From Morgan Housel’s “The Psychology of Money”
Chapter 11. “Reasonable Rational”
- “Aiming to be mostly reasonable works better than trying to be coldly rational.”
- “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.” (p. 93)
- “Academic finance is devoted to finding the mathematically optimal investment strategies. My own theory is that, in the real world, people do not want the mathematically optimal strategy. They want the strategy that maximizes for how well they sleep at night.” (p. 95)
- “The historical odds of making money in U.S. markets are 50/50 over one-day periods, 68% in one-year periods, 88% in 10-year periods, and (so far) 100% in 20-year periods. Anything that keeps you in the game has a quantifiable advantage.” (p. 97)
- “Day trading and picking individual stocks is not rational for most investors—the odds are heavily against your success. But they’re both reasonable in small amounts if they scratch an itch hard enough to leave the rest of your more diversified investments alone.” (p. 98)
- “Jack Bogle, the late founder of Vanguard, spent his career on a crusade to promote low-cost passive index investing. Many thought it interesting that his son found a career as an active, high-fee hedge fund and mutual fund manager. Bogle—the man who said high-fee funds violate “the humble rules of arithmetic”—invested some of his own money in his son’s funds. What’s the explanation? “We do some things for family reasons,” Bogle told The Wall Street Journal. “If it’s not consistent, well, life isn’t always consistent.” (p. 98)
Chapter 12, “Suprise!”
- “Things that have never happened before happen all the time.” (p. 100)
- “It is smart to have a deep appreciation for economic and investing history. History helps us calibrate our expectations, study where people tend to go wrong, and offers a rough guide of what tends to work. But it is not, in any way, a map of the future. A trap many investors fall into is what I call “historians as prophets” fallacy: An overreliance on past data as a signal to future conditions in a field where innovation and change are the lifeblood of progress.” (p. 100)
- “Two dangerous things happen when you rely too heavily on investment history as a guide to what’s going to happen next. 1. You’ll likely miss the outlier events that move the needle the most. The most important events in historical data are the big outliers, the record-breaking events. They are what move the needle in the economy and the stock market. The Great Depression. World War II. The dot-com bubble. September 11th. The housing crash of the mid-2000s.” (p. 101)
- “The majority of what’s happening at any given moment in the global economy can be tied back to a handful of past events that were nearly impossible to predict.” (p. 103)
- “The Intelligent Investor is one of the greatest investing books of all time. But I don’t know a single investor who has done well implementing Graham’s published formulas. The book is full of wisdom—perhaps more than any other investment book ever published. But as a how-to guide, it’s questionable at best.” (p. 107)
- “Just before he died Graham was asked whether detailed analysis of individual stocks—a tactic he became famous for—remained a strategy he favored. He answered: In general, no. I am no longer an advocate of elaborate techniques of security analysis in order to find superior value opportunities. This was a rewarding activity, say, 40 years ago, when our textbook was first published. But the situation has changed a great deal since then.” (p. 108)
Chapter 13. “Room for Error”
- “The most important part of every pan is planning on your plan not going according to plan”
- “What matters is that a blackjack card counter knows they are playing a game of odds, not certainties. In any particular hand they think they have a good chance of being right, but know there’s a decent chance they’re wrong.” (p. 111)
- “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.” (p. 111)
- “Margin of safety—you can also call it room for error or redundancy—is the only effective way to safely navigate a world that is governed by odds, not certainties. And almost everything related to money exists in that kind of world.” (p. 112)
- “But people underestimate the need for room for error in almost everything they do that involves money.” (p. 113)
- “Harvard psychologist Max Bazerman once showed that when analyzing other people’s home renovation plans, most people estimate the project will run between 25% and 50% over budget. But when it comes to their own projects, people estimate that renovations will be completed on time and at budget. Oh, the eventual disappointment.” (p. 113)
- “Room for error lets you endure a range of potential outcomes, and endurance lets you stick around long enough to let the odds of benefiting from a low-probability outcome fall in your favor. The biggest gains occur infrequently, either because they don’t happen often or because they take time to compound. So the person with enough room for error in part of their strategy (cash) to let them endure hardship in another (stocks) has an edge over the person who gets wiped out, game over, insert more tokens, when they’re wrong.” (p. 113)
- “When Microsoft was a young company, he said he “came up with this incredibly conservative approach that I wanted to have enough money in the bank to pay a year’s worth of payroll even if we didn’t get any payments coming in.” (p. 114)
- Warren Buffet “I have pledged—to you, the rating agencies and myself—to always run Berkshire with more than ample cash … When forced to choose, I will not trade even a night’s sleep for the chance of extra profits.” (p. 114)
- “Leverage is the devil here. Leverage—taking on debt to make your money go further—pushes routine risks into something capable of producing ruin.” (p. 115)
- “The biggest single point of failure with money is a sole reliance on a paycheck to fund short-term spending needs, with no savings to create a gap between what you think your expenses are and what they might be in the future.”
