The Psychology of Money by Morgan Housel | The psychology of Money Book Review -

What is the Psychology of money? In this book, the author has tried to explain the psychology behind money and the thinking of people toward money-making.

The book ‘Psychology of money’ is written by American Author Morgan Housel.

The book has twenty chapters, and the author has tried to illustrate various complex concepts with easy and real-life examples of how wealthy people take investment decisions. Psychology plays an important role in decision-making.

The basic theme of the book is investment and savings. Most of the time investment means investing in the stock market which is a high return instrument.

No one is crazy

You all have life experiences that are different, and so are your beliefs and goals in life. You all think that you know how the world works, but in reality, you have experienced a tiny part of it.

Research by economists suggests that an individual investor’s willingness to bear risk depends on his or her personal history.

Luck & Risk

You all make decisions based on your own unique experiences that seem to make sense to you in a given situation or moment. Others may not understand, and they may think that you are crazy. Luck & risk go hand in hand. While trying to judge a person or a situation, remember one thing – “Nothing is as good or bad as it seems”.

It is very difficult to define and quantify the importance of luck in your lives, but luck plays a major role in success or failure. Generally, someone else’s failure is attributed to bad decisions, while your decisions will be called bad luck.

In investing, one of the biggest difficulties is identifying the role of luck? What is the skill of the investor, and what is the risk? We all are trying to learn the best way to manage money.

Be careful who you praise and admire. Be careful who you look down upon and wish to avoid becoming. You must realize that not all success is due to hard work, and not all poverty is due to laziness or bad luck.

You should focus on broad patterns instead of specific individuals and case studies. Not only that, but you must have heard the examples of people who have left their studies and become successful. However, such examples are very limited. Do not fall for such exceptions and complete your study.

Studying CEOs, billionaires, massive failures of billionaires, etc. is good for motivation, but it can be dangerous. It does not convey the whole story.

Never enough

Don’t be greedy. Understand when to say enough is enough. Never enough may be too risky. For example-

Rajat Gupta, orphaned as a teenager in Kolkata, went on to achieve phenomenal success.
In the mid-40s, he was CEO of McKinsey and retired in 2007 to work with the United Nations and World Economic Forum.
By 2008, his net worth was around 100 million dollars.
He could have done anything in life. He didn’t need more money.
Later, in an insider trading case, he went to prison and his reputation & career were ruined.

Why does someone who had everything risks everything – never enough? Therefore, there is no reason to risk what you have and need for what you don’t have and don’t need.

Remember a few things, if you have money sufficient to cover every reasonable thing-

The hardest financial skill is getting the goal post to stop moving.
Social comparison is a big problem. Please don’t disturb your financial condition by comparing with neighbors and relatives.
Enough is enough – you should know when to say enough, especially while investing in risky assets.
There are many things never worth risking, no matter what the potential gain is – can’t sell a home to invest in the stock.
Reputation as well as friends and family are invaluable.

Confounding Compounding

It is a fascinating principle when it comes to investing. If you don’t know about compounding, then you should learn about it. There are around two thousand books ”How Warren Buffet built his fortune?”. However, very few know that he started early in his childhood, and out of Buffet’s 84.5 billion-dollar net worth, 84.2 billion dollars was accumulated after his fiftieth birthday.

He has been a phenomenal investor for 60-70 years, that’s where success lies, it takes time. That’s how compounding works. You have to start early.

The author says that 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 time. That’s when compounding runs wild.

Getting wealth vs staying wealthy

These are two different things. Good investing is not necessarily about making good decisions, it’s about consistently not screwing up.

Getting money is one thing and keeping it is another. Keeping money requires humility, and fear that what you have made can be taken away from you just as fast. There is luck somewhere. Past success is not a guarantee that you will succeed in the future, and you can keep repeating.

Plan not going according to plan is a possibility. If you are planning to invest in children’s higher education needs, which will arise after 15-20 years. Think about all the events no one predicted in the last 15-20 years. The economic downturn of 2008, the technology boom – 4G or 5G, the Covid-19 pandemic. Such unpredictable events will be there in next 20-25 years and nobody can predict it.

Tails you win

In investing, you can be wrong half the time, and still, you will make money. A good definition of an investor genius is a man or a woman who can do the average thing when all those around are going crazy.

There are fields where you must be perfect every time, like flying a plane. There are fields where you want to be pretty good, nearly all the time, like a restaurant chef. Investing, business and finance are just not like these fields.

Freedom

Controlling your time is the highest divided money pays. People want to become wealthy to become happier. Happiness is a complicated subject because every individual is different. A common thing people want to do in happiness is that people want to control their lives.

The ability to do what you want, when you want, and do what you like as long as you want, is priceless. It is the highest divided money pays.

