(upbeat music) - Hello, and welcome to another episode of All The Hacks, a show about upgrading your life, money, and travel. I'm Chris Hutchins, and as some of you know, I'm working on an idea for a book right now about the principles of an optimized life, and it'll be no surprise that money fits into the book a bit.

And one of the things I was doing as I was brainstorming that topic was going back and listening to some older episodes I did on money, investing, personal finance, and one of those episodes really stood out to me. It was episode number six with best-selling author Morgan Housel on the psychology of money.

For those not familiar with Morgan, he's a notable blogger, former columnist at The Motley Fool and The Wall Street Journal, and a partner at Collaborative Fund. Now, what stood out to me about that episode was that even though I did the original interview, and then I edited the entire interview, and then I listened to the final version before I released it, when I listened to it again last week, it was so good.

I picked up on things that I either missed the first few times or have forgotten since then. And in that conversation, we talked about behavioral finance, investing, dealing with risk, and approaches you can take to be more productive with your money. In fact, I enjoyed re-listening the episode so much, I suggested my wife, Amy, listen again, and she had the exact same reaction.

So, since it's been two years, I know many of you have never even heard that episode, but if you're one of the few who already have, I'd encourage you to give it another listen and see if you pick up on something new. And whether you do or don't, please send me a note, because it's the first time I've done an episode like this where I bring back an interview from the past.

And while I don't plan to do it that often, I'd love to hear what you think. So please shoot me a quick email, podcast@allthehacks.com, or you can DM me on Instagram or Twitter. But like I said, I think you're really gonna enjoy this one. So let's jump in right after this.

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(upbeat music) Morgan, thank you for being here. - Thanks for having me, Chris. I'm happy to be here. - So you've been writing columns, articles, blog posts about money and investing for almost 15 years. What about the psychology of money led you to write an entire book this time?

- What actually got me to write the book was just the realization that I had accumulated enough stories, enough material to fill out a book. That's the honest answer. And it took a long time. It took 10 or 15 years of casual observing and reading about a bunch of things that led me to find what I thought were the most important parts about how people think about money, and kind of how I've always thought about this.

Not always, but the main way that I've written, not just written, but thought about and researched behavioral finance is through the lens of other industries. And the reason that is, if I take you back to when I started writing about finance, which was 2008, which of course is when the world fell apart, the financial crisis, everything was breaking and crumbling down around us.

In my early years of becoming a financial writer, I wanted to answer the question, why did people do the things that they did during the housing bubble, during the financial crisis? Why did people take on so much debt? Why did they make all these dumb, crazy decisions that blew the world to pieces?

Why did they do it? That's what I wanted to answer. And I realized, as years went on, that the answer to those questions could not be found in a finance textbook or an economics textbook. You could not explain why people did what they did if you were just looking at finance, or thinking through the lens and the frameworks and the theories of finance.

The answers weren't there. But you could find clues, like these tangential clues about why people did what they did, if you were thinking about psychology and sociology and political science and biology and neurology. All these things that had nothing to do with finance could actually explain why people did the things that they did.

Things like sociology, like keeping up with the Joneses, or your brother-in-law buys a big house, so now you gotta go buy a big house. Finance can't explain that, but sociology can. So to me, that just started this idea that money is not the study of finance. It's a study of how people behave, like how people behave with money.

And since it's a study of behavior, you can learn so much about it through the lens of all these other disciplines. And so I spent the huge majority of my time, I almost never read finance books or economic books. I read books about all kinds of different topics, just trying to answer the question, how do people respond and behave around fear and greed and risk and uncertainty?

And just trying to piece together little bits and stories about how people behave. And so I just did that for many years, more than a decade before I felt like I had enough to throw it all together into a book, and that's where this came from. - I'm glad you did.

When I was in college, my wife and I actually went to college together, and she had a major in finance, and all of a sudden she was like, "Wait, finance is all about," and I remember specifically taking the Fundamentals of Futures and Options Markets with her as a course in college.

And she was like, "This isn't what I care." I was really interested in how people think about money. I'm not interested in the Black-Scholes model for pricing options. And so that actually, I think if your book was around, she could have taken a different path, but she got out of finance pretty quickly 'cause it was not framed around how people think about money.

- So that's actually a really good point because the behavioral side of finance, the psychology side of finance, is really hard to teach. Even to really smart people, it's hard to teach. So what tends to be taught in finance, in colleges and whatnot, is the part that is relatively easy to teach.

There's all the formulas and the data and the charts, the things that you can memorize and regurgitate on a test. The softer side of finance is just, it's much more mushy. It's much more like answering the question, how do you become a good spouse? It's hard, you can't teach that in college.

It's a really important topic. It might be the most important topic of your entire life, but you can't summarize it into a formula, so you can't teach it. And this is true for a lot of disciplines. What is taught in school are the things that are able to be taught, like the things that you can teach.

But there's a lot of things that you just can't teach. How do you teach someone to respond well around greed and fear? Tough thing to teach that in a way that you're gonna be able to test someone on a midterm for. So it's a great point that you and your wife brought up about how finance is typically taught versus what it actually is in the real world.

- Yeah, and there's so much in the book about how to start thinking about different things. Before going kind of deep on a few of those, I'd love to talk a little bit about the ultimate goal of learning and mastering money. I think you have a pretty good framework for what that unlocks in life and kind of what the highest form of wealth is.

And I'd love to hear you kind of talk a little bit about that. - To me, the highest form of wealth is you wake up every morning and you're gonna say that you can do whatever you want today. Whatever you wanna do. Even if most of the time what you wanna do is wake up and go to work and be a productive member of society, it's on your terms.