Chapter 14. “You’ll Change.”
- Housel grew up with a friend whose dream as a teenager was to become a doctor. Housel recently asked him how his life is. “Awful career, man.” This went on for 10 minutes. The stress and hours had worn him into the ground. He seemed as disappointed in where he is today as he was driven toward where he wanted to be 15 years ago.” (p. 120)
- “Long term planning is harder than it seems because people’s goals and desires change over time”
- “An underpinning of psychology is that people are poor forecasters of their future selves. Imagining a goal is easy and fun. Imagining a goal in the context of the realistic life stresses that grow with competitive pursuits is something entirely different. This has a big impact on our ability to plan for future financial goals.” (p. 120)
- “Only 27% of college grads have a job related to their major, according to the Federal Reserve.” (p. 121)
- “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. Assuming you’ll be happy with a very low income, or choosing to work endless hours in pursuit of a high one, increases the odds that you’ll one day find yourself at a point of regret. The fuel of the End of History Illusion is that people adapt to most circumstances, so the benefits of an extreme plan—the simplicity of having hardly anything, or the thrill of having almost everything—wear off.” (p 122)
- “The End of History Illusion is what 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.” (p. 121)
Chapter 15. “Nothing’s Free”
- “Every job looks easy when you’re not the one doing it because the challenges faced by someone in the arena are often invisible to those in the crowd.” (p. 126)
- “Most things are harder in practice than they are in theory. Sometimes this is because we’re overconfident. More often it’s because we’re not good at identifying what the price of success is, which prevents us from being able to pay it.” (p. 126)
- “The S&P 500 increased 119-fold in the 50 years ending 2018. All you had to do was sit back and let your money compound. But, of course, successful investing looks easy when you’re not the one doing it. “Hold stocks for the long run,” you’ll hear. It’s good advice. But do you know how hard it is to maintain a long-term outlook when stocks are collapsing? Like everything else worthwhile, successful investing demands a price. But its 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.” (p. 127)
- “But say you want to earn an 11% annual return over the next 30 years so you can retire in peace. Does this reward come free? Of course not. The world is never that nice. There’s a price tag, a bill that must be paid. In this case it’s a never-ending taunt from the market, which gives big returns and takes them away just as fast.” (p. 127)
- “Like most products, the bigger the returns, the higher the price. Netflix stock returned more than 35,000% from 2002 to 2018, but traded below its previous all-time high on 94% of days. Monster Beverage returned 319,000% from 1995 to 2018—among the highest returns in history—but traded below its previous high 95% of the time during that period.” (p. 128)
- “It sounds trivial, but thinking of market volatility as a fee rather than a fine is an important part of developing the kind of mindset that lets you stick around long enough for investing gains to work in your favor. Few investors have the disposition to say, “I’m actually fine if I lose 20% of my money.” This is doubly true for new investors who have never experienced a 20% decline. But if you view volatility as a fee, things look different.” (p. 131)
Chapter 16. “You and Me”
- “Competition for investment returns is fierce, and someone has to own every asset at every point in time. That means the mere idea of bubbles will always be controversial, because no one wants to think they own an overvalued asset. In hindsight we’re more likely to point cynical fingers than to learn lessons. I don’t think we’ll ever be able to fully explain why bubbles occur. It’s like asking why wars occur—there are almost always several reasons, many of them conflicting, all of them controversial. It’s too complicated a subject for simple answers. But let me propose one reason they happen that both goes overlooked and applies to you personally: Investors often innocently take cues from other investors who are playing a different game than they are.” (. 134)
- “It’s hard to grasp that other investors have different goals than we do, because an anchor of psychology is not realizing that rational people can see the world through a different lens than your own.” (p. 138)
- “Ask yourself: How much should you pay for Google stock today? The answer depends on who “you” are. Do you have a 30-year time horizon? Then the smart price to pay involves a sober analysis of Google’s discounted cash flows over the next 30 years.
