At The Money: Behavior Beats Intelligence (July 24, 2024)
We focus most of our investing efforts on information and knowledge. But is that where we generate the highest ROI? As it turns out, managing your behavior has a much greater impact on your returns than does any single data point.
Full transcript below:
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About this week’s guest:
Morgan Housel is a partner at the Collaborative Fund and author of “The Psychology of Money: Timeless lessons on wealth, greed, and happiness.”
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Morgan Housel
Finance types tend to focus on attributes like intelligence, math skills and computer programming. But it turns out financial success is less about knowledge and more dependent on how you behave and make decisions than raw intelligence. How you behave with money matters more than what you know about money.
I’m Barry Ritholtz and on today’s edition of at the money. We’re going to discuss how to make sure your behavior is not getting in the way of your portfolio. To help us unpack all of this and what it means for your investments, let’s bring in Morgan Housel. He is the author of “The Psychology of Money.” The book has received widespread acclaim for its insightful approach. to personal finance and has sold six million copies worldwide.
So Morgan, let’s start with your main thesis. Financial decisions in the real world are influenced by our personal history, world views, ego, pride, too many other factors to list. It’s not just mathematical calculations.
Morgan Housel: That’s right, Barry. I think one analogy here would be think about health and medicine. You can have a medical degree from Harvard and know everything about biology and have all that insight in that intelligence. But if you smoke, And you don’t eat a good diet and you’re not getting enough sleep.
None of it matters. None of the intelligence matters unless the behavior actually clicks and is working and finance is the exact same. You can know everything about math and data and markets, but if you don’t control your sense of greed and fear and you’re managing uncertainty in your behavior, none of it matters.
So this is why finance is one of the few fields where people who do not have a lot of education and financial sophistication, but if they have the right behaviors, can do very well over time.
Barry Ritholtz: Sounds like behavior over knowledge is the key. Why is it that how we behave matters so much more than what we know? Does financial knowledge at all insulate us from poor decision making?
Morgan Housel: I think it can. Of course, there are, you know, lots of professional investors who are extremely good at what they do. But what is important is that. Behavior is the base of the pyramid. What I mean by that is if you have not mastered behavior, none of the financial intelligence that lies on top of that matters. And this is why you have professionals who have all the great background and all the data, all the connections that the amateurs don’t, who still do very poorly.
It’s so counterintuitive in investing that the harder you try, it’s very often that the worst you do, and it’s counterintuitive because there aren’t many other areas in life that are like that.
If you want to get better at sports, if you want to get better at a lot of different professions, you need to try harder. You need to work harder. You need more information. You need more insight. In investing, it’s usually the opposite. It’s the people who just leave it alone and go enjoy the rest of their lives and leave their portfolio alone to compound uninterrupted for years or decades tend to be the ones looking back who have done the best.
Barry Ritholtz: Don’t just do something. Sit there. [That’s right].
It seems obvious we should have a long term perspective in, in financial planning and investing. And yet we tend to get pulled into impulsive short term thinking. Why is this?
Morgan Housel: I think it’s largely because there is so much information to do. So if the stock market were open once a year, that would actually be fine. And you know, once a year that it was open, it would go up 10 percent or down 20%, whatever it would do, but it would just be once a year. Whereas in investing, we have literally all day. All day of information, stock tickers, it’s always in your face. You’re always going to hear about it immediately. That is always been the case. That was true in the 1920s. And in today it is even more true because of social media and you’re getting all this information bombarded at you.
Think about the value of your house. Most people would not, you know, Wake up and turn on CNBC and say, what are the analysts saying about the value of my house today? They just know that I’m going to live here for 5 or 10 years, whatever it might be. And I expect the value will probably go up. Maybe it goes up a lot. Maybe it goes up a little, it’s not that big of a deal. And because there’s not a lot of information.
Now, what’s interesting is that Zillow. I think has innocently changed that in the last decade or two, where now people can check every day and see if the value of the house went up yesterday on Zillow. Like what’s his estimate of this? Oh! Oh! It went down 10, 000 yesterday. What’s going on here. And so it’s, you know, the, the, the more information you have, the more temptations you have to pull the levers and fiddle with the knobs and try to figure out what the best portfolio solution is.
