Summary of The Psychology of Money by Housel
Recommendation Rating
Vast progress has been made in medicine, engineering, etc., while unofficially wealth and finance has not improved drastically - dept vs income, nest eggs, etc. .. and it's in part due that we think about and are taught about money in ways that are too much like physics (with rules and laws) and not enough like psychology (with emotions and nuance).
To grasp why people bury themselves in debt you don’t need to study interest rates; you need to study the history of greed, insecurity, and optimism. To get why investors sell out at the bottom of a bear market you don’t need to study the math of expected future returns; you need to think about the agony of looking at your family and wondering if your investments are imperiling their future.
Ch 1
The person who grew up in poverty thinks about risk and reward in ways the child of a wealthy banker cannot fathom if he tried.
Your personal experiences with money make up maybe 0.00000001% of what’s happened in the world, but maybe 80% of how you think the world works.
individual investors’ willingness to bear risk depends on personal history.
(Think of the mind as the predictive machine as described in The Expectation Effect)
was not until the 1980s that the idea that everyone deserves, and should have, a dignified retirement took hold.... This investing in the way we think of it now is, in span of humans, very new
The share of Americans over age 25 with a bachelor’s degree has gone from less than 1 in 20 in 1940 to 1 in 4 by 2015.7 The average college tuition over that time rose more than fourfold adjusted for inflation.8 Something so big and so important hitting society so fast explains why, for example, so many people have made poor decisions with student loans over the last 20 years. There is not decades of accumulated experience to even attempt to learn from. We’re winging it.
Dogs were domesticated 10,000 years ago and still retain some behaviors of their wild ancestors. Yet here we are, with between 20 and 50 years of experience in the modern financial system, hoping to be perfectly acclimated.
For a topic that is so influenced by emotion versus fact, this is a problem. And it helps explain why we don’t always do what we’re supposed to with money.
Ch. 2
Bill Gates and Kent Evans were extremely lucky to go to a high school one of perhaps just a handful that had a computer. They were also lucky to be interested and skilled in this area. Chances were probably less than one in a million, can Devin's was killed in a mountaineering accident and never fulfilled his future in the computer industry. This helped show by analogy the link between luck and risk
"I buy a stock in 5 years later it's gone nowhere. It's possible that I made a bad decision. It's also possible I made a good decision that had an 80% chance of making money but I ended up on the unfortunate 20%" .. the link between luck and risk
Someone else's investing failure is usually attributed to bad decisions while your own are chopped up to a story of cause and effect and risk. (The book doesn't state it but this is akin to the false attribution error that people make with others)
The Vanderbilt and Rockefellers were well known for breaking the law in order for their businesses to succeed. Vanderbilt once said what do I care about the law. Ain't I got all the power?".. and yet somehow they can be praised while Enron is defamed. Where is one company not letting outdated laws get in the way of innovation and another company committing a crime at the expense of the people?
This speaks to one of the points in the book, which is that it is nearly impossible to tell apart one lucky break or one true decision... And
.. be careful who you praise and admire. Be careful who you look down upon and wish to avoid becoming..
.. Focus less on individuals and case studies and more on broad patterns..
Ch. 3
Kurt Vonnegut and Joseph Heller, the author of catch 22, we're at a swanky dinner provided by John Bogle, the founder of vanguard. Mentioned to Joseph that John had made more money in a single day and Heller would ever earn from catch 22. Joseph responded back that he has something that John will never have, which is enough
Why would Gupta or madoff, both hundreds of millionaires, scam and cheat people for more?
The hardest financial skill is getting the goal post to stop moving
To do so, get away from social comparison
(insight into why Gupta and Madoff did what they did)
Some things are invaluable, reputation, freedom, family and friends, health and happiness. And if you have those and some money then learn that enough is enough and not too little
Ch 4
.. ice ages as analogy to compound growth
Jim simmons, head of the hedge fund Renaissance technologies, has compounded money at 66% annually since 1988. Warren Buffett is compounded at roughly 22% annually. And yet Simmons worth is only a quarter that of Buffett because Simmons didn't start investing until he was 50 years old. Warren Buffett started investing when he was 10 years old. If Simmons had invested as long as Buffett he would now have 63 quintillion quadrillion dollars.
