The Psychology of Money
Thoughts
This is my first book I’ve read since I started my study in the US. This book made me rethink what my life goal is. It mentioned many practical ideas that really resonate with me, and I think the most important one is “the ultimate way to use money is to do what makes you sleep well at night”. I feel that people often experience fear of missing out, as information travels fast than we can imagine. It’s difficult in this era to clearly find the path meant for you, as everyone is on their own unique path of life. Everytime I think about this, I feel more at peace when people around me achieve things I also aspire to have. Everyone is on their own path. Find your goal and act according to it. The goal may change, but you have the best weapon – time. To some extent, the economy can be related to emotions. The economy changes because everyone’s expectations change, which leads to changes in their behavior and, consequently, in the real economy. Our brain works the same way. It predicts the “body budget” we will need, and our body adjusts chemicals accordingly, which in turn makes us “feel” emotions.
My Notes
Introduction
Financial outcomes are driven by luck, independent of intelligence and effort. Moreover, financial success is not a hard science. It is a soft skill, where how you behave in more important than what you know. The author call this soft skill the psychology of money.
Physics follows the law, but finance is different. Finance is guided by people’s behaviors. And how I behave might make sense to me but look crazy to you.
Ch1. No One’s Crazy
People do some crazy thing with money. But no one is crazy. Everyone has their own unique experience with how the world works. And what we’ve experienced is more compelling than what we learn second-hand. So all of us go through life anchored to a set of views about how money works that vary wildly from person to person. What seems crazy to you might make sense to me.
Ch2. Luck & Risk
Luck and risk are both the reality that every outcome in life in guided by forces other then individual effort. It’s possible to statistically measure whether some decisions were wise. But in the real world, day to day, we simply don’t. It’s too hard. We prefer simple stories, which are easy but often devilishly misleading. The difficulty in identifying what is luck, what is skill, and what is risk is one of the biggest problems we face when trying to learn about the best way to manage money. Be careful who you praise and admire. Be careful who you look down upon and wish to avoid becoming. Be careful when assuming that 100% of outcomes can be attributed to effort and decisions. Therefore, focus less on specific individuals and case studies and more on broad patterns. Nothing is as good or as bad as it seems.
Ch3. Never Enough
There is no reason to risk what you have and need for what you don’t have and don’t need. The hardest financial skill is getting the goalpost to stop moving. Life isn’t any fun without a sense of enough. Social comparison is the problem here. The ceiling of social comparison is so high that virtually no one will ever hit it. “Enough” is not too little. “Enough” is realizing that the opposite – an insatiable appetite for more – will push you to the point of regret. There are may things never worth risking, no matter the potential gain. Reputation, freedom and independence, family and friends, loved ones and be leing loved, happiness.
Ch4. Confounding Compounding
The big takeaway from ice ages is that you don’t need tremendous force to create tremendous results. The counterintuitive nature of compounding leads even the shartest of us to overlook tts power. When compounding isn’t intuitive we often ignore its potential and focus on solving problems through other means. Not because we’re overthinking, but because we rarely stop to consider compounding potential. Good investing isn’t necessarily about earning the highest returns, because it tend to be one-off hits that can’t be repeated. It’s about earning pretty good returns that you can stick with and which can be repeated for the longest period of time. That’s when compounding runs wild.
Ch5. Getting Wealthy vs. Staying Wealthy
There are a million ways to get healthy, and there’s only one way to stay wealthy: some combination of frugality and paranoia. Getting money is one thing, keeping it is another. If I had to summarize money success in a single world it would be “survival”. There are two reasons why a survival mentality is so key with money. One is the obvious: few gains are so great that they’re worth wiping yourself out over. The other is the counterintuitive math of compounding. Applying the survival mindset to the real world comes down to appreciation three things.
- More than I want big returns, I want to be finacially unbreakable. And if I’m unbreakable I actually think I’ll get the biggest returns, because I’ll be able to stick 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.
- A barbelled personality – optimistic about the future, but paranoid about what will prevent you from getting to the future – is vital.