The irony is that if people paid less attention to what they’re doing, they would probably do better over the long run.
Barry Ritholtz: Let’s talk about the role of luck in financial outcomes. How important is it for investors to recognize the influence of serendipity?
Morgan Housel: Well, luck in my description is just things can happen in the world outside of your control that you have no influence over that have a bigger impact on outcomes than anything that you did intentionally. That’s what luck is.
And it plays a tremendous role in investing. We don’t like to talk about it or admit it because if I say, Barry, you got lucky, I look jealous and bitter. And if I look in the mirror and I say, Morgan, you just got lucky, that’s hard to accept as well.
There’s lots of people who will push back on that and say, they’ll have, they’ll come up with quotes and say, oh, the, the, the harder I work, the luckier I get to me.
That’s just not what luck is. Luck is like by definition, if you can work harder and do better at something, then it’s not luck. It’s skill to me, the biggest elements of luck and investing. Are where, when, and to whom you were born? What generation are you from? What country were you born in and who are your parents?
You have no control over those things. Nothing you can do to influence that. But investors who we know were born in 1950s started investing in a very different climate with different opportunities and investors who started, who were born in 1970 or 1980, totally different. And it’s out of your control.
Bill Gross, the great bond investor, I think he’s, he’s been on your program several times. He, he made this comment about his career perfectly aligned with a 40-year collapse in interest rates, which if you’re a bond investor is pretty, pretty darn good. Now, look, he did better than other bond investors. So it’s not to say that was all luck, but he himself once mentioned, he said, look, if he was born 20 years earlier, 20 years later. It would have been a very different career. That is what luck is in investing.
Barry Ritholtz: Given the role of luck in our lives and how unpredictable things can be, let’s talk about flexibility and adaptability. How important is it for us to be able to adjust our plans to changing circumstances?
Morgan Housel: Well, let me give you one example. It’s one thing to say I’m a long term investor. I’m investing for the next 20 years. That’s great. But if you are saying I’m going to retire in 20 years, even though that’s a long term time horizon, basically what you’re saying is I need the market to be in my favor in the year 2044.
That’s what you’re saying. If you have a 20 year time horizon and maybe in 2044, the market is great. Maybe it’s not maybe more in the middle of the second, great depression by then. So rather than just a long-term time horizon, what you want is a flexible time horizon. You want to say, look, I hope to retire in about 20 years and maybe I’ll be in a position to sell part of my portfolio.
Then maybe I need to wait a couple of years longer. Maybe I need to work a couple of years longer. The more that you need the market in the world to align with your specific goals, the more you are relying on luck and chance, and the more that you can be adaptable and flexible to what the market’s doing, what the economy is doing, the better you have, the better chance you have of putting the odds of success in your favor.
Barry Ritholtz: It’s not just that we have to leave room for error. We also have to leave room for chance when making long term plans?
Morgan Housel: Yeah. Imagine if you were someone, you are an investor in the 1980s and you said, uh, I’m going to, I have a long term time horizon. I’m going to retire in March of 2020. That’s my retirement date.
And in March of 2020, I’m going to liquidate half my four, half my portfolio, whatever it might be. If you said that in the 1980s, I was like, Oh, great. You have a 30 or 40 year time horizon in front of you. What happened in March of 2020? The world’s melting down with COVID the lockdowns market falls 34%,.
Yeah. And so that’s why you need to have a level of flexibility and adaptability. It’s not just what the economy is doing and what the market’s doing. It’s you trying to align your specific time horizon to a market and an economy that does not know or care what your goals are.
Barry Ritholtz: So let me ask you a simple question, uh, that you talk about throughout the book. Does money buy happiness?
Morgan Housel: I think there’s two answers to that question. One is if you are already a happy person and you have a good marriage, good health, good friends, good, uh, disposition, then it can absolutely, you can use money as a tool to leverage your already happy life. If you are someone who was already depressed and in poor health and don’t have good friend connections.
And hate your job, then by and large, it will not. And not only will it not, it can actually lead to a source of hopelessness because when you are poor, you might say, if only I had money, all my problems would go away. And then when you might gain money, you gain some wealth, you realize that it doesn’t. And then you lose your sense of hope.
