It is possible to go through life without making a stupid decision about money. Said no one ever. The truer statement might be: everyone reading today has at one time made a stupid decision about or with money. Most people have made multiple stupid decisions about money and much more. The important part (possibly after difficult pain or regret) is to be able to answer the question: what lessons were learned?
Two weeks ago, a famous Nobel Prize winning psychologist, who spent his life studying the human mind and decision-making, died. Daniel Kahneman reluctantly accepted the title “economist” as he and his long-time research partner, Amos Tversky, wrote an amazing, internationally best-selling book, Thinking, Fast and Slow. Together Kahneman and Tversky were pioneers in the field of behavioral psychology. Along the way, behavioral psychology was applied to all sorts of economic and investing decisions and the two psychologists were consulted by business leaders around the world. Here are a few of the questions the two men studied over decades, with a few of their answers:
- Is it a fair assumption that people are “rational” and self-interested, using all available information to make unbiased decisions while keeping their preferences consistent? (This was one of their key questions.)
They found the answer to be a resounding NO.
They concluded that people think they are incorporating ALL available information but instead observe only short streaks in a process and think those streaks can allow us to predict what comes next.
They found that people think jackpots (or amazing, lucky gains in stocks or investments) happen more often than they do, creating [in my words: dangerous] overconfidence.
- Is money gained the same as money lost?
The men found NO. Losses are at least doubly as painful as gains. (Other psychologists have estimated as much as 5 times more painful.)
Kahneman believed that every major decision should involve knowledge of the odds of success, given the available history of similar situations. In starting a business, he believed in going in with eyes wide open to the 50/50 chances of success or failure – and not to let that stop an optimist.
He was incredibly self-critical which allowed him the humility to realize that he was not an expert problem solver, despite being a world-famous psychologist. He noted that he was merely better able to recognize the fact he had made a mistake after the fact. He believed that making less decisions would make all of us better investors.*
*Source: Jason Zweig, “The Psychologist Who Turned the Investing World on Its Head”, intelligentinvestor@wsj.com. March 29, 2024.
This material has been prepared for informational purposes only and is not intended to provide, and should not be relied upon for, tax, legal or accounting advice.