Psychologist “Angus Campbell,” wrote in his book “The sense of well-being in America” that people are generally happier than many psychologists assume. You can’t group people by income or geography or education, because so many in each of these categories end up very unhappy. He states that “having a strong sense of controlling one’s life is a more dependable predictor of positive feelings of well-being than any of the objectives of life we have considered”.

We have progressed in almost all the sectors in the last 100 to 150 years with phenomenal speed. However, we have no proof suggesting that we are happier now in comparison to people in earlier times.

Interesting thing is that either we can control our life or our time. To become wealthy, we need to work hard and according to the schedule. Once wealthy, we can control our daily life schedule. We can decide when to do what work.

According to the book ”30 lessons for living” written by gerontologist Karl Pillemer based on interviews of more than one thousand Americans over sixty-five years of age: people value things like quality friendship, which is something bigger than themselves and spending quality unstructured time with their children. They say that your kids don’t want your money anywhere near as much as they want you, especially, if they want you with them. They tell from their experience that controlling your time is the highest divided money pays.

Man in the car paradox

If you are rich and have a nice car and wear branded clothes, to show it to other people, let’s be clear – people don’t care. The maximum people can think of is if they can’t afford such things. The thought that you are looking cool or good – doesn’t come to people’s minds. Therefore, if you want to become wealthy to show it to other people – please don’t. Humility, kindness, and empathy will bring you more respect.

What is wealth? Wealth is what you don’t see?

Spending money to show people how much money you have is the easiest and fastest way to have less money. The only way to get rich is NOT to spend the money you have. It’s the definition of wealth. Wealth is hidden, it’s your income or savings which is not spent.

Save money

The crux of the matter is you have to save. And SAVE now. If you think of building wealth as something that will require more money or big investment returns, you may become pessimistic and may not even start saving. A more important point is that the value of wealth is relative to what you need.

Learn to be happy with less money. You don’t need a specific reason to save.

Reasonable > Rational

We are human beings, not machines. Academic finance is devoted to finding the mathematically optimal investment strategy; however, in the real life, people do not want the mathematically optimal strategy, worlds want the strategy that maximizes how well they sleep at night.

There is a very well documented ”Home bias” where people prefer to invest in companies from the country they live in while ignoring the other 95% of the world. It’s not rational until you consider that investing is effectively giving money to strangers.

Surprise

Investing is not hard science. It is a large group of people making imperfect decisions with limited information about things that will have a massive impact on their well-being.

History can be a misleading guide to the future of the economy and stock market because it doesn’t account for the structural changes that are in today’s world.

Room for error

The most important part of every plan is planning on your plan not going according to the plan.

There will be surprises. You have to survive to succeed. It’s fine to save for a car, for a home or for retirement, but it’s equally essential to save for the things you can’t possibly predict or even comprehend.

You’ll change

Long term financial planning is essential. But things change – both the world around you and your own goals and desires. You should avoid the extreme ends of financial planning.

The author states that at every point in your life you should have a moderate annual savings, moderate free time and at least spend moderate time with your family. It increases the odds of being able to stick with the plan. You would not regret it in life if any of these things fall to the extreme side of the spectrum.

Nothing’s free

Everything has a price, but not all prices appear on the labels.

Every job looks easy when you are not doing that job. Most things are harder in practice than they are in theory.

You & Me

When a commentator on TV says you should buy this stock. Keep in mind that he doesn’t know who you are? Are you an early investor, trading for learning and fun? Are you an elderly widow on a tight budget? Are you a fund manager trying to shore up your books before the quarter ends?

So, are we supposed to think these three people have the same priorities and that whatever level a particular stock is trading is right for all of them?

It’s crazy. You, me, and all of us have different priorities in life.

The seduction of pessimism

Real optimists don’t believe that everything will be great. That’s complacency. Two topics will affect your life, whether you are interested in them or not: money and health. While health issues tend to be individual, but money issues are more systemic. In a connected system where one person’s decision can impact everyone else.

When you will believe anything

The more you want something to be true, the more likely you are to believe in 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.

All together now

Let’s summarize the important points from the book:-

Go out of your way to find humility when things are going right; forgiveness and compassion when they go wrong.
Less ego, more wealth. Saving money is the gap between your ego and your income, and wealth is what you don’t see.
Manage your money in a way that helps you sleep at night
If you want to do better as an investor, the single most powerful thing you can do is increase the time horizon.
Use your money to gain control over your time because not having control of your time is such a powerful and universal drag on happiness.
Be nicer and less flashy.
Save. Just save. You don’t need a specific reason to save.
Define the cost of success and be ready to pay it. You should like this because it pays off over time. 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.

The Psychology of money book is available on Amazon.

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