... The issue here, which affects many other things, is linear thinking...
The point of this chapter is to start investing early and just leave it alone
Ch 5
Jesse Livermore was an early stock market investor, who is doing exceedingly well. During the stock market crash of 1929, his wife heard the news and when he arrived at home she met him in tears. Her mother, his mother-in-law, was crying loudly in the background, but it turns out that Jesse had shorted the market and made the equivalent of 2 billion dollars in one week. Jesse later, using leverage, lost all of his money and killed himself. Abraham germanski was an exceedingly successful real estate investor and developer and stock market investor. He was heavily invested in stocks and lost it all in the 1929 crash. He killed himself. Point being that making money is a skill but so is keeping your money...
"Getting money requires taking risks, being optimistic, and putting yourself out there. But keeping money requires the opposite of taking risk. It requires humility, and fear that what you've made can be taken away just as fast or faster. It requires frugality and acceptance that at least some of what you made is attributable to luck, so past success cannot be relied upon indefinitely."
Aim for being financially unbreakable. If you're unbreakable you can get larger returns because he will be around long enough for compounding to work wonders
Planning is important, but the most important part of every plan is to plan on the plan not going according to plan
Optimistic about the future but paranoid about what might prevent you from getting it
Have margins and room for error in your plans. e.g. "it would be great if the market returns 8% a year over the next 30 years, however if it only does 4% a year I'll still be okay"
You short-term paranoia with keep long-term optimism
Ch. 6
Heinz berggruen solstice art collection to the German government for 100 million, while it was worth over 1 billion. The interesting thing about him and many other art dealers or art investors is that most of the art they buy does not make money but a small portion, the tail, makes huge returns
Think of VC where 65% of the companies they invested in lost money, two and a half percent returned 10x to 20x, 1% made more than 20 x, and 0.5% earned 50x. That is where the majority of it returns come from, the tail...
This is also true in the index fund market, where if you look at the Russell 3000, 40% of the companies in that index lost at least 70% of their value and never recovered. Effectively all of the index funds returns came from 7% of companies that outperformed the average by two standard deviations.
Do the average thing when everybody else is going crazy, but it's the same when they are investing out of balance
Ch 7
Controlling your time is the highest dividend money pays
After interviewing 1000 elderly they decided that they valued most quality friendships, being a part of something larger than themselves, and the freedom to spend their time with their children
Ch 9
Wealth is what you don't see, as in all of the assets. If you were to cash those in and spend on things you might look rich but you would no longer be wealthy
Comparing yourself to others is a perpetual task, which only works against both mental and financial wealth
If savings empowers you with time or gives you freedom and how you spend time, such as retiring early or having the ability to quit a job and take your time in finding the right job, in regardless of the interest rate that savings is worth it
Ch 11 Reasonable > rationale
Julius Wagner was a 19th century psychiatrist. He won the Nobel prize for treating neurosyphilis with malaria. What he was really doing was treating syphilis with high grade fevers. He had six of 10 patients recover, compared to three and 10 if left alone or with common treatment. The fevers prevented the virus from replicating.
A 1° increase in body temperature slows the replication rate of some viruses by 200
.. Seattle children's hospital State on their website that fevers are good for sick children. That said, treatment of fever is common in the hospital and likely due to dogma rather than evidence-based practice. It may be rational to want a fever if you are sick, but generally seen as not reasonable. The difference between rational and reasonable
A pair of Yale researchers published a study showing that you can get 90% higher returns if as a young saver you supercharge your retirement account by using a two to one margin, $2 of debt for every dollar of investment and buy stocks. If using this method a 50% market drop leaves you with nothing, but the strategy would then require that the very next day you use two to one margin again and keep going. So while it may be 90% higher compared to life cycle funds it is nearly 100% unreasonable to think someone would stick with that pursuit
Ch 12
Historians as prophets is a fallacy
Historical data can be received but it's the outliers, surprises, that really move the market and change the game. Good or bad.
