Psychology of Money
The Psychology of Money: Timeless lessons on wealth, greed, and happiness by Morgan Housel
🚀 The Book in 3 Sentences
We can develop a better relationship with money and make smarter financial decisions.
Psychology is key in determining this, more than thinking we are rational, optimised, spreadsheet-driven.
This book communicates a clear mindset and attitude for beneficial investing, better saving for money.
🎨 Impressions
Great book - short and concise, super easy to read, great messages and insightful anecdotes.
How I Discovered It
This was recommended from Ali Abdaal and is often a highly rated book.
Who Should Read It?
If you want to understand your relationship with money from a psychological level and improve how you think/act/deal about money.
✍️ My Top 3 Quotes
Spending money to show people how much money you have is the fastest way to have less money.
Things that have never happened before happen all the time.
Everything has a price, but not all prices appear on labels.
📒 Summary + Notes
Intro
The premise of this book is that doing well with money has a little to do with how smart you are and a lot to do with how you behave. And behavior is hard to teach, even to really smart people.
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).
To grasp why people bury themselves in debt you don’t need to study interest rates; you need to study the history of greed, insecurity, and optimism. To get why investors sell out at the bottom of a bear market you don’t need to study the math of expected future returns; you need to think about the agony of looking at your family and wondering if your investments are imperiling their future.
1. No One’s Crazy
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.
We all do crazy stuff with money, because we’re all relatively new to this game and what looks crazy to you might make sense to me. But no one is crazy—we all make decisions based on our own unique experiences that seem to make sense to us in a given moment.
People from different generations, raised by different parents who earned different incomes and held different values, in different parts of the world, born into different economies, experiencing different job markets with different incentives and different degrees of luck, learn very different lessons.
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.
Spreadsheets can model the historic frequency of big stock market declines. But they can’t model the feeling 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.
findings suggest that individual investors’ willingness to bear risk depends on personal history.
2. Luck & Risk
Therefore, focus less on specific individuals and case studies and more on broad patterns.
Luck and risk are both the reality that every outcome in life is guided by forces other than individual effort. They are so similar that you can’t believe in one without equally respecting the other. They both happen because the world is too complex to allow 100% of your actions to dictate 100% of your outcomes. They are driven by the same thing: You are one person in a game with seven billion other people and infinite moving parts. The accidental impact of actions outside of your control can be more consequential than the ones you consciously take.
3. Never Enough
Be careful who you praise and admire. Be careful who you look down upon and wish to avoid becoming.
There is no reason to risk what you have and need for what you don’t have and don’t need.
The hardest financial skill is getting the goalpost to stop moving.
There are many things never worth risking, no matter the potential gain.
Social comparison is the problem here.
Enough” is not too little.
“Enough” is realising that the opposite—an insatiable appetite for more—will push you to the point of regret.
4. Confounding Compounding
The big takeaway from ice ages is that you don’t need tremendous force to create tremendous results. If something compounds—if a 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’s possible, where growth comes from, and what it can lead to.
Consider a little thought experiment. Buffett began serious investing when he was 10 years old. By the time he was 30 he had a net worth of $1 million, or $9.3 million adjusted for inflation.¹⁶ What if he was a more normal person, spending his teens and 20s exploring the world and finding his passion, and by age 30 his net worth was, say, $25,000? And let’s say he still went on to earn the extraordinary annual investment returns he’s been able to generate (22% annually), but quit investing and retired at age 60 to play golf and spend time with his grandkids. What would a rough estimate of his net worth be today? Not $84.5 billion. $11.9 million. 99.9% less than his actual net worth. Effectively all of Warren Buffett’s financial success can be tied to the financial base he built in his pubescent years and the longevity he maintained in his geriatric years. His skill is investing, but his secret is time. That’s how compounding works.
Buffett’s fortune isn’t due to just being a good investor, but being a good investor since he was literally a child.
The danger here is that 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 compounding potential.
5. Getting Wealthy vs. Staying Wealthy
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.
More than I want big returns, I want to be financially unbreakable. And if I’m unbreakable I actually think I’ll get the biggest returns, because I’ll be able to stick around long enough for compounding to work wonders.
Planning is important, but the most important part of every plan is to plan on the plan not going according to plan.
A barbelled personality—optimistic about the future, but paranoid about what will prevent you from getting to the future—is vital.
6. Tails, You Win
Your success as an investor will be determined by how you respond to punctuated moments of terror, not the years spent on cruise control. A good definition of an investing genius is the man or woman who can do the average thing when all those around them are going crazy. Tails drive everything.
Long tails—the farthest ends of a distribution of outcomes—have tremendous influence in finance, where a small number of events can account for the majority of outcomes.
7. Freedom
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.
Part of what’s happened here is that we’ve used our greater wealth to buy bigger and better stuff. But we’ve simultaneously given up more control over our time. At best, those things cancel each other ou
8. Man in the Car Paradox
It’s a subtle recognition that people generally aspire to be respected and admired by others, and using money to buy fancy things may bring less of it than you imagine. If respect and admiration are your goal, be careful how you seek it. Humility, kindness, and empathy will bring you more respect than horsepower ever will
9. Wealth is What You Don’t See
The truth is that wealth is what you don’t see. Wealth is the nice cars not purchased. The diamonds not bought. The watches not worn, the clothes forgone and the first-class upgrade declined. Wealth is financial assets that haven’t yet been converted into the stuff you see.