Ch6. Tails, You Win
Long tails – the farthest ends of a distribution of outcomes – have tremendous influence in finance, where a small number of events can account for the majority of outcomes. Remember, tails drive everything. Your success as an investor will be determined by how you respond to punctuated moments of terror, not the years spent on cruise control. A good definition of an investing genius is the man or woman who can do the average thing when all those around them are going crazy.
Ch7. Freedom
The highest form of wealth is the ability to wake up every morning and say, “I can do whatever I want today.” Money’s greatest intrinsic value is its ability to give you control over time. Valuable things from elderly are quality friendships, being part of something bigger than themselves, and spending quality, unstructured time with their children. No one mentioned work as hard as you can, at least as wealthy as the people around you, choose work based on desired future earning power. Controlling your time is the highest dividend money pays.
Ch8. Man in the Car Paradox
When you see someone driving a nice car, you rarely think the guy driving that car is cool. Instead, you think if you had that car people would think you’re cool. What you want is respect and admiration from other people, but having expensive things never brings them.
Ch9. Wealth is what you don’t see
We tend to judge wealth by what we see, but wealth is hidden. It’s income not spent. Its value lies in offering you options, flexibility, and growth to one day purchase more stuff than you could right now. We should be careful to define the difference between wealthy and rich. Exercise is like being rich. Wealth is turning down treat meal after exercise and actually burning net calories. It’s easy to find rich role modelsand harder to find wealthy ones. And it’s difficult to learn from what you can’t see.
Ch10. Save money
Savings can be created by spending less. You can spend less if you desire less. And you will desire less if you care less about what others think of you. Every bit of savings is like taking a point in the future that would have been owned by someone else and giving it back to yourself. The flexibility and control over time is an unsees return on wealth. The return on cah in the bank that gives you option od changing careers, or retiring earl, or freedom from worry is incalculable. Having more control over your time and options is becoming one of the most valuable currencies in the world.
Ch11. Reasonable > Rational
People are neither rational nor irrational. We are human. One of the most important parts of finace and often goes overlooked: Do not aim to be coldly rational when making financial decisions. Aim to just be pretty reasonable. Reasonable is more realistic and you have a better chance of sticking with it for the long run, which is what matters most when managing money. A doctor’s goal is not just to cure disease. It’s to cure disease within the confines of what’s reasonable and tolerable to the patient. It may be reational to want a fever if you have an infection. But it’s not reasonable. Fevers hurt. And people don’t want to hurt. “My intention was to minimize my future regret.” Harry Markowitz “We do some things for family reasons. If it’s not consistent, well, life isn’t always consistent.” Jack Bogle
Ch12. Surprise!
History is mostly the study of surprising events. But it is often used by investors and economists as an unassailable guide to the future. Two dangerous things happen when you rely too heavy on investment history as a guide to what’s going to happen next.
- You’ll likely to miss the outlier events that move the needle the most. When we made a mistake, we say “we’ll never make that mistake again.” But, in fact, what you should learn when you make a mistake because you did not anticipate something is that the world is difficult to anticipate. The correct lesson to learn from surprises is that the world is surprising.
- History can be a misleading guide to the future of the ecomony and stock market because it doesn’t account for structural changes that are relevant to today’s world. The further back in history you look, the more general your takeaways should be. It is because the further back you look, the more likely you are to be examining a world that no longer applies to today.
Ch13. Room for Error
There is never a moment when you’re so right that you can bet every chip in front of you. The world isn’t that kind to anyone – not consistently, anyways. You have to give yourself room for error. You have to plan on your plan not going according to plan. “The purpose of the margin of safety is to render the forecast unnecessary.” – Benjamin Graham Two things cause us to avoid room for error. One is the idea that somebody must know what the future holds, driven by the uncomfortable feeling that comes from admitting the opposite. The second is that you’re therefore doing yourself harm by not taking actions that fully exploit an accurate view of that future coming true. “The best way to achieve felicity is to aim low.” – Charlie Munger “You can be risk loving and yet completely averse to ruin.” – Nassim Taleb If there’s one way to guard against unknown risks, it’s avoiding single points of failure. Everything that can break will eventually break. In fact, the most important part of every pllan is planning on your plan not going according to plan.