Kahneman - what we should learn from mistakes is that there was a surprise. The world will always surprise is the real lesson
Ch 13
Need a margin of safety- call it margin for error or whatever- but it is the effective way to navigate a world governed by odds, not certainties.
Buffet is not willing to trade a single night's for rest for extra profit (easy for him to say)
Can you withstand volatility? A 30% loss, not just monetarily but mentally and emotionally?.. or do you sell low? Panic? Lose sleep?
The author assumes 66% return compared to historical performance so he saves more than what he would otherwise
"Russian roulette statistically works".. rationale vs reasonable
If something can break it will. Backup and mitigate the single points of failure..
The most important part of every plan is planning on your plan not going according to plan
Ch 14
And underpinning of psychology is that people are poor forecasters of their future selves
Only 20% of college grads have a job related to their major according to the Federal reserve. 29% of stay-at-home parents have a college degreees
Psychologists call the tendency for people to be keenly aware of how much they've changed in the past but to underestimate how much their personalities desires and goals are likely to change in the future
... all of us are walking around with an illusion that history, or personal history, has just come to an end that we are just recently become the people we are always need to be and will be for the rest of our lives..
*Never interrupt compounding unnecessarily
Avoid financial tails... Aim for center distribution.. e.g.,
Assuming you'll be happy with a very low income or working endless hours for a high one only increases the odds that you'll one day find yourself at a point of regret
Regrets are especially painful when you abandon a previous plan and feel like you have to run in the other direction twice as fast to make up for lost money or time
Aiming, at every point, to have moderate annual savings, moderate free time, a moderate commute and at least more than moderate time with your family, increases the odds of being able to stick with a plan and avoid regret
The Wall Street columnist that helped Daniel kahneman write thinking fast and slow, commented that one of the most amazing things about condomin was his ability to detonate what he had just done. He could write something and then after feedback or rethinking it, send a version so utterly transformed it was nearly unrecognizable. It would begin differently, incorporate different anecdotes and evidence not thought of,
Etc
When asked how Kahneman could so, he replied "i have no sunk costs" ---
Sunk cost make our future sales prisoners to our past, different selves... That past person or personality that doesn't exist anymore is now the decision maker for you in the present, if you are trapped by sunk cost
Ch 15
The price to pay for successful investing is not dollars and cents but volatility, fear, doubt, uncertainty, regret, I'm feeling like you are missing out, and you have to deal with those in real time
General electric, under CU Jack welch, was famous for ensuring quarterly earnings per share beat estimates. Jack Welsh would do that by massaging the numbers, which is charitable, by pulling gains from future quarters into the current quarter so that the number salute their master. Forbes reported and for two years in a row they sold locomotives to my Main financial partners that left most of the risk of ownership on GE..
This gave the illusion of consistency and predictability that made GE the most wanted stock. But the bill came due, and shareholders suffered through a decade of Mammoth losses that were previously shielded by accounting maneuvers, and for which the new CEO was held accountable
Similarly the strangest example of this comes from failed mortgage gaints Freddie Mac and Fannie mae, which in the early 2000s were caught under reporting earnings by billions of dollars because they wanted to spread those gains out over future. To give investors the illusion of smoothness and predictability, thereby increasing their desirableness
People view drops in their investment Portfolio as something wrong or that they have been punished, where is really it's just the price of admission and the fees for participating
Ch 16
Greed is an indelible feature of human nature.. but.. that's too easy an explanation and post-facto rationalization.
(great chapter)
Bubbles are short term traders dominating valuation. There are short, medium, long term traders and their price level and exit strategy are different.
Same with housing. In 2000 20k homes per quarter were flipped (bought and sold in the same year). By 2004 it was over 100k. Buying a 2bd Florida tract home makes no sense at $700k... Unless you sell it 6 mths later for $800k. Once the housing market popped, down to 20k homes per quarter. Income growth, rental price to cash flow, etc weren't even considerations for the flippers
Profits will always be chased
Takeaway: understand your own time horizon and don't be persuaded by people and actions playing a different game than you. Thus you must go out of your way to know what your game is.