Are you looking to cash out within 10 years? Then the price to pay can be figured out by an analysis of the tech industry’s potential over the next decade and whether Google management can execute on its vision.
Are you looking to sell within a year? Then pay attention to Google’s current product sales cycles and whether we’ll have a bear market.
Are you a day trader? Then the smart price to pay is “who cares?” because you’re just trying to squeeze a few bucks out of whatever happens between now and lunchtime, which can be accomplished at any price.
When investors have different goals and time horizons—and they do in every asset class—prices that look ridiculous to one person can make sense to another, because the factors those investors pay attention to are different.” (p. 135) - “So much consumer spending, particularly in developed countries, is socially driven: subtly influenced by people you admire, and done because you subtly want people to admire you.” (p. 138)
Chapter 17. “The Seduction of Pessimism”
- “Tell someone that everything will be great and they’re likely to either shrug you off or offer a skeptical eye. Tell someone they’re in danger and you have their undivided attention.” (p. 143)
- “Growth is driven by compounding, which always takes time. Destruction is driven by single points of failure, which can happen in seconds, and loss of confidence, which can happen in an instant. 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.” (p. 149)
- “There is an iron law in economics: extremely good and extremely bad circumstances rarely stay that way for long because supply and demand adapt in hard-to-predict ways.” (p. 146)
- “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.” (p. 149)
Chapter 18. “When You’ll Believe Anything”
- “Appealing fictions, and why stories are more powerful than statistics.” (p. 151)
- “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.” (p. 154)
- “There are many things in life that we think are true because we desperately want them to be true.” (p. 154)
- “Consider that 85% of active mutual funds underperformed their benchmark over the 10 years ending 2018.65 That figure has been fairly stable for generations. You would think an industry with such poor performance would be a niche service and have a hard time staying in business. But there’s almost five trillion dollars invested in these funds.66 Give someone the chance of investing alongside “the next Warren Buffett” and they’ll believe with such faith that millions of people will put their life savings behind it.” (p. 156)
- “Madoff raised billions of dollars from some of the most sophisticated investors in the world. He told a good story, and people wanted to believe it.” (p. 156)
- “Everyone has an incomplete view of the world. But we form a complete narrative to fill in the gaps.” (p. 157)
- “Think about market forecasts. We’re very, very bad at them. I once calculated that if you just assume that the market goes up every year by its historic average, your accuracy is better than if you follow the average annual forecasts of the top 20 market strategists from large Wall Street banks. Our ability to predict recessions isn’t much better. And since big events come out of nowhere, forecasts may do more harm than good, giving the illusion of predictability in a world where unforeseen events control most outcomes.” (p. 159)
- “Even when they are not sure they will succeed, these bold people think their fate is almost entirely in their own hands. They are surely wrong: the outcome of a start-up depends as much on the achievements of its competitors and on changes in the market as on its own efforts.” (p. 160)
Chapter 19. “All Together Now”
- “Go out of your way to find humility when things are going right and forgiveness/compassion when they go wrong. Because it’s never as good or as bad as it looks. The world is big and complex. Luck and risk are both real and hard to identify. Do so when judging both yourself and others. Respect the power of luck and risk and you’ll have a better chance of focusing on things you can actually control. You’ll also have a better chance of finding the right role models.” (p. 165)
- “Less ego, more wealth. Saving money is the gap between your ego and your income, and wealth is what you don’t see. So wealth is created by suppressing what you could buy today in order to have more stuff or more options in the future. No matter how much you earn, you will never build wealth unless you can put a lid on how much fun you can have with your money right now, today.” (p. 165)
