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Have you ever seen someone do something rude or stupid and experience an immediate consequence? Sometimes this will be casually referred to as “karma”. In early education, we call this a natural consequence. It is absolutely the most effective learning tool there is.
Natural consequences are those that happen, well, naturally. That is, there is no other person taking action to apply them. This makes them most effective, because the person experiencing the consequence can’t blame anyone else.
Today, I’m going to share a vivid classroom memory of natural consequences and then talk about how it applies to the search for financial independence.
Note: My FI Lessons posts are school memories loosely applied to personal finance. They exist for entertainment or inspiration and aren’t intended to be hardcore learning.
Setting the Stage
His name was Jason. He was 6-years old, with tightly buzzed hair. Jason never stopped moving. He burned with nervous energy and this was reflected in his thin ropy physique.
Jason was positive, enthusiastic, and kind. He was also impulsive, self-centered, and had no sense of personal responsibility. In short, he was like many young children.
(His real name wasn’t Jason, but it started with a J. If you aren’t aware, elementary teachers are wary of boys with J names. There is a professional myth about J names and behavior challenges. It’s light-hearted and like most stereotypes loaded with confirmation bias. In this case, the bias was definitely confirmed.)
If I could create a task that was hands-on for Jason and allowed him to physically apply the learning he was incredibly successful. If the task required any kind of quiet or focus, he struggled. And, others around him then struggled. Again, this isn’t unusual among early learners.
One differentiating factor: Jason was obsessed with the classroom stapler. He would staple anything multiple times, eject staples just to play with them, and offer to “get the stapler for me” just to have a chance to touch it. This was useful – I could get Jason to write more by telling him he could staple a second page to the first.
It was also annoying. We’d constantly run out of staples. My classroom was burning through staples at a rate that would cause a district budget crisis! There was a frequent “click click” background noise. We tried several behavior modifications, but it was just a thing for Jason. It wasn’t a significant thing, so we rolled with it as a class.
One day, I introduced a reading lesson to the class. I called forward a group of readers to work with them at a table, while the rest of the class, including Jason, went to independent practice.
I was working with four other readers, working our way through a shared text. Vaguely, in the background, I heard the typical “click click” of Jason stapling something. Everyone else was on task, and the group was going well. It was one of those rare moments of near-perfection in a classroom.
That was about to change.
I was leaning forward, helping Victoria make meaning of a longer word. We were both absorbed in the text.
Instead of the normal “click” I heard the sound of a hard slap on the stapler, and an interrupted action.
Then: a bloodcurdling SCREAM.
Next thing I know, Jason was running laps around the classroom waving his left hand in circles and yelling “Owie Owie Owie!”
All learning stopped as everyone looked up to see the screaming dervish barreling around the room. On his second pass by the table, I paused him for a second with a quick, hard “Jason!”
He held his hand out in front of me to show me a staple sticking halfway out of his thumbnail, tiny rings of blood at the dual bases. Then, the loop began again “Owie owie owie!”
I knew immediately what had happened. Jason had decided to see what would happen if he stapled his thumbnail. And he found out.
Feeling empathy for his physical pain, while also resisting the urge not to collapse in laughter at the absurdity of the situation, I nodded to my reading assistant. Thankfully, she was in the room.
I stepped over to the hallway doorway, gently roped Jason in on his next pass, and walked him down the hallway to the nurse. He was, of course, fine.
But, Jason never messed with the stapler again. The perfect natural consequence.
How Does This Apply To Financial Independence?
Natural consequences are incredible learning experiences. Yet, they can also be devastating. In the above example, Jason experiences a temporary, relatively insignificant injury.
If we could create ways for people, especially kids, to experience natural consequences without danger of permanent harm, many of the behaviors we see would be self-correcting.
Unfortunately, that isn’t always possible. Imagine for example, if Jason had been obsessed with a handgun at home instead. Scary.
