📚 The Psychology of Money by Morgan Housel

​​Author: [[Morgan Housel]]

Full Title: The Psychology of Money

Recommended By: [[David Perel]]

Tags: #Books [[AOI/Personal Finance]] [[AOI/History]] [[AOI/Psychology]]

Finished Date: [[July 2022]]

Rating: 5 stars ⭐️⭐️⭐️⭐️⭐️

Pithy and well-written, Psychology of Money offers compelling insights into the historical context and pragmatic implications of personal finance decisions. Having read this book, I understand myself, my family, and many of those around me better as it relates to what we prioritize in our pocketbooks.

Perhaps most importantly, Housel's simple and clear arguments around financial freedom, savings, and compound interest have shifted how I think about and engage with my waterfall saving methodology.

I had the privilege of hearing Housel speak in my Write of Passage course. His path to excellence, and his brisk character, are well reflected in his writing style and message. I extra appreciate when I feel a resonance between the author and the person.

I am better informed, have a clearer sense of my values, and know how to align with those values after reading this book. Plus I take away a lot from the writing style. Great read all around.

Overarching Notes

Personal financial decisions are shaped by historical context above and beyond personal and familial context

• Every behavior (financial choice) makes sense in its context. If you don't understand the behavior, understand the context

Concept of retirement savings is relatively recent - 401k started in 1978; Roth IRA in 1998

Be wary of Type I and Type II errors when considering financial outcomes

• Success is a lousy teacher because it makes us think we can't lose
• Failure is a lousy teacher because it makes us think we made bad bets when they could have been good bets with known risk

For those on the path to financial freedom:

• The hardest financial skill is getting the goalpost to stop moving
• Social comparison is the problem
• Make sure "enough" is not too little
• There are many things never worth risking, no matter the potential gain

You don’t need tremendous force to create tremendous results. Small changes can yield huge results over time.

Good investing isn't about highest returns - it's about pretty good returns you can stick with and which can be repeated for the longest period of time. That's when compounding really kicks into gear.

Getting money requires taking risk and being optimistic. Keeping money requires managing risk and being humble.

Survival mentality is key to keeping money

• My add: Thriving mentality is key to allocating resources wisely

Survival mentality boils down to 3 things:

1. Prioritize financially unbreakable over big returns.
   

Being financially unbreakable means compound interest can work its wonders

1) Prioritize financially unbreakable over big returns.

• Being financially unbreakable means compound interest can work its wonders

2) Plan diligently, ESPECIALLY margin of safety when your plan does not go according to plan

• Margin for safety (room for error) often looks like frugal budget, flexible thinking, loose timelines - anything that lets you live happily with a range of outcomes

3) Be optimistic about the future and pragmatically realistic about what can prevent you from getting there

• Sensible optimism is a belief that the odds are in your favor, and good things balance out in the long run, even if there is misery in the short run
• Short-term paranoia to keep you alive long enough to exploit long-term optimism

^^Financial freedom is the ability to do what you want, when you want, with who you want, for as long as you want.^^

Having a strong sense of control in our lives is positively correlated with well-being and happiness

The way to be rich is to spend money you have and not spend money you don't

^^Wealth is hidden - it's income not spent^^

• This type of restraint is hard to model because it's the absence of activity (whereas spending a lot is big and flashy)

In a finance world filled with uncertainty, personal savings and frugality are within our control and 100% certain to work now and in the future

Saving for something specific is good. Saving for saving's sake is ideal.

• This creates available resources in black swan events when unexpected opportunities come to light

Flexibility and control over your time is a return on wealth you can't see in an account or spreadsheet

Intelligence is not a reliable advantage in a world that’s become as connected as ours has. But flexibility is.

• My add: I would rephrase "flexibility" to "adaptability" and with that this is a profound concept. Both deviations from the norm of intelligence (*ahem everyone) is impacted. So how do we foster adaptability in ourselves and our context?

Choose "pretty reasonable" over "coldly rational" when it comes to money to improve your chance of sticking with it for the long run

Margin of safety is the only effective way to navigate a world governed by odds, not certainties

Areas to consider margin of safety:

• Volatility - can you pay the bills if your assets decline by 30%? Can you stay sane?
• Saving for retirement - use averages to plan, then plan that your average, or timing of exit, may be lower

You have to take risks to get ahead, but no risk that can wipe you out is ever worth taking

• "The odds are in your favor when playing Russian roulette. But the downside is not worth the potential upside. There is no margin of safety that can compensate for the risk."