You're doing it at the company you want for as long as you want. You can live where you want. You can work with the coworkers who you want. Having a sense of independence and autonomy, being on your own terms, owning your time, owning your schedule, having control over your schedule, that to me is the highest form of wealth.

And it's important because everyone knows, I mean this is virtually cliche at this point, but you get used to things. Cars, homes, it's not that it's bad. I like nice cars as much as anyone else. But people get accustomed to them. The joy that you get from them is gonna work for virtually anyone.

People massively overestimate how much joy you're gonna get from stuff. It's not that stuff is bad, you just overestimate it. But owning your time, owning your schedule, having independence and autonomy is something that I think will give you a permanent level of lasting happiness. Or I think a better, like a little bit of nuance here is that it's not that having independence gives you, makes you happier, it's that it makes you less miserable.

Like people who don't control their time just have more bad days than people who have that level of independence. So to the extent that people can use money and wealth and savings to gain autonomy in their life, that to me is like the highest form of wealth. And there's a couple things about it.

One is that for a lot of people, the amount of wealth that you need to gain some level of independence and autonomy is a lot lower than I think what most people would consider rich. And the definition of rich is different for everyone throughout the world, different people, different generations.

But having just a level of savings so that for example, if you were to lose your job, you can wait to find a good job rather than having to take the first one that you can possibly find, that's a level of independence that can make your life substantially better.

Having just enough savings that if you have a medical emergency, it's not gonna ruin you, which for whom it does millions of Americans every year, that's a level of independence and autonomy. So like obviously independence is a spectrum. A lot of people when they think of independence, they think the fire movement, retire early, quit your job, go like on a road trip around the country.

That's one level. But there's a big spectrum below that that can lead to a lot of happiness of just being in control of your time. The other way that people talk about this is of course like the well-known phrase, F you money. Like so much money that you can just say F you to people who you don't wanna deal with.

That's one level of this that gets talked about. And I think there's like a more polite version of that. I call it like, please leave me alone money, of just like, if you have enough money, you don't have to deal with a lot of the hassles that you have in life.

You can just like, look, I don't report to anyone. I'm not on anyone else's quarterly performance metrics. You can just kind of live the life that you want and pursue the creative ventures that you want in a way that I think is really underestimated in life. - Yeah, I think in today's environment, I hear lots of people say, gosh, you shouldn't hold any cash.

It's the interest rates are so low that you actually forget that the value or the kind of return on that money that's sitting in cash can be something really, really significant if you are able to use it to turn down a job or you're able to use it to work less hours on your hourly job and pursue something you're excited about.

So I'm a big fan of using cash to buy yourself freedom and treating that freedom as a similar return, though very different from the kind of return that's more tangible of investment returns and that kind of stuff. - You're so right that people look at the return on cash and they say, look, 0.1% interest.

Like, why would I possibly do that? And then once they hit, whether it's next month or five years from now, once they hit some sort of life emergency where they need that cash and they realize that cash is the oxygen of independence. Like, you don't think about it until you need it and then when you need it, it's the most important thing in the world, nothing else matters.

And so I think once every 10 years, at least everybody, everybody once every 10 years will have something happens in their life where they think, where they realize, oh, I'm so glad I had this buffer of cash that I didn't know what I was gonna do with or, oh my gosh, I wish I'd like, things would have been so much better if I had just saved a little bit of cash.

Everyone will deal with that once every 10 years. And during the other 99.9% of the time, your cash feels like it's a drag on your net worth. And then one week every 10 years, it's the most important thing that completely transforms your life because it gives you options over your time, over your control of what you're gonna do and where you have to go, et cetera.

- So building up that cash, there's lots of ways to do that. And it ultimately comes down to having more money and you could save more or you can earn more. And by earn more, you could work or make investments that grow. I personally think that saving is much easier to focus on.

It's totally in your control, but it seems like everyone I talk to is focused on making more money and usually making more money from investments and seeking high returns. Why do you think it's so hard for people to save more and spend less? - I think, look, both sides of the equation are really important.

Like, of course, earning more and like proper investing and like long-term compounding, that's so important, of course. But I think the side of the equation, which is just, you know, like all of wealth is money in minus money out. Like that's what it is. And the money outside of the equation is just more in your control.

Like to double your money in the stock market over the next five years is doable, but it's not always easy. Like people who are new to investing might think that's crazy because it's been so easy lately. But most of the time, like doubling your money in the stock market takes a lot of work and a lot of patience and a lot of just like sticking it through.

But lowering your expenses is so much more in your control 'cause you have no control of what the stock market's gonna do next. But you do have control over how big your ego is in terms of how much you need to flash and show the world how much money you have through the cars you're driving and the clothes you're wearing and the vacations that you're posting on Instagram.

Controlling that side is so much more in your control than assuming that you can have any control of what the stock market's gonna do next. So it's just, it's not that one side is more important than the other. It's just, if you're looking at the odds of success and you're trying to find the highest odds of like what's the lever I can pull that when I pull it, it's actually gonna make a difference.

For the huge majority of people, it's on the spending side of the equation. And that's how they can really move the needle in their life. And things that are more in your control are just so much more valuable. Like the expected value of something like that is so much more valuable than for most people to try to increase their income by a significant amount.

So why don't people wanna do that? I think there's two reasons. One is what we talked about before, which is that when most people gain more income, they instantly wanna say, how can I spend this? Because their view of money is the sole purpose of money is to buy stuff.

Which seems like a really rational statement. That's what money is, money is to buy stuff. That's what it's for. That seems so obvious. And even when I say it, I'm kinda like, yeah, of course that's what it's for. And so most people stop right there and they say, well, if I just got $1,000 raise, I'm gonna go spend $1,000 'cause that's what money's for.

