In general, the higher an individual’s IQ, the lesser the odds that the individual will make a bad financial decision. This is not saying that unless you’re Einstein you can’t make good financial decisions, it simply says having greater cognitive powers makes it more likely that the decision will be a good one. However, IQ is not the only factor and may not even be the major factor involved when making decisions.

Noncognitive abilities, also known as personality traits, can be a bigger factor in making wise decisions. During the Great Recession one out of twelve households defaulted on a debt. Why did some default and some didn’t? Education didn’t make a major difference, nor did job loss. The main difference between those that lost their homes or their credit rating was whether they believed they were responsible for their own lives and needed to do what was necessary.

This self-efficacy concept is the degree to which not only do you feel you have control over your own life (which is the related concept of locus of control) but that you’ll do something and take charge. This has nothing to do with one’s education or intelligence level and everything to do with one’s grit. These are the people that don’t throw up their hands when they encounter a problem, but learn how to overcome it. 

There are other aspects of who we are that affect our decisions. A conscientious person tends to be dependable and self-disciplined. If you are highly conscientious your financial decisions will tend to reflect this discipline (paying bills on time and planning for the future). Also, if you are the type of person that remains calm and does not act impulsively when stressed, this indicates great emotional stability. Emotionally stable individuals are less likely to make bad financial decisions. Indeed, people that score low on conscientiousness and emotional stability are five times more likely to suffer long periods of financial distress that those at the opposite end of the scale. It could be said that people that score high on self-efficacy, conscientiousness and emotional stability traits have a winner’s personality.   

Personality traits can lead or limit native intelligence. Financial illiteracy is common and various educational tools are often proposed as the solution, but the tools do not do any good if they remain on the shelf. Hard work maximizes one’s smarts, but all the intelligence in the world is wasted if it isn’t applied. Overall, a person that has strong self-efficacy, is conscientious and emotionally stable is likely to do a good job of planning for retirement, and one that is weak on these traits will not–regardless of their lifetime earnings level and, to an extent, regardless of their level of intelligence. 

There are ways to test for these winning traits, but by the time the typical financial advisor gets involved they are dealing with the financial condition that resulted from the traits and will have little influence on the way the individual makes decisions. However, at this stage the advisor is useful in educating the person about their financial options. Personality traits are forged in childhood and it is at this early stage that the seeds for a successful retirement in that distant future can be planted.

Schools focus on cognitive abilities, but children can be taught to be conscientious. Classes should be taught on the three Rs, but students also need to learn that their grades are something they alone control and how to solve problems rather than quit. And since life is hard, children can be taught coping skills that may temper impetuousness. Perhaps the key lesson to be learned is that noncognitive skills are often the most important elements in lifetime success.  One doesn’t need to be the class genius to succeed, but they will succeed if they practice the personality traits of winners. 

References:
Kuhnen, C. & Melxer, B. 2017. Non-Cognitive Abilities and Financial Delinquency: The Role of Self-Efficacy in Avoiding Financial Distress. NBER Working Paper No. 23028

Parise , G. & K. Peijnenburg. 2017. Understanding the Determinants of Financial Outcomes and Choices: The Role of Noncognitive Abilities. Centre for Economic Policy Research. DP11900

Jack Marrion

Jack Marrion provides research and consulting services to insurance companies and financial firms in a variety of annuity areas. He also serves as director of research for the National Association for Fixed Annuities and as a research fellow for Webster University.

In 1994 he wrote a book to help banks market investment and insurance solutions to their small business clients. In 1996 he produced the first independent hypothetical return monthly publication comparing all index annuities on the market, and in 1997 created the first comprehensive report of index annuity sales, products and trends, “Advantage Index Product Sales & Market Report” (quarterly).

His insights on the annuity and retirement income world have appeared in hundreds of publications. In 2006 the National Association of Insurance Commissioners asked him to address their annual meeting and teach regulators the realities of index annuities. He was invited back in 2009 to talk to the NAIC about the effects of aging on senior decision-making. He is a frequent speaker at industry functions.

Prior to forming Advantage Com­pen­dium, Marrion was president and owner of an NASD broker/dealer with offices in nine states. Previous to that he was vice president of a life insurance company and vice president of an NYSE investment banking firm. He has a BBA from the University of Iowa, an MBA from the University of Missouri, and a doctorate from Webster University.

Marrion can be reached at Ad­van­­tage Compendium. Telephone: 314-255-6531. Email: ­[email protected].