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Don’t Discount the Future

Economists and psychologists agree: People value the present more than they do the future. Why? Because immediate needs are by definition more pressing than those we can only imagine.

In economic terms, this causes us to discount the future: It’s literally worth less to us—a dangerous prospect, particularly when saving for retirement. “A 25-year-old has a hard time processing the needs of her or his 65-year-old self,” says Mark Riepe, senior vice president at the Schwab Center for Financial Research.

This so-called hyperbolic discounting causes people to choose a smaller reward today over a larger reward tomorrow. However, when given a choice between two future rewards, people are more likely to choose the larger one, even if it will come later. That’s because waiting is easier when it is going to happen in the future.1

It turns out that saving is also easier when it’s scheduled for the future. In one study, workers agreed to sock away a larger percentage of their salaries after their next raise. The result? Saving rates soared.2

Mark says that investors can achieve a similar result by signing up for automatic contributions to a savings plan—either a fixed amount or, better yet, a percentage of pay that rises along with their income. “Behavioral biases impact every decision we make,” he says, “but putting investment decisions on autopilot can help avoid these pitfalls.”

The bottom line: Automating your investment contributions can help you properly prioritize your future.

1Kris N. Kirby, “Bidding on the Future: Evidence Against Normative Discounting of Delayed Rewards,” Journal of Experimental Psychology: General, 1997, Vol. 126.
2Richard H. Thaler and Shlomo Benartzi, “Save More Tomorrow: Using Behavioral Economics to Increase Employee Saving,” Journal of Political Economy, 2004, Vol. 112.

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Important Disclosures

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.

The Schwab Center for Financial Research is a division of Charles Schwab & Co., Inc.

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