But I think once you view money as, oh, actually this can give you independence if you save it and invest it and this gives you wealth, now you have control of your time, now you can do whatever you want. Now when life throws a curve ball at you, you're gonna be okay.

Then you start thinking about it a little bit different. And so if you don't have that little nuance on what money can do for you and the independence side of it, it makes savings much harder. Because you're saving money and you're saving, what's the point of this? What am I saving it for if I'm not gonna spend it?

That's how a lot of people think. Once you view it as, I'm saving this so I can have control over my time, so I can live whatever life I want, then I think it becomes quite a bit easier to save. So that's always the lens that I viewed it through when saving for myself.

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You must go to allthehacks.com/element. That's L-M-N-T. - Is there anything you've learned about psychology that helps people who have gone through that exercise of, "Yeah, I do want my freedom," but struggle with stopping themselves from wanting more, stopping themselves from wanting the nicer car, the nicer house, or whatever it is?

Is there any tactics that people can use to stop that feeling? - No, I don't know if there's any specific tactics. It's like the most natural thing in the world. And even myself, who writes a book about this topic, of course it's tempting for my wife and I to say, "Hey, we gained a little bit of income "from this or that.

"Should we go buy a nicer?" That temptation never goes away, ever. I think it's the most natural thing in the world. It's natural from a social level to try to show your friends and your coworkers and your spouse or your potential future spouses that you've made it in the world.

That's the most natural thing in the world. Take your peacock feathers and flay them up and be like, "Hey, look at me. "This is what I've done." That's the most natural thing in the world. And even if you're not thinking about it through the social sense, the idea that nicer stuff will make you happier is true to some extent.

We just overestimate how much it's going to be true. So it's a really difficult thing. I think that the people who find a way to do it are just the ones who are just totally comfortable in themselves and who they are and don't feel a lot of obligation or urge to try to gain the social ladder.

They're comfortable with their friends and their spouses or their significant others. They're totally comfortable with that. And those people love them and appreciate them. And they just don't feel that much need to climb the social ladder. They're happy where they are. Those are the people that can really gain total control over their financial lives because they're not on just constant hamster wheel of trying to keep up with the Joneses.

And the Joneses thing is such a huge problem because there are a lot of Joneses and some of them are extremely wealthy. So no matter how much money you gain, there's always someone who's making more than you. And if you're making 50 grand and then you're looking up to the person who's making 100.

And then once you make 100, you're looking up to the guy who's making 200. And that keeps going forever. That never ends. So like I use the example in the book of like, if you are a professional baseball player, the minimum wage is about half a million dollars per year, which by any definition is rich.

Like in the United States, you make half a million dollars a year, like you're crushing it. You're like, congratulations, you made it, you're rich. But I guarantee you that every minimum wage baseball player in professional baseball does not consider themselves rich because there's people on their team who make $10 million a year.

And the people who make 10 million might not feel that great 'cause they're looking up to the players who make 30 million. And the guy who makes 30 million is looking at the hedge fund manager who's making 500 million. And the hedge fund manager who makes 500 million is looking at Jeff Bezos.

Like that never ends. So people, once you realize, like I use this quote in the book of a friend of mine who goes to Vegas every year. One year he walked in and he asked the dealer, he said, "Hey, what games do you play, Mr. Dealer?" Like in Vegas, what games do you play?

And he said, "I don't play any games." He said, "The only game that you can win in Vegas "is not playing. "That's the only way that you can win in Vegas "is to like walk out of the casino." And I feel like it's the same with that, like climbing the social ladder.

There's no end point. So people are like, I'm on this mission to win the game. And it's like, no, you're never gonna win the game. The game never ends. So when you realize the game never ends and it can't be beat, then for myself, it's different for everyone, but for myself, it's like, well, if you can't beat the game, I don't wanna play the game.

I'm gonna try hard as I can not to play the game. That's not a tip or a trick or a tactic in how to do it. It's just a little bit different way of thinking about it. I think it's such an ingrained part of human nature that it's never gonna be the point where the majority of people will be able to achieve it.

If you're mindful about the forces that are pushing you away from happiness with your money, maybe it's a little bit easier to wrap your head around. - Do you think people can go too far to the other end? You mentioned the fire movement, which I was actually in a documentary about the fire movement called "Playing with Fire." And I remember someone mentioning in the process of talking with lots of people that there's some people that like to wash their tinfoil, some extreme things to save small amounts of money.

And I sometimes ask, and I've asked myself this question, it's like, can you go too far in that direction and end up with all of this money that gives you all this freedom, but you spent so many years not actually enjoying life? And what happens when you go too far?

- I think the answer is absolutely yes. And I think the biggest one is if you create this incredible frugal lifestyle and it turns off your friends and families and significant others in a way that they start rejecting you for it. That's what people overlook. So people are like, they might be being honest with themselves when they say, "I would be happy living off of $4,000 a year," whatever it is, and they're honest with themselves, but their friends aren't, their spouse isn't, their boyfriend and girlfriend isn't.

And then all of a sudden, this other part of your life that was probably the single most important part of your life, the people around you, your friends and families that you love start rejecting you for it. I've seen that happen a number of times, and it's devastating to the people because they're like, "Look, I was honest "that I could live this life and be happy, "but these people who I loved weren't on the same page, "and now I've ruined my life over it." That's the biggest risk in these things is that you create an extreme plan that you're okay with, but other people are not.

And it's a hard thing to wrap your head around. And I think there are also a lot of people that go down a path that is fun for a while, but gets old. It's fun to be super frugal for 12 months, but after three or four years, you're kind of over it, but it's become part of your identity, especially when there's a name behind it, the fire movement.