Room for error widens the target for what you think may happen (known unknowns) AND protects you from things you could never imagine happening (unknown unknowns)

Lesson from psychology: people are poor predictors of their future self. Setting goals is easy, doing everything required to achieve that goal in realistic life stresses is much harder.

End of History Illusion - People are aware how much they've changed in the past but underestimate how much they'll change in the future

Endurance is key to compounding. Balance is key to endurance.

Minimize sunk cost fallacy (!!)

^^Think of market volatility as a fee, not a fine^^

• Market returns are not free and volatility is the price for admission

Realize that other investors and financial actors are playing different returns and times horizons than you. If they are playing a different game, be wary and careful about using their strategy.

Appealing fictions - things we think are true because we desperately want them to be true

The bigger gap between what you want to be true and need to be true for an acceptable outcome, the more you protect yourself from appealing fictions

The higher the stakes, the wider your room for error

Craving certainty is an emotional itch so we cling to stories about outcomes being in our control.

• Play the odds, not the certainty, to improve real control

^^Saving money is the gap between ego and income^^

“Does this help me sleep at night?” is the best universal guidepost for all financial decisions

Independence is driven by your savings rate. Your savings rate is driven by your ability to manage lifestyle creep

For most investors, dollar-cost averaging into a low-cost index fund is an optimal strategy for highest odds of long-term success

Morgan's investing strategy:

• High savings rate
• Patience
• Optimism (that global economy will create value over next several decades)
• Focus on first two which he can control

Financial independence is mastery of the psychology of money

Brief history of money in the US

• Economics in the 1950s & 1960s - country got rich by making the poor less poor. Gap between rich and poor narrowed dramatically

• Growth was driven by consumer debt, new industries / jobs, and growing incomes

• Economics in the 1980s, 90s, and 00s - rich got richer. Gap between rich and poor expanded dramatically
• Financial inequality has become a force in the US in the last 35 years

Favorite Quotes #[[Quote Collection]]

From others

• “Success is a lousy teacher. It seduces smart people into thinking they can’t lose.” -[[Bill Gates]]
• "First rule of compounding is to never interrupt it unnecessarily." -[[Charlie Munger]]
• "I have no sunk costs." -[[Daniel Kahneman]]
• “We need to believe we live in a predictable, controllable world, so we turn to authoritative-sounding people who promise to satisfy that need.” -[[Philip Tetlock]]
• “The more the Internet exposes people to new points of view, the angrier people get that different views exist.” -[[Benedict Evans]]

From the author

• "The line between “inspiringly bold” and “foolishly reckless” can be a millimeter thick and only visible with hindsight."
• "Happiness is results minus expectations."
• "an insatiable appetite for more—will push you to the point of regret."
• "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."
• "One of the most powerful ways to increase your savings isn’t to raise your income. It’s to raise your humility."
• "Intelligence is not a reliable advantage in a world that’s become as connected as ours has. But flexibility is."
• "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."
• "An underpinning of psychology is that people are poor forecasters of their future selves. Imagining a goal is easy and fun. Imagining a goal in the context of the realistic life stresses that grow with competitive pursuits is something entirely different."
• "The illusion of control is more persuasive than the reality of uncertainty."
• "Less ego, more wealth. Saving money is the gap between your ego and your income, and wealth is what you don’t see."
• "Define the game you’re playing, and make sure your actions are not being influenced by people playing a different game."

Further areas [[To Research]]

• [[Angus Campbell]], positive psychologist from the University of Michigan, and his book The Sense of Wellbeing in America
• [[Morgan Housel]]'s firm Collaborative Fund
• [[Matt Ridley]]'s book The Rational Optimist

Book Highlights

financial success is not a hard science. It’s a soft skill, where how you behave is more important than what you know. (Location 80)

Every decision people make with money is justified by taking the information they have at the moment and plugging it into their unique mental model of how the world works. (Location 203)

The 401(k)—the backbone savings vehicle of American retirement—did not exist until 1978. The Roth IRA was not born until 1998. (Location 245)

The line between “inspiringly bold” and “foolishly reckless” can be a millimeter thick and only visible with hindsight. (Location 375)