Book author literally wrote a vision statement for himself and what he's doing - future oriented
Ch 17
As with positive negative asymmetry, pessimism has wide appeal. Say the market will make moderate gains, no one listens; say it'll crash and front page.
After 2008 crash, the WSJ ran all article that stated "around June 2010, the US will break into six pieces. Alaska reverting to Russian control. California will form the nucleus of what was called the California republic and be part of China. Texas would be the heart of the Texas republic, a cluster of states that will go to Mexico..."
An equivalently positive message that the market would regain lost ground and more, delivering twice the average market gains per year in the late 2010's.. Would never makes it to print
Since money affects all, money pessimism catches ears
Age adjusted death rate per capita for heart disease has declined More than 70% since 1965.. NIH..
Ch 18
85% of active mutual funds underperform their benchmark over 10 years through 2018. You would think an industry with such poor performance would be a niche service and have a hard time finding business but they're are almost 5 trillion dollars invested in these funds... The larger the gap between what you want to be true and what you need to be true to have an acceptable outcome, the more you are protecting yourself from falling victim to an appealing financial fiction. I'm thinking about room for error in a forecast is tempting to think that potential outcomes range from you being just right to you being really really right. The big risk is that you want something to be true so badly that the range of your forecast doesn't cover the possibility of failure or even the ballpark of reality..
Everyone has an incomplete view of the world, but we form a narrative to fill in the gaps and make it complete
Kahneman: "hindsight, the ability to explain the past, gives us the illusion that the world is understandable. It gives us the illusion that the world makes sense, even when it doesn't make sense. That's a big deal in producing mistakes in many fields."
In other words hindsight is not 20/20, but we convince ourselves that it is. All of history is interpreted with some measure of imagination and intuition. The sheer quantity of evidence is overwhelming so we down select, we filter and select, which is inevitable. Different types of biases also work their way in
We tell ourselves stories to fill in the gaps of what are effectively blind spots
(relates to Buddhism) coming to terms with how much you don't know means coming to terms with how much of what happens in the world is out of your control, and that can be hard to accept.. "we need to believe we live in a predictable, controllable world, so we turn to authoritative sounding people who promised satisfy that need"
Kahneman --
When planning we focus on what we want to do and can do, neglecting the plans and skills of others whose decisions affect our outcomes
Both in explaining the past and in predicting the future, we focus on the causal role of skill and neglect the role of luck
We focus on what we know and the collect what we do not know, which makes us overly confident in our beliefs and plans
Ch 19
Lessons..
Find humility with gains, and compassion and forgiveness with losses. Respect the power of luck and risk and you have a better chance of focusing on things you can actually control
Less ego, more wealth. Saving money is the gap between your ego and your income and wealth is what you don't see
Manager money and invest in a way that allows you to sleep at night. Do what's good for you
Time is the most powerful force in investing
Be ok with things going wrong.
Use money to gain time (freedom and control)
Save. Just do it
Know there's a cost for success and be ready to pay it - including uncertainty, doubt and regret
Ensure room for error
Avoid extremes of financial decisions
Be paranoid of ruinous risk and embrace risk
Define the game you're playing (& don't confuse it for other's)
Respect the mess (different views for different goals mixed with uncertainty)
Ch. 20
1/2 of all mutual funds managers do not invest in their own funds per morningstar
The author's finance goal is not to be rich but to gain independence.
The author and his wife established a lifestyle, and then as they got raises they did not elevate their spending but stuck to the lifestyle that they had, so their raises were effectively just an increase in savings and investment... They didn't "move the goal post"
... but that works for them because he and his spouse agree and their overall goal is independence
.. "at some point you have to choose between being happy and being right.."
The author has 20% of his wealth in cash, which means he's drawing no interest or making any money on his money, but it is good for his financial sense of mind. He's counting on some unexpected expense and he never wants to interrupt the other assets that are gaining interest.. "the first rule of compounding is to never interrupt it unnecessarily"
The author thinks that for most investors dollar cost to averaging into a low-cost Index fund will provide the highest odds of long-term success.
This is what works for him. No one is crazy.
You can get the Book Here
Comments