Like, I'm in the fire club, it's a tribe. And then sort of break off from the tribe is really difficult. So once it becomes an ingrained part of your identity, I think people find it hard to move on from, even if they're ready to move on from it. Yeah, no matter how deep you go down the path of saving and frugality, I think at the end of the day, you talked earlier, it's two sides of an equation.

The money comes in, the money goes out, that's what you save. So I do still think it's important to think about what you do with the money you save. And when it comes to investing, I like to contrast athletes and investors. And it got me thinking, I have a lot of friends who played sports in college.

They all knew it was really hard to be a pro athlete. So most of them chose other careers. And I talked to those same people. Who know that most active investors underperform, and yet all of them are always trying to invest and beat the market and pick stocks and compare things on what's the return.

Why are people so rational in some areas and totally irrational when it comes to their abilities with money in the markets? I think there's a really easy answer to that question. And that's, in professional sports, it's impossible to make it to the NFL by luck. You have to be skilled, you have to be physically skilled, legitimately skilled to make it there.

But it is possible, and happens all the time, that people can be successful in the stock market by luck alone. So the fact that it's even possible is why people go into it. And a lot of them will just fool themselves. Maybe they had some sort of beginner's luck, they opened up a Robin Hood account and they doubled their money in six weeks.

And they think to themselves, look, this is so easy. And not only is it easy, but I have the skill. Maybe other people can do it, but if they know only 10% of people can beat the market, everyone thinks they're part of that 10%. And especially young men are the most susceptible to assuming, even if they know the odds, like a lot of people think they're being rational 'cause they're like, oh yeah, I know the odds.

Only 10% of investors who try to beat the market can do it, but I'm one of them. And since it's possible to be in that group by luck alone, do you have a lot more people chasing it? The other aspect of this is that if you're trying to get into professional sports, it's really obvious whether you made it or not.

You got drafted or you didn't. Black and white, clear as day. The huge majority of investors who I've talked to, active investors, particularly if you're not a professional investor, you're just an individual investor, don't accurately track their returns. And if you really ask them, like, how have you performed?

A lot of them, if they're honest about it, they don't really know. They're not auditing their annual returns and comparing it to the appropriate benchmark every year. A lot of them do it, and maybe they think they're outperforming, but if they're honest with themselves on an after-tax basis, they're actually not.

Or they're willfully blind to it because they're afraid to accurately calculate it. Because, and in the meantime, they like what they're doing, and maybe that's, and that's fine. If you like actively investing, even if you're underperforming, but you love it, you like the strategy, you like the hunt, you like the analysis, well, then that's great.

That's a cool little hobby that you have. No problem with that whatsoever, but it's much easier to fool yourself that you can be a great investor than it would be in sports, where it's just obvious, clear as day, you either made it or you didn't. - And how do you help people who like that, they're having fun, they might be making some money or losing lots of money, and help them understand why that might not be the best long-term strategy if their goal is to pursue this independence and be more confident getting there?

- This might be a disappointing answer, but I found that for the large majority of these investors, you naturally end up on one side of the equation. And once you're on that side of the equation, it's hard to convert you to the other side. You know, that's not to say that's not true for everyone, but a lot of people, if you are a hardcore active investor, the odds that you will ever be persuaded to go on to the passive side, even if your returns are horrendous, are not that great.

I think for a lot of people, they're scratching, when they're actively investing, they're scratching a natural itch that they have, and that itch needs to be scratched. And if they were passively investing, they would have this itch that would drive them crazy. And therefore, that's, so they're always gonna do it.

If there is a way that, and I've seen a lot of financial advisors do this, is they say, "Okay, I know you have this itch "that needs to be scratched. "You need to trade, you need to actively invest, "because that's part of your personality. "Can we put 70% of your net worth "in a long-term diversified investing plan, "and then you can trade with 10, 20, 30%?" So that you can, look, you have this core that's gonna, this is kind of, you know, this is the big thrust that's gonna get you into retirement, but you can still trade.

We're not gonna take that away from you. I think that's actually, like, if you're thinking about it rationally, that's a wrong thing to do, because either one strategy works or it doesn't, so why are you gonna straddle both? But for a lot of investors, I think that's the right thing to do, because it keeps them engaged.

And rather than just getting too bored with their investments, they're like, "Look, I still have this pocket "where I can day trade and buy these stocks, "and I feel great about it." So just giving them that outlet to scratch that itch, I think is really important, and probably the best way to try to, if you were to convert people from one side to the next.

But the other thing I would say here that's really important is I'm not a passive zealot. I'm not one of the people who says, "Everyone should index, and no one can beat the market, "and you shouldn't even try." Those investors exist, but I'm not one of them. I've become much less judgmental as an investor over the last decade, when I just realized everyone has different goals, different skills, different needs, different desires.

They view the world through a different lens. Like, I view the world through the life that I've lived, and only through that lens. It's the only world that I know is what I've seen, and the world that I've seen is different from the world that you've seen, and the world that you and I have seen is very different from different generations, people who live in different countries.

Everyone is different. So to say that there's one right way to invest is something that I probably used to believe, but I've become much less judgmental as the years go on. - Yeah, and you mentioned in the book a lot that people, even that might be similar, similar geography, similar income, similar job, might be trying to play a different game.

They might be anticipating more money from inheritance. They might be trying to earn some short-term money or really focused on a different goal. So it's interesting to hear how people compare themselves to people that might be in totally different circumstances. - Yeah, I think about myself in college. There was a social aspect of wearing nicer clothes and trying to put the peacock feathers up again.

