Summary of The Psychology of Money, by Morgan Housel

Summary reading time: 9 min

Book reading time: 4h06

Score: 7/10

Book published in: 2020

Main Idea

Make a financial plan that aligns with your goal and psychology, not one that aligns with mere numbers.

Go to the summary directly.

About

Life is funny.

The Psychology of Money is the first book I read after finishing Nassim Taleb’s masterful Incerto.

And as destiny would have it, the Psychology of Money is a simple rip-off of Nassim Taleb’s philosophy (and a few other people discussed below).

Everything is there: luck, risk, asymmetry, the long tail, the Barbell Strategy, the Black Swan (rare high-impact event), the fact that the future shouldn’t be based on the past, the Russian Roulette example, narratives. Even the difference between variation and performances (noise and information) is there.

The author goes as far as taking examples from the Black Swan (“life is a Black Swan”) and quoting directly from Fooled by Randomness.

You will also recognize Warren Buffett’s awful get-rich-slow strategy, Ben Graham’s Intelligent Investor, Daniel Kahneman’s Thinking Fast and Slow, and Ben Hardy’s Personality Isn’t Permanent.

Said otherwise, the Psychology of Money teaches nothing new if you have read these.

If you’ve read anything by Nassim Taleb, you can safely skip this book.

As a reminder, the only way to get rich is to:

  1. Provide a lot of value
  2. Capture the value you provide
  3. Spend less than you earn

As “easy” as that.

7/10 (it nonetheless convinced me to save more money than I was used to).

Should you wish to completely disregard my advice, you can buy the book here.


Table of Content

Chapter 1: No One’s Crazy
Chapter 2: Luck and Risk
Chapter 3: Never Enough
Chapter 4: Confounding Compounding
Chapter 5: Getting Wealthy VS Staying Wealthy
Chapter 6: Tails, You Win
Chapter 7: Freedom
Chapter 8: Man in the Car Paradox
Chapter 9: Wealth Is What You Don’t See
Chapter 10: Save Money
Chapter 11: Reasonable > Rational
Chapter 12: Surprise!
Chapter 13: Room for Error
Chapter 14: You Will Change
Chapter 15: Nothing Is Free
Chapter 16: You and Me
Chapter 17: The Seduction of Pessimism
Chapter 18: When You’ll Believe Anything
Chapter 19: All Together Now
Chapter 20: Confessions


Summary of The Psychology of Money Written by Morgan Housel

People can’t manage their money well because finance is taught like a science. But it’s not science. It’s psychology.

Chapter 1: No One’s Crazy

The decisions you make with your money are based on your experience. People that grew up during a bull market will positively look at the stock market, while people that grew up during a crisis will not.

Your experience and behavior with money are unique, and they are your own.


Chapter 2: Luck and Risk

Bill Gates started Microsoft because he had access to a computer while in high school. It was the only high school in the world that had such a computer.

Bill Gates worked hard and was a smart person, sure. But he also was extremely lucky.

The problem with luck in success is that it can’t be quantified. The media will show you the successful people (without telling you they may have been lucky), but it won’t show you those who tried and failed.

The story, furthermore, isn’t as straightforward as it sounds.

When Rockefeller was building his company, he broke the law several times. He only made it out, but “successful businessman” could have become “criminal thief” quite quickly.

Likewise, “the customer is always right” and “don’t listen to your customers as they don’t know what they want” are both equally valid principles.

-> risk, luck, and skills are difficult to tell apart.

As a result, beware who you look up to, and beware who you look down to.

If you want to study success, you’ll be more likely to reach an actual picture by looking at the broad patterns, than by studying individuals.

Eg: looking at how Warren Buffett built his fortune VS the observation that people that become rich all own a piece of a company.


Chapter 3: Never Enough

The author tells the story of Rajat Gupta, the former CEO of McKinsey who went to jail for insider trading. Worth millions of dollars, Rajat didn’t have enough. His greed precipitated his downfall.

Remember the following rules.

  1. The hardest is to stop making goals to earn more money as you’re doing it.
  2. Don’t compare yourself to others.
  3. You don’t need more than “enough”.
  4. Don’t gamble what you have for something you don’t need.

Chapter 4: Confounding Compounding

Buffett was only with $3 billion at 65 years old. The rest of this fortune was acquired after that. And he managed to acquire all of it because he started investing at 10 years old.

Buffett had time on his side. Most people forget that.


Chapter 5: Getting Wealthy VS Staying Wealthy

Getting money requires taking risks, being optimistic, and putting yourself out there.

Keeping money requires the opposite: humility, fear, and paranoia.

Buffett became rich not because he was a skilled investor, but simply because he survived. He didn’t go to prison, he always behaved well, he didn’t sell at the bottom nor bought at the top.

To apply the survival mindset, you need to appreciate three things.

  1. Having what you have now is better than being richer than broke later. Don’t gamble the farm.
  2. Make room for the unpredictable. Plans are great until things don’t go according to plan. Make room for failure.
  3. Be optimistic but also paranoid. Hope for the best, but prepare for the worst.

Chapter 6: Tails, You Win

Stock markets returns are asymmetric. It means that you can lose money on 9/10 investments but still be cash flow positive.

How?

If you invest 100 euros in 10 startups, 9 of them go bankrupt but the 10th one earns you 100 times 100 euros, congratulations: your final portfolio is €9 100 ({100 X 100} – 900 = 9 100).