Ch14. You’ll Change
An underpinning of psychology is that people are poor forecaster of their future selves. There is no easy solution to this problem, but there are two things to keep in mind when making what you think are long-term decisions. We should avoid the extreme ends of financial planning, and we should also come to accept the reality of changing our minds. Embracing the idea that financial goals made when you were a different person should be abandoned without mercy versus put on life support and dragged on can be a good strategy to minimize future regret.
Ch15. Nothing’s Free
Everything has a price, but not all prices appear on labels. Successful investing demands a price. But it’s currency is not dollars and cents. It’s volatility, fear, doubt, uncertainty, and regret – all of which are easy to overlook until you’re dealing with them in real time. Most of the time, Dow Jones Industrial Average was at least 5% below its previous all-time high. This is the price of market returns. The fee. It is the cost of admission. And it hurts. Why many people try so hard to avoid paying the price of good inventement returns? The answer is simple: The price of investing success is not immediately obvious. The trick is convincing yourself that the market’s fee is worth it. That’s the only way to properly deal with volatility and uncertainty – not just putting up with it, but realizing that it’s an admission fee worth paying. There’s not guarantee that it will be. Sometimes it rains at Disneyland. But if you view the admission fee as a fine, you’ll never enjoy the magic.
Ch16. You and Me
An idea exists in finance that seems innocent but has done incalculable damage. It’s the notion that assets have one rational price in a world where investors have different goals and time horizons. When a commentator on CNBC says, “you should buy this stock,” keep in mind that they do not know who you are. Are you a teenager trading for fun? An elderly widow on a limited budget? A hedge fund manager trying to shore up your books before the quarter ends? Are we supposed to think those three people have the same priorities, and that whatever level a particular stock is trading at is right for all three of them? It’s crazy. We’re just playing a different game. Few things matter more with money than understanding your own time horizon and not being persuaded by the actions and behaviors of people playing different games than you are.
Ch17. The Seduction of Pessimism
Optimism is the best bet for most people because the world tends to get better for most people most of the time. Optimism is a belief that the odds of a good outcome are in your favor over timen even when there will be setbacks along the way. But pessimism holds a special place in our hearts. Pessimism isn’t just more common than optimism, it also sounds smarter and more plausible to optimism. There are valid reasons why pessimism is seductive when dealing with money.
- When directly compared or weighted against each other, losses loom larger than gains.
- Money is ubiquitous, so something bad happening tends to affect everyone and captures everyone’s attention.
- Pessimists often extrapolate present trends without accounting for how markets adapt.
- Progress happens too slowly to notice, but setbacks happen too quickly to ignore.
It’s easier to create a narrative around pessimism because the story pieces tend to be fresher and more recent. Optimistic narratives require looking at a long stretch of history and developments, which people tend to forget and take more effort to piece together. Expecting things to be bad is the best way to be pleasantly surprised when they’re not. Which, ironically, is something to be optimistic about.
Ch18. When You’ll Believe Anything
Stories are, by far, the most powerful force in the economy. They are the fuel that can let the tangible parts of the economy work, or the brake that holds our capabilities back. Why?
- The more you want something to be true, the more likely you are to believe a story that overestimates the odds of it being true.
- Everyone has an incomplete view of the world, But we form a complete narrative to fill the gaps.
- The ability to explain the past, gives the illusion that the world is understandable. It gives 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. – Daniel Kahneman
- Risk is what’s left over when you think you’ve thought of everything. – Carl Richards
- We need to believe we live in a predictable, controllable world, so we turn to authoritative-sounding people who promise to satisfy that need. – Philip Tetlock
The author’s daughter has no idea why her dad goes to work every morning. But her world isn’t dark, she does not wander around in confusion. Because she tells herself a coherent story about what’s going on based on the little she does know. We all do this self-explaining to some extent. It doesn’t bother us a bit.
The one who’s confident he knows what’s happening based on what he sees but turns out to be completely wrong because he can’t know the stories going on inside everyone else’s head? He’s all of us.