When I was in college, when I was looking for a girlfriend, when I was looking for a wife, when I was in that market, that was really important. Now that I'm happily married and my wife loves me 'til death do us part, it's a lot less important for me.

So even myself, over the course of my relatively short life, like the game has changed substantially in terms of who I wanna be, who I wanna show the world that I am. That has changed substantially in my own life. So if it changes within your own life in a 15-year period, then think about people who are different generations, people who live in different countries, different amounts of rich countries, poor countries.

Everyone thinks about these things totally different. The other thing I would say is a couple years ago, I was in Australia where they hadn't, at the time, they hadn't had a recession in 29 years. 29 years with no recessions. So virtually every adult had never seen a recession, ever.

And then you compare that to the United States where 2001, 2008, we had these massive recessions that reshaped all of society. And Australians, who of course, just as smart as us, had the same information as us, they're the same people as us, they had a completely different view on what risk is.

And at the time, Americans were very cognizant of like, the world can fall apart at any moment, you can lose everything, it can just poof. And Australians didn't, just didn't have that view. And it's not that we were right and they were wrong, that's not the right way to look at it.

It's just, we're equally smart people, the same people that have very different views on the world just by the dumb luck of where we were born. - Like so many of you out there, I absolutely love Notion, our sponsor today, and I use it every day for managing this podcast, taking notes in meetings, planning upcoming trips, and basically everything in my life.

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I know anytime you're looking to start investing, you get often asked or find things on the internet say, you know, figure out whether you're comfortable with a 30% downturn. And it's easy if you invested all of your money and that downturn happened, and you got to know, oh, here's what I did.

But for many people, these things happen every 10 years, or in Australia, every 30 years. Like how can you start to understand your own tolerance for this before you see it? Or can you? I don't, I think realistically, you probably can't until you've done it, because there's no formula.

It would be one thing if it was like, oh, you just need to know the formula. You just go read the book, and then it'll tell you what to do. But nobody knows who they are until they've been in the trenches. No one understands their own unique personality. And there are a lot of people who are a very calm personality, even like an even disposition.

They don't panic very much in life, but they've never experienced losing half their money in the stock market. And when they do, they realize that's the trigger that'll make them lose their minds. So even if you are very introspective about who you are in general, I don't think people understand who they are financially until they've experienced some of these big declines.

And I've experienced 2008, I experienced March of 2020 last year, but there's a lot of things financially that I haven't experienced as well. I have not, and you have not, lived through a period of sustained high inflation that hasn't existed since the mid, late 1970s. So I can research that.

I can try to be empathetic with people who lived through it. I can try to put myself in their shoes at the time. But until I've lived through it, I can't reasonably say that I know how I would respond to it. And I think if we're being honest, like that's true for a lot of people.

Like virtually no one, in the developed world at least, had any idea how they would respond to a viral pandemic until last February. It just wasn't something that was necessarily on our mind. And I think a lot of people responded in ways that they wouldn't have fathomed before. You know, it was completely normal before last February.

If you're on a plane and someone's coughing, 99% of people, not a big deal. Someone's coughing, it's not a big deal. Now going forward, if someone coughs on a plane, people are gonna lose their minds. They have a totally different view that they never would have considered before it happened.

I'll give you one very extreme example of this, and I have to preface this with like, this is the most extreme example. There's a book called "What We Knew", and it's a book interviewing German civilians on what they knew during World War II. During when the Nazis were in power, what did the civilians know?

Not the guards at Auschwitz, the German civilians. What did they know? What was going on? And there's this passage in the book where this German civilian said, "Look, when Hitler came to power in 1933, the Germans were fully behind them. We were like, rah, rah, like Hitler, this is great." And they said, "Why?

Like, I don't understand. Can you explain why you were so excited about him?" And the civilian said, "Look, in the 1920s, Germany lost everything. The economy fell apart. We lost everything. No one had a job. We lost all of our wealth. And Hitler came along and said, "I'll give you a job.

We're gonna rebuild the country. We're gonna bring back German pride, et cetera, et cetera." And in that situation where people were so desperate for anything, they looked at him and said, "Great, that's my guy." And they're looking at this in hindsight and saying, "Look, when people are in a desperate situation where they don't have any money, they lost all their jobs, they lost everything, people will cling to things in that situation that they never would have imagined.

You'll cling to the craziest person that comes across if he's willing to give you a little bit of hope." That's the most extreme example, but nobody knows what they're gonna do or how they're gonna react in the heat of the moment when things are really uncertain, when you've lost a lot of money, when you've lost your job.

When things are calm and prosperous, people don't know how they're gonna respond during those heated moments until you've actually experienced it. In the pandemic, I work at Wealthfront and we have a passively managed portfolio and we have risk tolerance questions. And we ask, "How are you gonna feel if the portfolio is down?" And people overestimate what they think.

They say, "Well, if the market's down 20%, I'm gonna buy more 'cause it's on sale." But one of the interesting things that happened during the pandemic was some people made the complete different decision and not because they didn't think the market was on sale, because it wasn't a 20% down.

It was a 20% down in the middle of a pandemic where some people are shouting from television that the world could end and half the world could die and all of these extreme things. And that feels very different than the academic exercise of if something goes down 20%, what do you do?

And I personally think the media makes it even harder to know what to do because it's really extreme. So, that to me was like a great example of the risk tolerance questionnaire isn't sufficient in isolation. - You're absolutely right. Because if you were to ask me, "Morgan, how would I feel if the market fell 30%?" If you were to ask that question, I imagine, when I'm trying to picture that, I imagine a world where everything is exactly the same today except stock prices are 30% cheaper.