In the real world, you’re unlikely to lose 90% of the time, more like 50%, or slightly more. But this means that even if you lose often, you only need to have one big victory that can erase all of the losses.

Investing is asymmetric.

When we look at S&P 500 for example, we see that most companies lose a huge share of their market cap. And yet, the S&P 500 is growing. Why? Because a few outliers (Amazon, Microsoft, Apple, Google etc) are pulling everyone up.

It means that it’s extremely difficult to know which company will succeed over time, so it’s best to bet on everyone, since one company at least, will do particularly well.

Buffett owned around 450 stocks during his lifetime. He made most of his money on 10 of them.


Chapter 7: Freedom

True wealth is time and independence, not money. Having enough money enables you to enjoy all your time for yourself. You also don’t “belong” to anyone like employees who belong to their company.

Autonomy is the biggest predictor of happiness. Since the shift from manufacturing (manual) jobs to service (intellectual) jobs, the line between private and working life has become thin. It’s difficult for workers to split work time from non-working time. Jobs are now taking “more time” than before, endangering our psychological freedom.

Money can buy you that freedom.


Chapter 8: Man in the Car Paradox

A lot of people want fancy things to be admired. However, when you see someone in a Ferrari, you don’t admire them. You think to yourself “if I had one, others would admire me”.

No, they wouldn’t. Such an endeavor is therefore pointless.

If you want to be admired, be humble, kind, and empathetic.


Chapter 9: Wealth Is What You Don’t See

It’s not because someone has a fancy car that they have a lot of cash in the bank.

In fact, it’s often the opposite.

People that buy fancy things need to give up their money to acquire said thing.

Doing so, they get poorer, from a pure accounting point of view.

As a result, wealth is hidden. It’s money not spent. And money not spent is hidden at the bank.

Money spent is why rich people get broke. They have money, but they definitely don’t have wealth.


Chapter 10: Save Money

Building wealth has more to do with your saving rate than with anything else.

Someone making 10k and saving 8k will be wealthier than someone making 20k and saving 2k.

As a result, your saving rate depends on what you need to survive. The less you need, the more you can save.

And the more you have, the more you can be flexible. Flexibility allows you to buy time, to wait for the right opportunity.


Chapter 11: Reasonable > Rational

We’re too emotional (especially when it comes to money) to make rational decisions. So just aim to be reasonable instead.

Markowitz, the Nobel Price winner, father of the efficient portfolio theory, did not respect his own investment rule. He invested in both stocks and bonds to minimize regret if one went up while the other went down.

He was reasonable, and took his emotions into account instead of going against them.


Chapter 12: Surprise!

History is not complete. Therefore, we can’t use it to predict the future. Furthermore, a lot of things that have never happened before happen all the time. So we can definitely not rely on the past.

We shouldn’t focus too much on the past for the following reasons.

  1. We may miss the big rare event that will move the needle the most. These events like 9/11 have impacts that compound. After WTC went down, the Fed decreased interest rate which (partly) led to the housing bubble.
  2. Things that have never happened in the past will happen in the future.

Chapter 13: Room for Error

You can’t win every time, therefore, you need room for when times are tough.

The best is to have so much room for error that the forecast itself no longer matters.

When you are calculating how much money you need to retire, don’t base it on a 10% yearly return. Base it on 1%.

Anything above that is bonus.

You also need to have a look at where your weakest point is. If your income is solely dependent on your job, your single point of failure would be to get fired. Don’t put all of your eggs in the same basket and diversify.


Chapter 14: You Will Change

Our desires change as we go through life.

We should plan expecting to change and have different goals.

As a result, don’t expect to merely be happy with 2k a month for the rest of your life.

You should also accept that what you desired 10 years ago is no longer the same thing.

And especially, not having regrets about what you have done.


Chapter 15: Nothing Is Free

The price to compound investing is FUD: fear, uncertainty, and doubt.

It’s difficult to not sell when the stock market plunges. There is a price to pay for everything.

The key is to look at volatility as a fee to pay to be part of the stock market.


Chapter 16: You and Me

Bubbles are fueled by the time-view investors have they buy an asset.

Buying for 30 years is not the same as buying for a day. Speculators that buy for a day are in for a quick buck. They don’t care about the stocks’ price for next week or next month. As long as it’s going up that day, they can earn money.

So they buy, even if it’s “overvalued”. This, obviously, leads the price of the stock to appreciate even more.


Chapter 17: The Seduction of Pessimism

Pessimism is more attractive than optimism, especially when it comes to money. Part of the reason is that it concerns everybody.

Another part is that improvements are slow, so we don’t notice them.


Chapter 18: When You’ll Believe Anything

The more you want something to be true, the more you will believe a story that will make it true.

Journalism thrives on this.

We all have an incomplete understanding of what’s happening, but we fill in the gaps with a narrative.

This is the hindsight bias.

The problem is that the world is inherently uncertain, so believing in all of these stories creates lots of room for surprises.


Chapter 19: All Together Now

This chapter is a summary of the 18 previous chapters.


Chapter 20: Confessions

The author explains his own investment strategy.

His purpose is to be financially free so he doesn’t depend on a job and can do whatever he wants. He owns his house without a mortgage, which is financially bad, but emotionally good. 20% of his money is in cash so he can face a financial emergency.

The author invests in low-cost index funds as he knows that merely picking stocks and beating the market is really hard.

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  • Post category:Summaries
  • Post last modified:May 26, 2022