The Psychology of Money
by Morgan Housel

  • Behaviour
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psychology of money

The Psychology of Money

In The Psychology of Money, Morgan Housel shares 19 short storiesat th explore the strange ways people think about money. Financial success is a soft skill where how you behave is more important than what you know.

Morgan Housel Spent his college years working at a  in the 20s, sold several companies, and also had a stupid relationship with money. He always bragged openly about his wealth anlruxuious hotel in LA. One frequent guest was a tech executive—a genius who designed and patented a key component in wifi routersd was often drunk. One day he broke a $500 lamp and he’d have to replace it. He offered the hotel $5,000 instead. Years later, he went broke.

Ronald James Read was an American philanthropist, investor, janitor, and gas station attendant. When he died in 2014 aged 92, the humble rural janitor made international headlines. The public was baffled. Where did he get all of his money? There was no lottery and no inheritance. All he did was save and invest in Blue Chip Stocks.

A genius who loses control of their emotions can be a financial disaster. Ordinary folks with no financial education can be wealthy if they have a handful of behavioural skills that have nothing to do with formal measures of intelligence.

 

Never Enough—When Rich People Do Crazy Things

Rajat Gupta was born in Kolkata and orphaned as a teenager. But by his mid-40s, Gupta was the CEO of McKinsey, the world’s most prestigious consulting firm. By 2008, his wealth reached $100 million. He could have done anything he wanted in his life. But what he wanted wasn’t just to be a centre millionaire. Gupta wanted to be a billionaire so badly.

So he found a lucrative side hustle. In 2008, Goldman Sachs stared at the wrath of the Global Financial Crisis and Warren Buffet wanted to invest $5 billion into the bank to help it survive. As a Goldman board member, Gupta learned about this valuable information before the public. He immediately bought 175,000 shares of Goldman Sachs. After the Buffet deal was announced later, Gupta made a really quick million. But he ended up in prison for insider trading.

Why the hell would someone with hundreds of millions of dollars be so desperate for more money and risk everything in the pursuit of more?

A measurable percentage of people will at some point in their life, earn a salary or have a sum of money sufficient to cover every reasonable thing they need and a lot of what they want. If you’re one of them, remember these things:

1. The hardest financial skill is getting the goalpost to stop moving

If expectations rise with results, there is no logic in striving for more because you’ll feel the same after putting in the extra effort. It gets dangerous when the taste of having more increases ambition faster than satisfaction. You’d feel as if you’re always falling behind, and the only way to catch up is to take greater and greater amounts of risk.

2.  Social comparison is a problem

Consider a rookie baseball player who earns $500,000 a year. He is by any definition rich. But he plays on the same team as Mike Trout who has a 12-year $430 million contract. So by comparison, the rookie is broke.

Mike Trout earning $36 million per year is an insane amount of money. But to make it on the list of the top ten highest-paid hedge fund managers in 2018, you need to be earning at least $340 million. And the hedge fund manager making $340 million compares themselves to the top 5 on $770 million. The top ones look to Warrant Buffet, whose wealth increased by $3.5 billion in 2018. And Buffet could look ahead to Jeff Bezos whose net worth increased by $24 billion in 2018.

The point is, the ceiling of social comparison is so high that virtually no one will ever hit it. It’s a battle that can never be won. Or that the only way to win is to not fight to begin with. It’s important to accept that you might have enough, even if it’s less than those around you.

 

Wealth is what you don’t see

No one is impressed with your possessions as much as you are. Morgan used to work as a valet. It was his dream to have one of the luxury cars like his own. Because he thought they sent such a strong signal to others that you hold a certain status. The irony is that he never looked at the drivers. When you see someone driving a nice car you rarely think ‘Wow, the guy driving the car is cool.’ Instead, you might think ‘Wow, if I had that car people would think I’m cool’.

There is a paradox here. People tend to want wealth to signal to others that they should be liked or admired. But in reality, those other people often bypass admiring you. Not because they don’t think wealth is admirable, but because they use your wealth as a benchmark for their own desire to be liked and admired.

 

The Psychology of Saving Money

The value of wealth is relative to what you need.

Say you and I have the same net worth. You’re a better investor, so you earn 12% while I earn 8%. But I’m more efficient with my money, so I need half as much money to be happy while your lifestyle compounds as fast as your assets. I’m getting more benefits from my investments despite lower returns.

The same is true for incomes. Learning to be happy with less money creates a gap between what you have and what you want. Similar to the gap you get from growing your paycheck, but easier and more in your control.

A high savings rate means having lower expenses than you otherwise could. And having lower expenses means your savings go farther than they would if you’d spent more.

 

Time is your ally

In the early 1900s Serbian scientists studied the earth’s position and came up with the theory of ice ages that we now know is accurate. The gravitational pull of the sun and moon gently affect the earth’s motion and tilt towards the sun. During parts of the cycle—over 10,000 years—each of the earth’s hemispheres get a little more or a little less solar radiation.

When a summer never gets warm enough to melt the previous winter’s snow, the leftover ice makes it easier for the snow to accumulate the following winter. It 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 and exacerbates cooling.

This example illustrates how big something can grow from a relatively small change in conditions. You start with a thin layer of snow leftover from a cool summer that no one would think anything of. Then in a geological blink of an eye, the entire earth is covered in miles of thick ice.

The big takeaway from the ice ages is that you don’t need a tremendous amount of force to create tremendous results. If something compounds, little growth serves as the fuel for future growth. A small starting base can lead to results so extraordinary they seem to defy logic. It can be so logic-defying that you underestimate what growth can lead to.

 

Conclusion of The Psychology of Money

Many people say the first time they saw a compound interest table, or hear about how if you begin saving in your 20s, it would change your life. It likely surprised you because the results aren’t intuitively right. Linear thinking is so much more intuitive than exponential thinking.

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 the compounding potential.

The practical takeaway is that the counterintuitiveness of compounding is responsible for the majority of disappointing trades, bad strategies, and successful investing attempts. Good investing isn’t necessarily about earning the highest returns because the highest returns 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.

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