And in that world, it seems like an opportunity. Everything is the same except cheaper stock prices, that's a good opportunity. But that's not how it works. The reason the market falls 30% is because the banking system is about to collapse, like 2008, where there's a pandemic that might kill your entire family.

And in that context, totally different scenario. And that's why people are just in general pretty poor at forecasting the risk tolerance and how they might behave during the next big decline. - Another thing, forgetting major market declines, just thinking of poor investment decisions, which I think right now, there's this big rise of active trading.

And I'm sure you have opinions like I do about the gamification of investing and what that causes people to do. But for people who are making decisions that end up being wrong, I think something I took away from the book and I've seen in practice is that you just will be wrong.

And I think something that I'd love you to talk a little bit about is how can people get comfortable with that concept? Which is like, if you're a doctor, you don't want to be okay being wrong 20, 30% of the time, but as an investor, that's okay and that's expected.

- Yeah, like obviously, like if you're a pilot, then you have to be right 100% of the time. Like you can't say, "Oh, I really botched this flight, but I got next time to come." But investing is not like that. There's a thing that Benjamin Graham talked about in one of his books, where he said, "Investors need to understand the difference between a positive and a negative art." And he said, "Investing in stocks was a positive art because all you need to do to do well is make sure that you own the good ones." If you pick 100 stocks and 80 of them suck, but five of them are the next Apple, the next Amazon, the next Facebook, you're gonna do incredible.

Even if 80% of the ones you picked go bankrupt. So investing is a positive art. He said, "Owning bonds is a negative art because what you need to do to do well as a bond investor is make sure that you don't own any of the bad ones. Any of the bonds that are gonna default, you just need to avoid all of those." So it's important to realize is what you're doing in life, and this applies to everything in life, like careers and friends, is it a positive or a negative art?

Are you trying to find, is it just important that you find the one or two good ones? Or is it important that you really avoid the one or two bad ones? And investing in the stock market, again, is a positive art. Which means that it is completely normal in every, no matter how you're investing, if you're an index fund investor, if you're a stock picker, if you're a trader, whatever it is, that you're gonna make the majority of your lifetime returns from a small minority of the stocks that you pick.

Even in an index fund. I mean, the stuff that's pretty incredible is that in a 40-year period, from 1980 to 2020, the Russell 3000 Index, which is an index of large stocks in the United States, of 3,000 companies in the United States, 40% of the components in the Russell 3000 effectively went out of business over this 40-year period.

40% of the components. But the index itself had average annual returns of like 11% per year. Like, the index did really well. But 40% of the companies in the index went out of business. And that's in an index fund. That's not like a crazy stock picking strategy. Even in an index fund, like almost half of the companies that you invest in won't make it.

And that's fine. That's totally normal. There's nothing wrong with that. And the other example I've used in the book is Benjamin Graham himself was a very successful fund manager over the course of his life. But 100%, and he writes about this. He was open about this. 100% of his career success is owed to one investment that he made, Geico.

If you take his career track record and remove Geico, his track record is completely average. And Buffett has talked about this as well too for Berkshire Hathaway. If you take out the top five or 10 investments they've ever made, Berkshire's track record is average. And so that's how successful investing works.

No matter what your strategy is, you don't need to be right all the time. You just have to be right some of the time. And I think a big part of this is if you invert that is that good investing is not about consistently making great decisions, because nobody does.

It's about consistently not screwing up so much that you're kind of pushed out of the game. Like it's consistently making sure that you don't make these catastrophic blunders that are gonna ruin everything. But if you could stick around long enough and make enough bets or just have enough annual returns under your belt, you're probably gonna do well over time.

Even if you're gonna experience not just some, but a significant amount of underperformance and loss during that period. And one of the way to think about this was a study from Morningstar a couple years ago that looked at the best performing mutual funds of all time. These are just cherry picking with hindsight what mutual funds had the best returns over like a 30 year period.

And the common denominator of the top three funds, I forget what the funds were, but the common denominator that they shared is that they spent almost 40% of the time of their life underperforming their benchmark. So these are cherry picking with hindsight the best funds. And if you actually own these funds, almost half the time you are underperforming your benchmark.

So it's not easy for people to wrap their heads around that, that tails drive everything. That it's just the kind of the tail ends of the bets that you make and the years that you're around that are gonna drive everything. But that's how markets work over time, whether it's for stock picking or just long-term index investing.

- Yeah, the two takeaways for me is, if you're picking something that has the long-term nature of underperforming 40% of the time, you need to be long-term in the way you pick it and take a bet that can pay off over time. And you talk about compounding. And I think it's something that, as much as it's been drilled in our heads our whole lives, it's something that you still need to kind of recognize.

And then the second is that you need to make multiple bets. I hear this in Silicon Valley a lot when people say, I wanna start angel investing. And everyone says, okay, well, if you wanna do that, you need to one, make enough bets that you might find something that succeeds.

And that hit rate is so low that you need to have enough money to make 20, 30 bets. But you also need to have so much money that angel investing isn't your whole portfolio because you might not get those lucky. You might not. And so I think when you can take the approach of lots of things for a long time, that's great.

But taking the approach of, I'm gonna pick one stock and try to make money this year, I think it gets risky. And I feel like we've kind of gamified that in recent past. - I feel like for all investing, what you're trying to do is just put the odds of success in your favor.

And the way that you're gonna do that in a world where tails drive everything, the way to put the odds of success in your favor is to be, yeah, to be taking a lot of bets and to be sticking around for a long period of time. The more bets you have, the longer you're sticking around, the higher the odds that you're gonna end up owning the great companies and you'll be around during the years that they achieve all of their returns.

