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What is Goals Based Investing?
Goals-based investing (GBI) is another concept based on mental accounting. It’s an accepted concept for maximizing success of one’s wealth management.
By setting life goals, it is theorized that someone will optimize their amount of risk while also increasing their chance of achieving said goals in a set amount of time. This concept exhibits mental accounting. The latter is a very strong bias and the former tries to work within that given framework to limit poor financial decisions in a set amount of time, or time horizons. However, this means that the best portfolio may not be the most efficient one. It just means that it is the most efficient portfolio for that specific client.
Although mental accounting is considered to be a weakness, it can also be utilized as a strength. By creating many different mental accounts, it is ensured that you will work to save for all of them. So no worries, there is no actual "math" involved in here. In other words, breaking up a large portfolio into smaller sub portfolios allows for clearer organization. Additionally, the need to rely on one single account for future liabilities is also eliminated, eliminating risk in the long-run.
Before you read on to the next article that discusses the advantages of GBI, let us know in the comments below, what do you think will be some of the advantages?