In a world with so much information to process, even for something as powerful as the human brain, we create short-cuts to interpret and understand that information.

 

When we hear about “cognitive biases”, it is normally in a negative context, reflecting a supposed error in our thinking. Thought processes such as confirmation bias, where we only accept new information that confirms our view, can have negative outcomes for us, particularly as they are often unconscious and we don’t realise we are thinking this way. Perhaps the most negative cognitive bias is just that, “negativity bias”, where we greet all information as bad, or remember only the worst things that happen, which can lead to pessimism or even depression.

 

But we can use cognitive biases in our favour, as that is what they are designed to do, and the best way to do this is to use them consciously. We have hinted at that when discussing framing, and even mantras, but finance has its own cognitive bias we can use for our benefit, which is technically called mental accounting bias, but I prefer to call it “the bucket bias”.

Mental accounting bias reflects that we, as humans, aren’t particularly good at thinking about money, because it is just numbers, and instead we are better when we think about things, even if they’re abstract things like holidays and pensions.

 

So most people tend to save a bit better when they separate their saving into separate buckets: “$100 for my pension, $200 for a deposit for a house, and $50 towards a holiday later this year” for example. Another example could be when building an investment portfolio: “$1,000 into an index fund, $800 into stocks, $200 into crypto”.

 

By thinking of our savings goals targeting specific things, or just breaking it into chunks, we are better able to handle the individual concepts. This can make us more comfortable with what we’re doing – which tends to make us more successful.

 

So try it. Think of some buckets. If you’re trying to save more, think about the different savings targets you have, and focus on how much you want each of them. If you are trying to develop your investing, think about buckets you want to invest in.

 

Grab a pen and paper and write down what you’re saving towards: emergency fund, investment fund, retirement, freedom, even drawing them as buckets if you like. Visualise filling the buckets, and set targets for doing that. Turning cognitive biases to work in our favour is a vital trick towards personal finance success, and filling your buckets is a great way of doing that.