The Psychology of Money – My Highlights
Last month I read ‘The Psychology of Money’ by Morgan Housel. These are the highlights I made.
On idols and role models and following their paths
Therefore, focus less on specific individuals and case studies and more on broad patterns. Studying a specific person can be dangerous because we tend to study extreme examples—the billionaires, the CEOs, or the massive failures that dominate the news—and extreme examples are often the least applicable to other situations, given their complexity. The more extreme the outcome, the less likely you can apply its lessons to your own life, because the more likely the outcome was influenced by extreme ends of luck or risk.
There is no reason to risk what you have and need for what you don’t have and don’t need.
How random/chance events can shape your world
A tilt of the Earth’s hemispheres caused ravenous winters cold enough to turn the planet into ice. But a Russian meteorologist named Wladimir Köppen dug deeper into Milanković’s work and discovered a fascinating nuance. Moderately cool summers, not cold winters, were the icy culprit. It begins when a summer never gets warm enough to melt the previous winter’s snow. The leftover ice base makes it easier for snow to accumulate the following winter, which increases the odds of snow sticking around in the following summer, which attracts even more accumulation the following winter. Perpetual snow reflects more of the sun’s rays, which exacerbates cooling, which brings more snowfall, and on and on. Within a few hundred years a seasonal snowpack grows into a continental ice sheet, and you’re off to the races. The same thing happens in reverse. An orbital tilt letting more sunlight in melts more of the winter snowpack, which reflects less light the following years, which increases temperatures, which prevents more snow the next year, and so on. That’s the cycle. The amazing thing here is how big something can grow from a relatively small change in conditions. You start with a thin layer of snow left over from a cool summer that no one would think anything of and then, in a geological blink of an eye, the entire Earth is covered in miles-thick ice. As glaciologist Gwen Schultz put it: “It is not necessarily the amount of snow that causes ice sheets but the fact that snow, however little, lasts.” The big takeaway from ice ages is that you don’t need tremendous force to create tremendous results.
How avoiding bad decisions can help you succeed
Good investing is not necessarily about making good decisions. It’s about consistently not screwing up.
No one wants to hold cash during a bull market. They want to own assets that go up a lot. You look and feel conservative holding cash during a bull market, because you become acutely aware of how much return you’re giving up by not owning the good stuff. Say cash earns 1% and stocks return 10% a year. That 9% gap will gnaw at you every day. But if that cash prevents you from having to sell your stocks during a bear market, the actual return you earned on that cash is not 1% a year—it could be many multiples of that, because preventing one desperate, ill-timed stock sale can do more for your lifetime returns than picking dozens of big-time winners.
Difference between becoming rich and staying rich
40% of companies successful enough to become publicly traded lost effectively all of their value over time. The Forbes 400 list of richest Americans has, on average, roughly 20% turnover per decade for causes that don’t have to do with death or transferring money to another family member. Capitalism is hard. But part of the reason this happens is because getting money and keeping money are two different skills. 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 from you just as fast. It requires frugality and an acceptance that at least some of what you’ve made is attributable to luck, so past success can’t be relied upon to repeat indefinitely.
Only the paranoid survive
A mindset that can be paranoid and optimistic at the same time is hard to maintain, because seeing things as black or white takes less effort than accepting nuance. But you need short-term paranoia to keep you alive long enough to exploit long-term optimism.
What is true freedom? How does money help achieve that?
Controlling your time is the highest dividend money pays.
But if there’s a common denominator in happiness—a universal fuel of joy—it’s that people want to control their lives. The ability to do what you want, when you want, with who you want, for as long as you want, is priceless. It is the highest dividend money pays.
Having a strong sense of controlling one’s life is a more dependable predictor of positive feelings of wellbeing than any of the objective conditions of life we have considered.
But doing something you love on a schedule you can’t control can feel the same as doing something you hate. There is a name for this feeling. Psychologists call it reactance. Jonah Berger, a marketing professor at the University of Pennsylvania, summed it up well: People like to feel like they’re in control—in the drivers’ seat. When we try to get them to do something, they feel disempowered. Rather than feeling like they made the choice, they feel like we made it for them. So they say no or do something else, even when they might have originally been happy to go along.
