Sep 2021 Week 3 – Psychology of Money

Trying out weekly posts format, let’s see how it goes 🙂

I am thinking of sharing what I found most insightful or interesting over the past week.

I am reading two books currently – The Psychology of Money (by Morgan Housel) and When Things Fall Apart (by Pema Chodron). While both of them focus on different subjects, the underlying theme is psychology. Think I may be able to cover only the first book in this post. More to come later…

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I have always had an interest in finance and investments so I am always reading something related to that. What got me interested in the book, The Psychology of Money, is that it talks about the mindset about money or wealth (it’s not preachy at all). While there is enormous content on the technicalities of investing/trading, anyone who has delved into this genre will know that ultimately there is no secret formula. Eventually, every investor or trader needs to figure out their own style, comfort level and risk tolerance. That is the basis of investment decisions and strategies. But I haven’t come across many books that address the behavioral dimension. I have been driven by the question – how to think about money? We are all conditioned to think about it a certain way depending on the environment we are exposed to. But nevertheless, we all have fears and questions around it. There is a line in the book that I wholeheartedly believe in – “Two topics impact everyone, whether you’re interested in them or not: health and money.”

Sharing some of the highlights from the introduction and first chapter titled, No One’s Crazy below. I loved the way Morgan has articulated concepts with great simplicity.

• Through collective trial and error over the years, we learned how to become better farmers, skilled plumbers, and advanced chemists. But has trial and error taught us to become better with our personal finances? Are we less likely to bury ourselves in debt? Have realistic views about what money does, and doesn’t do, to our happiness? I’ve seen no compelling evidence. Most of the reason why, I believe, is 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). And that, to me, is as fascinating as it is important. Money is everywhere, it affects all of us, and confuses most of us. Everyone thinks about it a little differently. It offers lessons on things that apply to many areas of life, like risk, confidence and happiness. Few topics offer a more powerful magnifying glass that helps explain why people behave the way they do than money. It is one of the greatest shows on earth. The more I studied and wrote about the financial crisis, the more I realized that you could understand it better through the lenses of psychology and history, not finance.

• Few people make financial decisions purely with a spreadsheet. They make them at the dinner table, or in a company meeting. Places where personal history, your own unique view of the world, ego, pride, marketing, and odd incentives are scrambled together into a narrative that works for you. 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. So equally smart people can disagree about how and why recessions happen, how you should invest your money, what you should prioritize, how much risk you should take, and so on.

• The challenge for us is that no amount of studying or open- mindedness can genuinely recreate the power of fear and uncertainty. I can read about what it was like to lose everything during the Great Depression. But I don’t have the emotional scars of those who actually experienced it. And the person who lived through it can’t fathom why someone like me could come across as complacent about things like owning stocks. We see the world through a different lens. Spreadsheets can model the historic frequency of big stock market declines. But they can’t model the feelings of coming home, looking at your kids, and wondering if you’ve made a mistake that will impact their lives. Studying history makes you feel like you understand something. But until you’ve lived through it and personally felt its consequences, you may not understand it enough to change your behavior. We all think we know how the world works. But we’ve all only experienced a tiny sliver of it.

The author gives a very interesting example of lottery. According to his research, mostly poor people buy lottery tickets. In doing so, they spend an average of $412 per year. However, the irony is that they will not be able to come up with $400 in case of an emergency. The author says that most people will find this crazy and hard to rationalize. But he provides a perspective of someone from that lower-income group who may be buying these tickets – they may feel that this is their only ticket to having a better life as they live paycheck-to-paycheck and savings seem out of reach. Imagine this – “We are paying for a dream, and you may not understand that because you are already living that dream. That’s why we buy more tickets than you do.” Author says you don’t have to agree with this reasoning. Buying lotto tickets when you’re broke is still a bad idea but he can understand why lotto ticket sales persist. He goes on to say “and that idea – what you’re doing seems crazy but I kind of understand why you’re doing it – uncovers the root of many of our financial decisions.”

I am certainly enjoying reading this book. I was surprised to learn that this book was released only last year (most popular finance books are timeless classics). I like the author’s writing style and ideas. After all, he has written for publications such as Wall Street Journal. I also found it interesting to learn that I had very similar experience and thought process as him with regards to investment banking as a career choice. Basically, we were allured by it during college days, tried an internship, found it intellectually challenging but couldn’t make sense of the crazy hours and pressure. He was miserable and decided to give it up. As he says, “The hardest thing about this was that I loved the work. And I wanted to work hard. But doing something you love on a schedule you can’t control can feel the same as doing something you hate.” I couldn’t agree more. What he comes down to is that feeling in control of your schedule may be one of the biggest determinants of happiness and providing that freedom is the inherent value of money.

So long until the next post 🙂 Thanks for reading!