Applying Physics to Financial Management

As an engineer by training, it is interesting thinking about household finances in physics and engineering terms. One area where this maps is in smoothing out your monthly financial cash-flow.

As I mentioned previously, it drives me crazy when I have a set spending plan and then some unplanned event comes along and whacks my carefully planned out budget allocations. Being able to manage your cash-flow is critical to starting to save money and really have control of your finances.

If you can manage your budget for the week, you can better control your spending for the month. If you can control and meet your budget target for each month, month after month, you will be able to hit your goals for the year. If you hit your goals for the year, you will be on your way to meeting your overall financial objectives. The key is to eliminate the "noise" from your daily, weekly and monthly budget.

The way I think about this is to create a smooth pattern. I know, and can plan for, all the bills that can be expected. I also know, and plan for all the unexpected bills.

Back to physics. Look at the following diagram (borrowed from http://www.csis.ul.ie/staff/currencies/CS5631_Sound_synth/Wk2_Lec2.HTM )


Here you can see that as you add multiple "waves" together, the result (the bottom-line), looks chaotic. Imagine every hump being a month on the bottom line. Some months look like you are able to save money, other months things just come "out of nowhere" and you suddenly spent much more than you were planning to spend. Now you are deeper in debt, or you had to give up your first savings nest-egg, etc. Periodic examples of this are things like the holidays, car-repairs, tuition, etc.

I have found that if you start really using a spending tracking tool such as Quicken or MS Money, you can start to have the ability to really track your expenses. This will let you tease-apart your spending. You want to find your "Fundamental" spending pattern, then build into your budget all of the additional "waves" that are going to come along and knock you out.

What I did was then create savings goals for those unexpected areas, and I simply included them into my monthly budget allocation.