Write yourself a letter that explains what you intend to do and why. Pretend like you are trying to convince a wise friend that your proposed course of action makes sense. It might help to actually meet with someone you trust and talk it through. Putting it on paper can help you weigh knowledge versus emotion.

4) Please, ignore gut feelings when it comes to investing. I can’t tell you how many times I have heard people use that as an excuse to do something dumb.

I know, I know. Believing that we can remove all emotion from our decision making just isn’t realistic. But we can still take plenty of steps to make knowledge the foundation of our financial choices.

This sketch and post appeared originally at the New York Times on March 7, 2011.

Like many of you, I made resolutions in January. There were a lot of important things I wanted to accomplish. And for a few weeks, I did really well. But now it’s March, and part of me is panicked. There’s still so much to be done. But another part of me latched on to the second half of the equation: I still have three quarters of the year to go. What’s the big deal?

The problem results from the distractions that come from things that seem urgent. They cause us to lose our focus on the important issues. On a day-to-day basis it’s easier to focus on those urgent things that capture your attention. After all, who wouldn’t focus on getting the car fixed over making sure the will is up to date? That seems like a logical decision that trumps the merely important goals you set in January.

Bob Goldman, a financial planner, said that he sees a surge in business around January and February. So at least they’re trying. But Mr. Goldman added that he often doesn’t see those people again for years. Following through on the big decisions tends to  drop down the list quickly when you’re confronted by life’s urgent demands. After all, many of these important goals appear complex, like buying life insurance or setting up college savings accounts. So we often push them aside in favor of the urgent and immediate.

Plus, we enjoy the sense of checking urgent things off a list. The more urgent the task the greater the sense of satisfaction. By comparison, sitting down and working through the details of your personal and financial lives doesn’t offer the same sense of excitement and immediate gratification.

Here’s the danger in all of this though. Once time passes, the important eventually becomes urgent. But by then it may be too late to do much about it. Think about the stories of friends and colleagues who are dealing with complicated estates because family members let the urgent trump the important. Then there are the parents who didn’t think 18 years would pass so quickly; now they’re unsure whether they can help pay for college.

A friend who is an estate planning attorney noted that people will often come to him in a panic right before taking a trip without their kids. With worst-case scenarios floating through their minds, these couples want their wills done in case the plane goes down or the ship sinks. Since these things take time, it’s often impossible to finish before they leave town. Then, my friend doesn’t hear back from them again until a few days before the next trip.

See a pattern here?!

If there’s one resolution that I hope each of you keeps it’s this: please set aside time each month to tackle these important questions. Yes, you will be tempted to brush them aside until next month because there will be something urgent going on. But you can’t keep making the same resolution every January to deal with your important decisions this year. The tasks will never get smaller if you don’t start dealing with them one by one.

After every financial crisis we often ask, “How did we miss the signs?” Unlike a large-scale crisis that only seems obvious in hindsight, you know that you can prevent a personal financial crisis by tackling the important tasks in your life right now.

This sketch and post appeared originally in the New York Times on March 21, 2011.

Income > Expenses

Break this rule for very long and bad things happen. But despite this being a pretty basic concept, there seems to be a new American money equation that just won’t die, even though it simply doesn’t add up (pun intended).

I’m not sure when this happened, but somewhere along the way we started believing in this little fantasy of allowing our expenses to grow to match our income plus all the money we could borrow. At first this might not have been a big deal. Borrow a little for a car and a house, no problem.

But then we wanted more. Credit got easy and things got out of hand on both a personal and a public level. I had hoped that the meltdown we had in the credit markets a few years ago would lead to permanent scarring and get us all back to focusing on managing our expenses or growing our income in order to make the math work.

Unfortunately it doesn’t seem have had that effect. While some signs exist that we’re focused on paying down debt, there are also troubling signs that people feel more comfortable with consumer debt than ever.

This reminds me of the joke about “balancing” your checkbook based on how many checks you have left. As long as there are still checks, you must still have money!

So what does this look like in real life?

1) Shopping for a car based on the monthly payments. Buying a car will often involve borrowing money, and the monthly payment will be part of that equation. However, it should not be the starting point.

2) Shopping for a house based on the monthly payments. Most of us will have to borrow money if we decide to buy a house. But shopping for houses based on the monthly payment a mortgage broker says you can qualify for can lead to complex mortgage products that end up costing us far more than you thought.

3) Buying more stuff because you can afford the minimum payment on the credit card. I know this should be insanely obvious, but this is the kiss of death. While avoiding this trap should be important to all of us, it really hurts when this happens to people who are in college. I have a friend who is fond of telling the story of the time when he used a credit card in college to buy a backpacking tent. He made the minimum payments, and it ended up costing almost as much as the car he drove years after he graduated.

Rather than allowing our expenses to grow to match our income, plus any money we can borrow, maybe we should start using the old math: Income should always be greater than or equal to one’s expenses.

This post originally appeared at the New York Times on June 27, 2011.

1.     You have no idea where you are: what I call your current reality
2.     You have no defined goals

It’s rather hard to arrive at a destination with a trip plan that lacks a beginning and an end. Of course the other issue with having no plan is the low-grade headache it creates because you do have a sense of where you are and where you want to go, but no idea if you’re on track. We all know the feeling of lying in bed wondering if we’re going to make it.

Getting started is really just as simple as taking the time and getting the help to:

•     Clearly define your current reality, where are you today
•     Put some framework around where you want to go

The task of assessing future financial needs can be daunting. Often we have perceptions that, under scrutiny, don’t match reality and have to be adjusted. One prime example is the cost of educating our kids.

There are a million ways to approach education planning. Some people want their kids to work and earn their way through college, and others want to pay for the best schools their kids can get into, BUT the point is that until you sit down, TALK about it, and put some numbers around it, you have NO PLAN!

In the college example, and almost every other financial goal that is years away, it’s important to understand that things will change. No matter how much time we spend creating a plan it can’t capture everything about our future reality. All we’re trying to do is make the best guess we can and move on. If you understand that these are guesses (very important guesses), then you can give yourself permission to not obsess over them. Make the best guess you can with the information you have, and then commit to revisit it often enough to make course corrections long before you veer too far off course.

The other wonderful thing that will happen is that often we find out that even though our perception of our future financial needs was not even close to reality, we gain a sense of control that helps us focus on living our lives NOW. In many cases, we learn that we do have enough money and time to meet our goals. It might not even be a situation of needing to grit our teeth and save more, but we never know until we take the time to plan!

The idea for this sketch came from Matthew Weatherley-White of the CAPROCK Group and is used with his permission.

This sketch originally appeared in the Behavior Gap Newsletter April 28, 2011. Sign up for the FREE Behavior Gap Newsletter.