Note: Beautifully written

Bill Gates once said, “Success is a lousy teacher. It seduces smart people into thinking they can’t lose.” (Location 397)

Failure can be a lousy teacher, because it seduces smart people into thinking their decisions were terrible when sometimes they just reflect the unforgiving realities of risk. (Location 400)

There is no reason to risk what you have and need for what you don’t have and don’t need. (Location 462)

1. The hardest financial skill is getting the goalpost to stop moving. (Location 467)

Happiness, as it’s said, is just results minus expectations. (Location 473)

2. Social comparison is the problem here. (Location 474)

3. “Enough” is not too little. (Location 487)

4. There are many things never worth risking, no matter the potential gain. (Location 495)

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 toward the sun. (Location 523)

The big takeaway from ice ages is that you don’t need tremendous force to create tremendous results. (Location 538)

Note: Important life lesson

As I write this Warren Buffett’s net worth is $84.5 billion. Of that, $84.2 billion was accumulated after his 50th birthday. $81.5 billion came after he qualified for Social Security, in his mid-60s. (Location 543)

But 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. (Location 593)

there’s only one way to stay wealthy: some combination of frugality and paranoia. (Location 598)

If I had to summarize money success in a single word it would be “survival.” (Location 634)

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. (Location 639)

Moritz: There’s a lot of truth to that … We assume that tomorrow won’t be like yesterday. We can’t afford to rest on our laurels. We can’t be complacent. We can’t assume that yesterday’s success translates into tomorrow’s good fortune. (Location 646)

1. 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. (Location 678)

Compounding doesn’t rely on earning big returns. Merely good returns sustained uninterrupted for the longest period of time—especially in times of chaos and havoc—will always win. (Location 684)

2. Planning is important, but the most important part of every plan is to plan on the plan not going according to plan. (Location 686)

The more you need specific elements of a plan to be true, the more fragile your financial life becomes. If there’s enough room for error in your savings rate that you can say, “It’d be great if the market returns 8% a year over the next 30 years, but if it only does 4% a year I’ll still be OK,” the more valuable your plan becomes. (Location 694)

Room for error—often called margin of safety—is one of the most underappreciated forces in finance. It comes in many forms: A frugal budget, flexible thinking, and a loose timeline—anything that lets you live happily with a range of outcomes. (Location 697)

3. A barbelled personality—optimistic about the future, but paranoid about what will prevent you from getting to the future—is vital. (Location 702)

Sensible optimism is a belief that the odds are in your favor, and over time things will balance out to a good outcome even if what happens in between is filled with misery. (Location 704)

you need short-term paranoia to keep you alive long enough to exploit long-term optimism. (Location 728)

When you accept that tails drive everything in business, investing, and finance you realize that it’s normal for lots of things to go wrong, break, fail, and fall. (Location 831)

Note: Only if youre doing best practices.  not doing the optimal path will rarely lead to success

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. (Location 878)

The most powerful common denominator of happiness was simple. Campbell summed it up: Having a strong sense of controlling one’s life is a more dependable predictor of positive feelings of wellbeing than any of the objective conditions of life we have considered. (Location 884)

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. (Location 993)

Investor Bill Mann once wrote: “There is no faster way to feel rich than to spend lots of money on really nice things. But the way to be rich is to spend money you have, and to not spend money you don’t have. It’s really that simple.”31 (Location 1017)

But wealth is hidden. It’s income not spent. Wealth is an option not yet taken to buy something later. Its value lies in offering you options, flexibility, and growth to one day purchase more stuff than you could right now. (Location 1026)

The danger here is that I think most people, deep down, want to be wealthy. They want freedom and flexibility, which is what financial assets not yet spent can give you. But it is so ingrained in us that to have money is to spend money that we don’t get to see the restraint it takes to actually be wealthy. And since we can’t see it, it’s hard to learn about it. (Location 1039)

Personal savings and frugality—finance’s conservation and efficiency—are parts of the money equation that are more in your control and have a 100% chance of being as effective in the future as they are today. (Location 1072)

But spending beyond a pretty low level of materialism is mostly a reflection of ego approaching income, a way to spend money to show people that you have (or had) money. (Location 1094)

one of the most powerful ways to increase your savings isn’t to raise your income. It’s to raise your humility. (Location 1096)

saving does not require a goal of purchasing something specific. You can save just for saving’s sake. And indeed you should. Everyone should. (Location 1106)

flexibility and control over your time is an unseen return on wealth. (Location 1115)