And so that’s, that’s one part of it. The other answer is, does it lead to happiness? The answer is probably not. Does it lead to contentment? The answer is probably yes. Now contentment is a positive emotion. It’s a great thing, but it’s not happiness. Happiness is waking up grinning ear to ear. That’s by and large not what money does to people.
If you’re a very wealthy person, Bill Gates, Elon Musk, Jeff Bezos do not wake up. Laughing, smiling. It’s just not how it works are. But can it lead to a sense of contentment? I’ve achieved a lot of my goals. I’m really proud of the work that I did and I’m content that I can, you know, now live the rest of my days with a sense of independence. Yes, that’s not happiness, but it’s a, but it’s a positive emotion that I think we should strive for.
Barry Ritholtz: Let’s talk about other aspects of money. How should investors think about saving and spending? What kind of practical advice can you give there?
Morgan Housel: Daniel Kahneman, the great psychologist who passed away not too long ago, he said, the best definition of risk is a well calibrated sense of your future regret.
You need to understand what you’re going to regret 10, 20, 30 years in the future. And that, that should lead to the amount of risk that you’re going to take. I think it’s the same for spending and saving. When you’re thinking about, should I spend money today, the kind of like YOLO philosophy, or should I save for tomorrow, save for the rainy day, and let my money compound? What you need to understand is what you’re going to regret in the future.
Are you going to be on your deathbed and look back and say, I saved all this money? And look at all the vacations that I didn’t take. Look at all the cool cars that I didn’t buy. That’s a sense of regret. You also might live for today and spend all your money. And now, now you’re suddenly you’re 80 years old and you don’t have any money and you regret that you didn’t save. It’s different for everybody. And you need to have a well calibrated sense of regret. I’ll, I’ll,
I’ll give you my personal example right now. I have. Two young children and I’ve been a heavy saver for my entire life.
If heaven forbid I were on my deathbed tomorrow, I would not regret in the slightest that I have saved all this money because I would take so much pleasure knowing that my wife and kids will be taken care of because I saved. Now, will I still think that when I’m 80 years old? And hopefully my kids are established and earning their own money.
Of course, I might, at that point, I might regret that I’m 80 years old and saved all this money that I could have spent otherwise. So it changes throughout your own individual life as well.
Barry Ritholtz: It’s kind of surprising to me where we’re 90 percent through this discussion and we really haven’t talked about investing very much. What are the keys to being a successful long-term investor?
Morgan Housel: I think a lot of it is understanding how common and normal and unavoidable volatility is. It’s so common that even professional investors, when the market falls 10, 20, 30 percent have a sense they respond to it, uh, with the idea that the market is broken, that like this is the equivalent of a car accident or a plane falling out of the sky.
And you need to take a critical action right now because you know, it’s, it’s bad. And by and large, that’s not the case. The vast majority of even severe volatility is completely normal and unavoidable. And if you’re a student of market history, it happens way more often than people like to think. And so what you’re getting paid for as an investor is the ability to put up with and endure uncertainty and volatility. That’s the cost of admission.
When you view it like that, then when you do have a big bout of volatility, the Even that might last for years. It’s not fun. You don’t enjoy it, but you say to yourself, this is the cost of admission for earning higher returns that I could earn in bonds or cash over the long run.
Barry Ritholtz: Why is it that getting wealthy and staying wealthy are such different skill sets?
Morgan Housel: Getting wealthy, I think requires being an optimist, optimistic about yourself, optimistic about the economy, taking a risk, staying wealthy is like the exact opposite. You need to be a little bit pessimistic and paranoid and Uh, you need to admit to yourself and acknowledge that all of economic history is a constant chain of setbacks and surprises and recessions and bear markets and pandemics that you need to be able to endure for your long term optimism to actually pay off in the end.
Barry Ritholtz: To succeed in markets as an investor, you have to understand The Psychology of Money. You have to understand why it’s not just about knowledge, or math or even computer programming, but highly dependent on your behavior. Get your behavior under control and you’re 90 percent of the way there.
I’m Barry Ritholtz. You’ve been listening to At The Money on Bloomberg radio.
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