And you're gonna spend a lot of time where those companies aren't performing, the market isn't performing, but if you stick around long enough and if you have enough bets, the odds fall firmly in your favor. - Yeah, one framework that a really good friend of mine gave me, because inevitably you're gonna make a bad decision when it comes to your money.

He always asked me, he's like, "Hey, but wait, I know you're beating yourself up for making the wrong investment or doing the wrong thing, but did you make the right decision with the information you had at the time?" And in one example, it was, "I wanna make this thing a higher percentage of my portfolio.

And I chose a day to do that where the next day it dropped significantly." And he goes, "Yeah, but at the time, was that part of your strategy?" I was like, "Yes." - Well, then you made the right decision and beat yourself up when you make bad decisions with information, but don't beat yourself up when you make the right decision, but it goes wrong.

- Yeah, completely. I mean, we only know one version of history, the version that happened. And if we're just looking at a short period of time over the last 12 or 16 months, we know the version of history that happened, which was the government came out with trillions of dollars of stimulus packages.

We created incredible vaccines that were distributed very quickly and et cetera, et cetera. That's the history that we know, but it could have been so much different. It could have been that Washington had a bunch of partisan squabbles and there was no stimulus package. We didn't make vaccines. You could easily imagine a world where economically and health wise, the world completely collapsed last year.

You could easily imagine that occurring. And if that world occurred, then the people who sold their stocks last March would look like geniuses. And that world easily could have occurred. Just the fact that it didn't, doesn't mean that we should ignore the fact that it easily could have. That's true for, I think, 2008 as well.

You can so easily imagine a world where after Lehman Brothers collapsed, Merrill Lynch and then AIG and then Citigroup and then Bank of America all collapsed as well. And in that world, which so easily could have happened, we probably would have been looking at the second version of the Great Depression.

That didn't happen, but it so easily could have. So I think, just to your point, when people make a decision with the information that they have at their time, based off of the consequences of what might happen in these situations in the future, I think it's easy to beat yourself up because all we have now is the version of history that happened.

But I think it's really important. And I think the smartest thinkers are totally comfortable looking at the histories that easily could have happened and how they prepared for them, even if in hindsight, it looks like it wasn't the best decision. With the information that you had at the time, it may have actually been a great decision.

- Yeah, I mean, you wrote in the book that the most important economic events of the future, things that move the needle the most, are things that history gives us no guide about. They're unprecedented, like what we saw last year. Knowing that, how do we use history as a guide for what to expect?

You know, we always have the disclosure past performance does not reflect future gains, but so much of investing is, well, the stock market generally goes up, so we should invest in it. - Jason Zweig is a great writer from the Wall Street Journal. He made this point one time that it's not that investors don't learn from history, it's that they learn too precise a lesson from history.

So his example was after the dot-com bust, the lesson that people learned was when the P/E ratio exceeds 30, the market is too expensive. That's a lesson that people took away. But the actual lesson from the 1990s was overconfidence leads to trouble. So people learn, they just learn a very over, they just learn a very precise lesson.

And since they learned a precise lesson, what they should have learned was overconfidence leads to trouble, but they didn't learn that lesson, so they took their money and they went and started flipping condos in Miami, or whatever it was. So when you learn, when you look at history, and you learn really precise lessons, they're not gonna teach you much about the future.

Because like you said, the biggest events that's gonna shape the rest of our lives are surprises that you and I or no one else can be talking about today. So to me, the way to learn from history is looking back and taking the biggest, broadest, 30,000 foot level views and takeaways about human behavior.

About how people respond around risk and greed and fear and overconfidence and surprises. Like how do people behave around those events? Not the very specific, granular takeaways. I mean like, if you were to look at the last 12 or 16 months, you can have a lot of specific takeaways about supply chains and we should have had more N95 masks.

The CDC should have had better preparedness, et cetera. Those are like really specific takeaways. And depending on what your job is, those might be good takeaways. But for most people, the most important lesson in the last 16 months is, there are things that can happen in the world that you're never thinking about that can completely upend all of your assumptions about the future.

Whenever you're surprised in a situation like we all have been in the last 16 months, the best takeaway is that the world is surprising. It's not to look at what happened and saying, how can we make sure this never happens again? It's looking at the situation and saying, a surprise is going to happen again.

And I think once you do that, then financially, it pushes you much more towards having room for error in your finances. If I knew all the risks in the future, I would be able to plan around that really effectively. I would know that in 2023, there's going to be a recession that starts in February.

So I'm going to have this cash set aside for that. But nobody knows that. And once you realize that we don't know what the future holds, it makes you much more comfortable being like, I have this big chunk of cash sitting here and I don't know what it's for.

I don't know what I'm going to need it for. I don't know what I'm going to use it for, but I'm confident that at some point in the future, the world is going to break in some way that I can't forecast or predict right now, but the world's going to break in some way and I'll be glad it's there.

Once you become just a little bit more open and flexible with that room for error in your finances, I think that's the only way that you can navigate a world where risk is what we don't see. - You started this whole conversation off saying that the basics of finance, the models, the formulas are what we teach in school 'cause it's way harder to teach all of this stuff.

And you just mentioned like a lot of the history, you have to interpret it differently, which makes me question, is there a path towards educating people more about this earlier? Should this stuff be in schools? Should this stuff be in colleges? How do we help people learn these lessons or at least start to understand these concepts that aren't just formulas earlier and more broadly so that people don't make as many mistakes and are better off?

- There's a German professor named Gerhard Geigerenser who kind of teaches the science of risk. And he made this point that in school, we pretty much only teach the math of certainty. We teach algebra and trigonometry, which are maths of certainty, like gives you very precise answers. And instead, what we should be teaching more of is the math of uncertainty, like probability and statistics.