- “Manage your money in a way that helps you sleep at night.” (p. 165)
- “If you want to do better as an investor, the single most powerful thing you can do is increase your time horizon.” (p. 165)
- “No matter what you’re doing with your money you should be comfortable with a lot of stuff not working. That’s just how the world is. So you should always measure how you’ve done by looking at your full portfolio rather than individual investments.” (p. 166)
- “Use money to gain control over your time, because not having control of your time is such a powerful and universal drag on happiness. The ability to do what you want, when you want, with who you want, for as long as you want to, pays the highest dividend that exists in finance.” (p. 166)
- “Be nicer and less flashy. No one is impressed with your possessions as much as you are. You might think you want a fancy car or a nice watch. But what you probably want is respect and admiration. And you’re more likely to gain those things through kindness and humility than horsepower and chrome.” (p. 166)
- “Avoid the extreme ends of financial decisions. Everyone’s goals and desires will change over time, and the more extreme your past decisions were the more you may regret them as you evolve.” (p. 166)
- “You should like risk because it pays off over time. But you should be paranoid of ruinous risk because it prevents you from taking future risk that will pay off over time.” (p. 166)
Chapter 20. “Confessions.”
- “Half of all U.S. mutual fund portfolio managers do not invest a cent of their own money in their funds, according to Morningstar.” (p. 168)
- “Chasing the biggest returns or leveraging my assets to live the most luxurious life has little interest to me. Both look like games people do to impress their friends, and both have hidden risks. I mostly just want to wake up every day knowing my family and I can do whatever we want to do on our own terms. Every financial decision we make revolves around that goal.” (p. 169)
- “Being able to wake up one morning and change what you’re doing , on your own terms, whenever you’re ready, seems like the grandmother of all financial goals. Independence to me, doesn’t mean you’ll stop working. It means you only do the work you like with people you like at the times you want for as long as you want.” (p. 170)
- “And achieving some level of independence does not rely on earning a doctor’s income. It’s mostly a matter of keeping your expectations in check and living below your means. Independence, at any income level, is driven by your savings rate. And past a certain level of income your savings rate is driven by your ability to keep your lifestyle expectations from running away.” (P. 171)
- “Our savings rate is fairly high, but we rarely feel like we’re repressively frugal because our aspirations for more stuff haven’t moved much. It’s not that our aspirations are nonexistent- we like nice stuff and live comfortably. We just got the goalpost to stop moving.” (p. 171)
- “Most of what we get pleasure from- going for walks, reading, podcasts- costs little, so we rarely feel like we’re missing out.” (p. 171)
- “If you can meet all your goals without having to take the added risk that comes from trying to outperform the market, then what’s the point of even trying? I can afford to not be the greatest investor in the world, but I can’t afford to be a bad one. When I think of it that way, the choice to buy the index and hold on is a no-brainer for us.” (p. 174)
- “I don’t know how I did as a stock picker. Did I beat the market? I’m not sure. Like most who try, I didn’t keep a good score. Either way, I’ve shifted my views and now every stock we own is a low cost index fund.” (P. 173)
- “Beating the market should be hard; the odds of success should be low. If they weren’t, everyone would do it, and if everyone did it there would be no opportunity. So no one should be surprised that the majority of those trying to beat the market fail to do so.” (p. 173)
- “We invest money from every paycheck into these index funds- a combination of U.S and international stocks. We max out retirement accounts in the same funds, and contribute to our kids’ 529 college savings plans. And that’s about it. Effectively all of our net worth is a house, a checking account, and some Vanguard index funds.” (p. 175)