Understanding what you are paid to do
John D. Rockefeller was one of the most successful businessmen of all time. He was also a recluse, spending most of his time by himself. He rarely spoke, deliberately making himself inaccessible and staying quiet when you caught his attention. A refinery worker who occasionally had Rockefeller’s ear once remarked: “He lets everybody else talk, while he sits back and says nothing.” When asked about his silence during meetings, Rockefeller often recited a poem:
A wise old owl lived in an oak,
The more he saw the less he spoke,
The less he spoke, the more he heard,
Why aren’t we all like that wise old bird? Rockefeller was a strange guy. But he figured out something that now applies to tens of millions of workers. Rockefeller’s job wasn’t to drill wells, load trains, or move barrels. It was to think and make good decisions. Rockefeller’s product—his deliverable—wasn’t what he did with his hands, or even his words. It was what he figured out inside his head. So that’s where he spent most of his time and energy. Despite sitting quietly most of the day in what might have looked like free time or leisure hours to most people, he was constantly working in his mind, thinking problems through.
Do you really want expensive cars and watches or do you want respect?
The letter I wrote after my son was born said, “You might think you want an expensive car, a fancy watch, and a huge house. But I’m telling you, you don’t. What you want is respect and admiration from other people, and you think having expensive stuff will bring it. It almost never does—especially from the people you want to respect and admire you.”
Returns vs Savings
The first idea—simple, but easy to overlook—is that building wealth has little to do with your income or investment returns, and lots to do with your savings rate. A quick story about the power of efficiency. In the 1970s the world looked like it was running out of oil. The calculation wasn’t hard: The global economy used a lot of oil, the global economy was growing, and the amount of oil we could drill couldn’t keep up. We didn’t run out of oil, thank goodness. But that wasn’t just because we found more oil, or even got better at taking it out of the ground. The biggest reason we overcame the oil crisis is because we started building cars, factories, and homes that are more energy efficient than they used to be. The United States uses 60% less energy per dollar of GDP today than it did in 1950. The average miles per gallon of all vehicles on the road has doubled since 1975. A 1989 Ford Taurus (sedan) averaged 18.0 MPG. A 2019 Chevy Suburban (absurdly large SUV) averages 18.1 MPG. The world grew its “energy wealth” not by increasing the energy it had, but by decreasing the energy it needed.
How can you stand out in today’s world?
A question you should ask as the range of your competition expands is, “How do I stand out?” “I’m smart” is increasingly a bad answer to that question, because there are a lot of smart people in the world. Almost 600 people ace the SATs each year. Another 7,000 come within a handful of points. In a winner-take-all and globalized world these kinds of people are increasingly your direct competitors.
Intelligence is not a reliable advantage in a world that’s become as connected as ours has. But flexibility is. In a world where intelligence is hyper-competitive and many previous technical skills have become automated, competitive advantages tilt toward nuanced and soft skills—like communication, empathy, and, perhaps most of all, flexibility. If you have flexibility you can wait for good opportunities, both in your career and for your investments. You’ll have a better chance of being able to learn a new skill when it’s necessary. You’ll feel less urgency to chase competitors who can do things you can’t, and have more leeway to find your passion and your niche at your own pace. You can find a new routine, a slower pace, and think about life with a different set of assumptions. The ability to do those things when most others can’t is one of the few things that will set you apart in a world where intelligence is no longer a sustainable advantage. Having more control over your time and options is becoming one of the most valuable currencies in the world.
Spreadsheets vs real world
One is volatility. Can you survive your assets declining by 30%? On a spreadsheet, maybe yes—in terms of actually paying your bills and staying cash-flow positive. But what about mentally? It is easy to underestimate what a 30% decline does to your psyche. Your confidence may become shot at the very moment opportunity is at its highest. You—or your spouse—may decide it’s time for a new plan, or new career. I know several investors who quit after losses because they were exhausted. Physically exhausted. Spreadsheets are good at telling you when the numbers do or don’t add up. They’re not good at modeling how you’ll feel when you tuck your kids in at night wondering if the investment decisions you’ve made were a mistake that will hurt their future. Having a gap between what you can technically endure versus what’s emotionally possible is an overlooked version of room for error.
Other relevant lines
Napoleon’s definition of a military genius was, “The man who can do the average thing when all those around him are going crazy.”
“It’s not whether you’re right or wrong that’s important,” George Soros once said, “but how much money you make when you’re right and how much you lose when you’re wrong.” You can be wrong half the time and still make a fortune.