Can we use natural consequences, and their powerful learning, in the pursuit of financial independence without creating dire outcomes? Let’s take a look at a few important takeaways:
If you are going to invest your money in the market (and most other investment types) you will experience a loss at some point. This is a certainty.
It is important to estimate your risk tolerance as accurately as possible. How would you feel if you experience a 20% loss of value? How about 40%?
Accurately assessing our own risk tolerance limits the downside of loss. So does limiting our ability to overreact if we exceed our risk tolerance. Let’s look at an example of a natural consequence as a learning experience vs. a catastrophic experience.
An investor convinces himself that he is able to absorb a massive market drop. Therefore, he invests 100% of his funds in the stock market. The market experiences a massive decline and his portfolio value decreases in value by over 40%. He overestimated his risk tolerance and panics, withdrawing over 50% of his value and making the losses concrete.
When the market recovers over the next decade, his portfolio struggles to return to its original value. He has experienced a catastrophic natural consequence of overestimating his risk tolerance AND selling assets at the bottom of a market.
Investor B decides she is willing to experience large market drops in order to get larger returns. She has a long time horizon and invests 100% in stocks. She has written an investment policy statement that emphasizes the long time horizon and includes a cool-down period for selling investments. The market experiences a large decline and her portfolio decreases in value by over 40%.
She has exceeded her risk tolerance. However, she follows her plan and does not sell. Instead, she adjusts her allocation going forward and builds toward a 80/20 stock/bond allocation with new investments. Her money remains in the market and she gets the full benefit of the recovery.
Do your absolute best to assess your own risk profile. Then, build a plan to limit the downside if your are wrong.
Taking Controlled Chances
Another way to deal with risk and use natural consequences as a learning tool is to take controlled chances. If you, like me, have a bias for action you may be tempted to invest outside your risk tolerance.
Perhaps Bitcoin intrigues you? Or, maybe you want to try chasing a hot stock tip once. If you just can’t help yourself, can you at least limit the potential consequence?
Take a small amount of money and go for it. If (or when) you experience the natural consequence of riskier investing you’ll learn without catastrophic consequences.
You’ll see this in the stories of millionaires over at ESIMoney. Many of them list investing in individual stocks as their worst investment. Yet, in almost every case it was a relatively small loss and they changed their investing strategy as a result.
They experienced a natural consequence of loss and learned from it.
Making Plans and Adjustments
Use natural consequences as a learning experience.
A good plan will help you avoid many consequences. But not all.
“No plan survives first contact with the enemy” is a paraphrase of Prussian military strategist Helmuth von Moltke.
The point isn’t to stop planning. It’s that unexpected things will happen. Even if you assess your risk accurately, and take controlled chances, you will still experience natural consequences.
Use those as learning opportunities. And then adjust your plans accordingly.
As an example, we significantly increased our pre-tax investments in the same year the new tax law went into effect. The updated payroll tables, and the differences in our two incomes led to a situation where taxes were underwithheld. (Our fault for not estimating.)
Come tax time we had a larger tax bill than anticipated, including a slight underpayment penalty. Fortunately, the penalty was small. (The overall tax bill was not. Ugh.) Neither were part of the assumptions we included in our goal setting, so we’ve had to adjust our spending to meet our savings goals.
This year, we’ve corrected to ensure the penalty doesn’t happen.
A more consequential example would be someone retiring right before a market drop. Though this is a natural consequence of retiring at the end of a long bull run, they face serious sequence of return risk and would need to adjust their spending immediately.
Real damage is only done if we stubbornly stick to a behavior despite a natural consequence alerting us of downside.
Jason’s impulsiveness with the stapler led to an immediate natural consequence and subsequent adjustment in his behavior. Bad things happen to us. Sometimes they’re our fault and sometimes it’s just circumstance.
While we can try to limit them on the front end, sometimes we’ll still experience natural consequences. We can limit their damage to our financial independence planning by:
- Assessing Risk
- Taking Controlled Chances
- Making and Adjusting Plans as Necessary
Can you think of a time you experienced a natural consequence that changed your behavior permanently?