Introduction
- The premise of the book is that doing well with money has little to do with how smart you are and a lot to do with how you behave. And the fact that behavior is hard to teach, even to very smart people.
- A genius who loses control of his mind can be a financial disaster. An ordinary person with no financial education but a handful of behavioral skills can be wealthy.
- The story of the janitor, Ronald Read - who saved whatever little he earned, invested that in blue chip stocks, and waited for decades during which those little savings turned into millions.
- Patience vs Greed is sometimes the entire battle.
- According to the author, luck has a role to play in creating wealth but more commonly, financial success is not hard science. It is a soft skill where how one behaves is more important than what one knows and this soft skill, a.k.a. the psychology of money, is more important than the technical side of money.
- The goal of the book is: to help everyone make better financial decisions.
- However, the soft skill aspect of finance is greatly under-appreciated as knowing what to do does not necessarily tell us what will go on in our head when we try to do it.
- According to the author, over the years, although there has been a lot of progress made across several different fields, he doesn’t see evidence of that progress in the field of finance. As in, he doesn’t believe that we have gotten better at handling our finances and our relationship with money. The primary reason for that is finance is taught to us more like physics (with rules and laws) and less like psychology (with emotions and nuance).
- Why is understanding the psychology of money important?
- Money is everywhere, it affects all of us and confuses most of us.
- Everyone thinks differently about it.
- It provides many lessons that can be broadly applied to different aspects of life like risk, confidence, and happiness.
- It is one of the most powerful magnifying lenses to explain why people do what they do
- Finance is not like physics with rules and laws. It is guided by people’s behaviors. How one person might behave might make sense to them but not to others.
- For example, to understand the financial crisis, psychology and history are better lenses than finance. The history of greed, optimism, insecurity, and fear about the future of one’s family explains it much better than understanding interest rates.
1. No one’s crazy
Your personal experience with money maybe makes up 0.0000000001% of what’s happened in the world but 80% of how you think the world works
- People from different generations born under different parents earning different incomes going through different economies and experiencing different degrees of luck learn very different lessons about money. E.g. a person who grew up in poverty is likely to look at risk and reward in ways that a person born in a rich family can never fathom.
- What might make sense to one person might seem crazy to another. We go through life with different goals, beliefs, and forecasts. Not because one of us is smarter than the other. But because we’ve had different lives with different and equally persuasive experiences.
- No amount of studying can recreate the fear or uncertainty people who lived through the experience would have felt. Some lessons have to be experienced before they can be understood and lead to behavior change.
- We all think that we know how the world works. But we’ve all experienced only a tiny sliver of it.
- It has been found that an individual’s inclination to bear risk is highly dependent on their own personal experience, especially in their early adult life. E.g. those who grew up when inflation was high invested less money compared to those who grew up when inflation was low.