Recently, I’ve received e-mail from several people asking how to optimize their financial lives. Often these folks are focused on frugality. They want to make the most of their grocery trips, their book budgets, and so on. Sometimes, though, the questions come from people who want to know which index fund to choose: Is it better to buy Vanguard’s Total Stock Market Index Fund (VTSMX) or Fidelity’s Spartan Total Market Index Fund (FSTMX)?
It’s awesome to optimize your saving and spending, to clip coupons and to fret over getting the best return on your investments. I worry though that people pay too much attention to small details, to minute aspects of personal finance, while neglecting the Big Picture. It’s easy to fall into what I call “the optimization trap”, to believe that tiny tweaks will make more of a difference than they actually do.
Here’s a real-life example from a reader named Dave:
We get coupons in our Sunday paper. I’ve contemplated getting rid of the paper because it’s sometimes difficult to have the coupons subsidize the monthly cost of the paper. (The paper costs $12.45 per month.) Many times it ends up being a push. Should I ditch the coupons altogether and cancel the paper or stay the course?
Dave’s dilemma is a perfect example of the optimization trap in action. He’s spending $150 per year on a newspaper. By clipping coupons, he’s able to defray some of that expense — but not all of it. Should he cancel his subscription?
My response? This isn’t an important financial decision. Even if Dave only recovers half of his newspaper expense via coupons, it’s only costing him $75/year. If he uses the paper and enjoys it, and if the $75 per year is worth it to him, then he should continue getting the paper.
Meanwhile, I worry that Dave (and people like him) are missing the Big Picture. Small economies are a terrific way to optimize your spending, but they’re a terrible place to start. I think it’s far more important to ask questions like:
- How much of your budget goes to housing?
- How much do you spend on transportation?
- Have you taken steps to boost your income?
It’s great that Dave wants to be sure he’s getting value from his newspaper subscription, but he should be concerned with this sort of small optimization only after he’s taken care of the Big Picture. Let me say this once again: It’s far more important to get the big stuff right than it is to optimize the small stuff.
Look, I don’t mean to pick on Dave here. Far from it. (Turns out Dave gets a kick out of frugality. “I get excited about saving $2 on sunscreen!” he told me in a follow-up email.) But I want to use his situation to warn Money Boss readers about the optimization trap.
A lot of times, the optimization trap is a way to avoid dealing directly with more important issues. It’s easier to focus on which online savings account is best than it is to actually put money into that savings account. Choosing to move to a smaller home requires sacrifice; fussing over your newspaper subscription does not. The difference, though, is that the former can help you build wealth while the latter might save you six bucks a month.
Does it make a difference which index fund you choose? Sure. Some. But that’s not nearly as important as choosing to invest in the first place. Does it matter that your home-brewed spreadsheet projects the exact date you’ll reach Financial Independence? Not really. But it’s vital to your financial success that you have a sense of purpose, that you know what your money is for.
I’m not saying that optimization shouldn’t be on your financial to-do list. It should be. But it should be near the bottom of the list, not the top. Optimization is about taking what works and making it work better. You don’t optimize something that’s broken. If your budget is broken, you fix it by making big moves not tiny ones. Once you’ve made the big repairs, then you can concern yourself with optimal performance.
Footnote: For the record, I now believe that much of my writing at Get Rich Slowly fell into the optimization trap. I was helping readers pinch pennies when they could have been saving dollars. I didn’t pay enough attention to the Big Picture. It’s great to get rich slowly, but you can do better.