Intelligence is not a reliable advantage in a world that’s become as connected as ours has. But flexibility is. (Location 1135)

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. (Location 1148)

Normal fevers between 100° and 104° f are good for sick children.” (Location 1172)

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. (Location 1253)

Margin of safety—you can also call it room for error or redundancy—is the only effective way to safely navigate a world that is governed by odds, not certainties. And almost everything related to money exists in that kind of world. (Location 1423)

There are a few specific places for investors to think about room for error. One is volatility. Can you survive your assets declining by 30%? On a spreadsheet, maybe yes—in terms of actually paying your bills and staying cash-flow positive. But what about mentally? It is easy to underestimate what a 30% decline does to your psyche. (Location 1450)

Another is saving for retirement. We can look at history and see, for example, that the U.S. stock market has returned an annual average of 6.8% after inflation since the 1870s. It’s a reasonable first approximation to use that as an estimate of what to expect on your own diversified portfolio when saving for retirement. You can use those return assumptions to back into the amount of money you’ll need to save each month to achieve your target nestegg. But what if future returns are lower? Or what if long-term history is a good estimate of the long-term future, but your target retirement date ends up falling in the middle of a brutal bear market, like 2009? What if a future bear market scares you out of stocks and you end up missing a future bull market, so the returns you actually earn are less than the market average? (Location 1457)

The idea is that you have to take risk to get ahead, but no risk that can wipe you out is ever worth taking. The odds are in your favor when playing Russian roulette. But the downside is not worth the potential upside. There is no margin of safety that can compensate for the risk. (Location 1473)

Room for error does more than just widen the target around what you think might happen. It also helps protect you from things you’d never imagine, which can be the most troublesome events we face. (Location 1487)

my firm, Collaborative Fund, (Location 1501)

Predicting what you’ll use your savings for assumes you live in a world where you know exactly what your future expenses will be, which no one does. (Location 1522)

the most important part of every plan is planning on your plan not going according to plan. (Location 1524)

An underpinning of psychology is that people are poor forecasters of their future selves. Imagining a goal is easy and fun. Imagining a goal in the context of the realistic life stresses that grow with competitive pursuits is something entirely different. (Location 1537)

The End of History Illusion is what psychologists call the tendency for people to be keenly aware of how much they’ve changed in the past, but to underestimate how much their personalities, desires, and goals are likely to change in the future. (Location 1555)

Charlie Munger says the first rule of compounding is to never interrupt it unnecessarily. (Location 1565)

Compounding works best when you can give a plan years or decades to grow. This is true for not only savings but careers and relationships. Endurance is key. And when you consider our tendency to change who we are over time, balance at every point in your life becomes a strategy to avoid future regret and encourage endurance. (Location 1581)

“When I asked Danny how he could start again as if we had never written an earlier draft,” Zweig continued, “he said the words I’ve never forgotten: ‘I have no sunk costs.’”49 (Location 1596)

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. The quicker it’s done, the sooner you can get back to compounding. (Location 1598)

It sounds trivial, but thinking of market volatility as a fee rather than a fine is an important part of developing the kind of mindset that lets you stick around long enough for investing gains to work in your favor. (Location 1679)

Note: Good use of resetting metaphors and mental models to make a point. E.g. Disneyland example

But if you view volatility as a fee, things look different. Disneyland tickets cost $100. But you get an awesome day with your kids you’ll never forget. Last year more than 18 million people thought that fee was worth paying. Few felt the $100 was a punishment or a fine. The worthwhile tradeoff of fees is obvious when it’s clear you’re paying one. (Location 1682)

Find the price, then pay it. (Location 1693)

Note: I love the way the last pithy sentence is a lead in to the next chapter

A takeaway here is that few things matter more with money than understanding your own time horizon and not being persuaded by the actions and behaviors of people playing different games than you are. (Location 1783)

Optimism is a belief that the odds of a good outcome are in your favor over time, even when there will be setbacks along the way. The simple idea that most people wake up in the morning trying to make things a little better and more productive than wake up looking to cause trouble is the foundation of optimism. (Location 1798)

Matt Ridley wrote in his book The Rational Optimist: (Location 1839)