And that is taught in school, but it's secondary to the math of certainty. Like the kind of math that teaches you precise answers is that's the first priority. And then if maybe in college, you can take a course on probability, but that's secondary. He was saying like, that should be flipped.

We should be teaching kindergartners and then second graders about probability because that's the math that really matters in the world. And you're gonna use on a daily basis. Algebra is important, but you're not gonna use algebra on a daily basis unless you have some job, you're a math professor or something.

99% of people will not use algebra on a daily basis, but 100% of people will use probability on a daily basis. They might not know it. They're not actually doing the math, but probability impacts every hour of your life. And the decisions that you make in life rely on understanding how probability works.

And we rarely teach it. It's a math of uncertainty. This gets back to what I was saying earlier about what's taught in school is what's easy to teach. And certainty is easy to teach 'cause you come up with a formula that gives you the right answer. Probability where it's like, there's all these unknown worlds.

And by definition, it's like, we don't necessarily know what's gonna happen. Those are harder to teach or harder to wrap your heads around, but they're what really matter in the world. So if I were king for a day, so to speak, I think I would probably follow Gerrit Geiger Enser's advice and say, flip it around.

We should start with the math of uncertainty that really makes a difference in your life. And as you get older and more specialized, then maybe we can talk about calculus and algebra. - And since neither of us are king for a day to make this change, are there ways that you think someone with kids that are in school right now could start to help them learn these lessons?

- I think if we're just talking about investing, if you start investing and you own a couple of stocks, you own a couple of index funds, and you do it for a couple of years, you'll learn a lot about risk just through experience. You're gonna experience the market going way up, the market going way down, and that will teach you a lot just by learning.

You're in the trenches getting your hands dirty. I think that's the best way I would say to teach people about risk and uncertainty is just being thrown in. Now, a lot of investors who started investing in the last year, all they've experienced is the market going not just up, but way up.

Like, that's what they know. So the last year of experience has not been a very good lesson because you're not really getting the full side of risk. You've only learned half the equation. You really gotta be investing for a couple years through a couple of cycles before you're like, "Okay, I get it." And then you start viewing the bull markets as like, "Hey, this is cool, but this isn't gonna last, "and a lot of this is gonna unwind, "and it's gonna hurt a lot when it does, "but I'm okay with that 'cause I've been, "I've lived through this before." I think that's really the only way to do it is with your own money, your own skin in the game, getting your hands dirty.

- I totally agree here. I wouldn't advocate for what I'll propose to be any significant portion of your money, but a conversation I had with a friend, an investor last week was about cryptocurrency, and he pointed out that one of the most fascinating lessons about cryptocurrency that he's seen is that there's such extreme volatility, right?

You could go up and down 50% almost in a day, that it's taught him more about market crashes and bull markets in the shortest amount of time possible. And it made me think, "Gosh, I don't think people "should put all of their money in cryptocurrency "by any stretch of the means, and that's not the advice." But if you want to learn through investing, it could be a way to accelerate your learning because it has just such extreme volatility.

- I totally buy that, 100%. I mean, I'm in the same boat as you in terms of recommending crypto, but I absolutely buy that argument, 100%. - Well, before we wrap, we've talked a lot about money and risk. Are there any main takeaways that you think people should leave this conversation with?

- To me, the biggest thing that I think is the most important part of behavioral finance, and is maybe the one of the most overlooked, is that in order to do well, you have to become introspective about who you are, and realize that you're different from me, and we're all different.

And the only way that you can really understand and master the behavioral side of finance is just really taking a look at who you are personally, not reading about other people or other people's situations, but just being honest with yourself about your own skills, your own weaknesses, your own risk tolerance, your own goals in life.

And that's different for everyone, and that's why a lot of people don't, like most people want one answer, like what's the right thing to do? And when you become introspective about who you are and realize that everyone's different, you realize that people come to different conclusions. And what's the right decision for you, Chris, might be the wrong decision for me.

Even if we're roughly the same age, people come to different things. So I would just implore people to spend a little bit more time looking at themselves in the mirror and try to figure out who they are and what their risks and goals are. - That makes total sense.

And I'd like to end all these conversations. This is a show called All The Hacks, and today I would say it's a little different than some where it wasn't kind of running through very tactical things you can do, but really reframing psychology and money as something that if you can really start to understand how things work, you could probably hack your mind to start to be a more rational, or at least a more reasonable, as you say, investor and more reasonable with money.

But I will ask, are there a few kind of like life hacks or in any genre for you that are things that you do that people have often commented are fascinating or interesting that you'd want to share? - I'll leave you with one financial hack that might disappoint you, but it's the only hack that works and it works incredibly well in finance.

You want to do well in finance, spend less money than you make and be patient. That's 90% of what finance is. If you can actually do those, you have a black belt in finance. It's the only hack that I think really truly works in a way that moves the needle.

- Yeah, I don't disagree. Thank you so much for being here. Where can people find out more about what you're writing and everything you do? - My book is The Psychology of Money, and I spend most of my time on Twitter. My handle is @MorganHausel, first and last name.

That's where most of my stuff is posted. - Cool, thank you so much for being here. This was great. - This was fun, thanks very much. (upbeat music) - I really hope you enjoyed this episode. Whether it was the first time you heard it or not, Morgan is a wealth of information.

And if you want to check out more, his book and blog are both fantastic. Like I said, if you have any feedback on this episode, especially around the idea of re-airing some of the best episodes from the past, please let me know, podcast@allthehacks.com or message me anywhere else online.

That's it for this week. See you next week. (upbeat music) (electricity buzzing) (birds chirping)