10. Save Money
More importantly, the value of wealth is relative to what you need.
So people’s ability to save is more in their control than they might think.
Savings can be created by spending less. You can spend less if you desire less. And you will desire less if you care less about what others think of you.
You don’t need a specific reason to save.
Past a certain level of income, what you need is just what sits below your ego.
Savings without a spending goal gives you options and flexibility, the ability to wait and the opportunity to pounce. It gives you time to think. It lets you change course on your own terms.
That flexibility and control over your time is an unseen return on wealth.
11. Reasonable > Rational
With it comes something that often goes overlooked: 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.
Investing has a social component that’s often ignored when viewed through a strictly financial lens.
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.
12. Surprise!
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.
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
13. Room for Error
Avoiding these kinds of unknown risks is, almost by definition, impossible. You can’t prepare for what you can’t envision. If there’s one way to guard against their damage, it’s avoiding single points of failure.
History is littered with good ideas taken too far, which are indistinguishable from bad ideas. The wisdom in having room for error is acknowledging that uncertainty, randomness, and chance—“unknowns”—are an ever-present part of life. The only way to deal with them is by increasing the gap between what you think will happen and what can happen while still leaving you capable of fighting another day.
Graham’s margin of safety is a simple suggestion that we don’t need to view the world in front of us as black or white, predictable or a crapshoot. The grey area—pursuing things where a range of potential outcomes are acceptable—is the smart way to proceed
14. You’ll Change
Sunk costs—anchoring decisions to past efforts that can’t be refunded—are a devil in a world where people change over time. They make our future selves prisoners to our past, different, selves. It’s the equivalent of a stranger making major life decisions for you. Embracing the idea that financial goals made when you were a different person should be abandoned without mercy versus put on life support and dragged on can be a good strategy to minimize future regret.
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. But the downsides of those extremes—not being able to afford retirement, or looking back at a life spent devoted to chasing dollars—become enduring regrets. Regrets are especially painful when you abandon a previous plan and feel like you have to run in the other direction twice as fast to make up for lost time.
15. Nothing’s Free
Responding to critics who said his actions were wrong and what he should have done was obvious, Immelt told his successor, “Every job looks easy when you’re not the one doing it.” 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.
Same with investing, where volatility is almost always a fee, not a fine.
Market returns are never free and never will be. They demand you pay a price, like any other product.
16. You & Me
Many finance and investment decisions are rooted in watching what other people do and either copying them or betting against them. But when you don’t know why someone behaves like they do you won’t know how long they’ll continue acting that way, what will make them change their mind, or whether they’ll ever learn their lesson.
17. The Seduction of Pessimism
Stocks rising 1% might be briefly mentioned in the evening news. But a 1% fall will be reported in bold, all-caps letters usually written in blood red. The asymmetry is hard to avoid.
Progress happens too slowly to notice, but setbacks happen too quickly to ignore.
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.
18. When You’ll Believe Anything
But stories are, by far, the most powerful force in the economy. They are the fuel that can let the tangible parts of the economy work, or the brake that holds our capabilities back.
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.
Everyone has an incomplete view of the world. But we form a complete narrative to fill in the gaps.
We all want the complicated world we live in to make sense. So we tell ourselves stories to fill in the gaps of what are effectively blind spots.
Key Summary Points
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. 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.
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. 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. Save. Just save. You don’t need a specific reason to save. It’s great to save for a car, or a downpayment, or a medical emergency. But saving for things that are impossible to predict or define is one of the best reasons to save. Everyone’s life is a continuous chain of surprises. Savings that aren’t earmarked for anything in particular is a hedge against life’s inevitable ability to surprise the hell out of you at the worst possible moment. Define the cost of success and be ready to pay it. Because nothing[…]
Worship room for error. A gap between what could happen in the future and what you need to happen in the future in order to do well is what gives you endurance, and endurance is what makes compounding magic over time. Room for error often looks like a conservative hedge, but if it keeps you in the game it can pay for itself many times over. 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.
Define the game you’re playing, and make sure your actions are not being influenced by people playing a different game. Respect the mess. Smart, informed, and reasonable people can disagree in finance, because people have vastly different goals and desires. There is no single right answer; just the answer that works for you.
Manage your money in a way that helps you sleep at night. That’s different from saying you should aim to earn the highest returns or save a specific percentage of your income. Some people won’t sleep well unless they’re earning the highest returns; others will only get a good rest if they’re conservatively invested. To each their own. But the foundation of, “does this help me sleep at night?” is the best universal guidepost for all financial decisions.
If you want to do better as an investor, the single most powerful thing you can do is increase your time horizon. Time is the most powerful force in investing. It makes little things grow big and big mistakes fade away. It can’t neutralize luck and risk, but it pushes results closer towards what people deserve.
Become OK with a lot of things going wrong. You can be wrong half the time and still make a fortune, because a small minority of things account for the majority of outcomes. 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. It is fine to have a large chunk of poor investments and a few outstanding ones. That’s usually the best-case scenario. Judging how you’ve done by focusing on individual investments makes winners look more brilliant than they were, and losers appear more regrettable than they should.
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 risks that will pay off over time.
Conclusion
Taleb explained: “True success is exiting some rat race to modulate one’s activities for peace of mind.”
Dollar-cost averaging into a low-cost index fund will provide the highest odds of long-term success.