There are many things in life that we think are true because we desperately want them to be true. I call these things “appealing fictions.” They have a big impact on how we think about money—particularly investments and the economy. (Location 1992)

An appealing fiction happens when you are smart, you want to find solutions, but face a combination of limited control and high stakes. (Location 1994)

The bigger the gap between what you want to be true and what you need to be true to have an acceptable outcome, the more you are protecting yourself from falling victim to an appealing financial fiction. (Location 2030)

there is no greater force in finance than room for error, and the higher the stakes, the wider it should be. (Location 2044)

Satisfying that need is a great way to put it. Wanting to believe we are in control is an emotional itch that needs to be scratched, rather than an analytical problem to be calculated and solved. The illusion of control is more persuasive than the reality of uncertainty. So we cling to stories about outcomes being in our control. (Location 2086)

First, let me tell you a story about a dentist appointment gone horribly awry. It teaches us something vital about the dangers of giving advice about what to do with your money. (Location 2117)

Less ego, more wealth. Saving money is the gap between your ego and your income, and wealth is what you don’t see. (Location 2153)

But the foundation of, “does this help me sleep at night?” is the best universal guidepost for all financial decisions. (Location 2159)

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. (Location 2167)

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. (Location 2172)

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. (Location 2178)

Define the game you’re playing, and make sure your actions are not being influenced by people playing a different game. (Location 2184)

Note: Worthwhile exercise to refine my investment decisions

I mostly just want to wake up every day knowing my family and I can do whatever we want to do on our own terms. Every financial decision we make revolves around that goal. (Location 2214)

Note: Couldnt agree more

Independence, to me, doesn’t mean you’ll stop working. It means you only do the work you like with people you like at the times you want for as long as you want. (Location 2222)

Independence, at any income level, is driven by your savings rate. And past a certain level of income your savings rate is driven by your ability to keep your lifestyle expectations from running away. (Location 2224)

We also keep a higher percentage of our assets in cash than most financial advisors would recommend—something around 20% of our assets outside the value of our house. This is also close to indefensible on paper, and I’m not recommending it to others. It’s just what works for us. We do it because cash is the oxygen of independence, and—more importantly—we never want to be forced to sell the stocks we own. We want the probability of facing a huge expense and needing to liquidate stocks to cover it to be as close to zero as possible. (Location 2250)

Every investor should pick a strategy that has the highest odds of successfully meeting their goals. And I think for most investors, dollar-cost averaging into a low-cost index fund will provide the highest odds of long-term success. (Location 2267)

Effectively all of our net worth is a house, a checking account, and some Vanguard index funds. (Location 2284)

My investing strategy doesn’t rely on picking the right sector, or timing the next recession. It relies on a high savings rate, patience, and optimism that the global economy will create value over the next several decades. I spend virtually all of my investing effort thinking about those three things—especially the first two, which I can control. (Location 2289)

Note: The simplicity and clarity here is profound

No matter how we save or invest I’m sure we’ll always have the goal of independence, and we’ll always do whatever maximizes for sleeping well at night. We think it’s the ultimate goal; the mastery of the psychology of money. (Location 2293)

The defining characteristic of economics in the 1950s is that the country got rich by making the poor less poor. (Location 2380)

And those gains focused on those who had been left behind for decades before. The gap between rich and poor narrowed by an extraordinary amount. (Location 2382)

The biggest difference between the economy of the 1945–1973 period and that of the 1982–2000 period was that the same amount of growth found its way into totally different pockets. (Location 2461)

Between 1993 and 2012, the top 1 percent saw their incomes grow 86.1 percent, while the bottom 99 percent saw just 6.6 percent growth. (Location 2464)

All that matters is that sharp inequality became a force over the last 35 years, and it happened during a period where, culturally, Americans held onto two ideas rooted in the post-WW2 economy: That you should live a lifestyle similar to most other Americans, and that taking on debt to finance that lifestyle is acceptable. (Location 2470)

But they’re symptomatic of the bigger thing that’s happened since the early 1980s: The economy works better for some people than others. Success isn’t as meritocratic as it used to be and, when success is granted, it’s rewarded with higher gains than in previous eras. (Location 2507)

Benedict Evans says, “The more the Internet exposes people to new points of view, the angrier people get that different views exist.” (Location 2523)

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