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Synopsis

How should investors manage the inevitabilities of risk? What are the most powerful wealth-building tools that require little technical skill? How do our brains hold us back from a more prosperous future?

In The Psychology of Money, investor and finance journalist Morgan Housel answers these questions and shares how human thought, habits, and emotions are intertwined with investment. He shares insights and strategies for how investors can leverage these connections for personal gain — not only financial but personal and emotional as well.

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The psychology of money can greatly affect our spending habits. It influences how we perceive value and risk, which in turn affects our decisions about where, when, and how much to spend. For example, some people may be more inclined to spend money on experiences rather than material goods because they value the memories and emotions associated with those experiences. Others may be more risk-averse and choose to save or invest their money rather than spend it. These decisions are often driven by our personal beliefs and emotions about money, which are shaped by our individual experiences and societal influences.

Some other strategies for personal gain in investing include diversification of portfolio, investing in what you understand, staying patient and not making hasty decisions based on market fluctuations, and regularly reviewing and adjusting your investment strategy based on your financial goals and market conditions.

The psychology of money can be used to our advantage in investing by understanding our own biases and emotions that can impact our investment decisions. This includes understanding our risk tolerance, being aware of the impact of fear and greed on our decisions, and being patient and disciplined in our investment approach. It also involves recognizing the role of luck and chance in investing, and not attributing our success or failure solely to our skills or knowledge.

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Top 20 insights

  1. Someone's personal experiences make up only a small portion of what happens, but it makes up most of how that person thinks the world works. In theory, financial decisions should be driven by an investor's goals and the characteristics of investment options available to them. Economists from the National Bureau of Economic Research found that instead, investment decisions are anchored by early adulthood experiences. They found that investors tend to weigh more heavily the experience of the economy when they were young than what the economy is like now.
  2. Both luck and risk are often the factors that determine success and failure. Because they are hard to measure, they are often discounted. Some of Bill Gate's success can be attributed to hard work and good decisions. Some of it can also be attributed to his going to a high school with a computer. This was a roughly 1 in 1 million chance in the '60s. To account for risk and luck in decisions, an investor should: 1) Avoid idolization of specific investors when it cannot be known how much luck or risk influenced their success. 2) Focus less on specific individuals and case studies and more on broad patterns.
  3. There is never a reason to risk what you have and need for what you don't have and don't need. Social comparison often causes investors to look up to whoever has more than them and become so convinced that they need to have what they have that they take unnecessary risks that cause them to lose. If someone has enough to cover everything they need, they can avoid unnecessary risks by keeping four things in mind: 1) The hardest financial skill is to get the goalpost to stop moving. 2) Social comparison is the problem that causes unnecessary risk. 3) ""Enough"" is not too little. 4) Decide what is never worth risking.
  4. The key to good investing is not to earn the highest returns; it is to earn pretty good returns consistently. The powerful nature of compounding interest is counterintuitive but is the backbone of investment. Warren Buffett has managed to achieve an average annual return of 22% throughout his career. On the other hand, James Simons of Renaissance Technologies has achieved an incredible 66% per year. Yet, Buffett is 75% wealthier than Simons because he has invested for forty years younger than Simons. More than 97% of Warren Buffett's wealth has been accumulated after the age of 65.
  5. Getting wealthy and staying wealthy are two different skills. Getting wealthy requires risks and being optimistic. Staying wealthy requires caution and paranoia. 40% of companies successful enough to become publicly traded lose all of their value over time. The Forbes 400 list has, on average, a 20% turnover rate per decade. To avoid these fates, investors should: 1) Prioritize being financially unbreakable over bigger returns. 2) Build the possible (and likely) failure of any plan into your plans. 3) Develop a personality that is optimistic yet paranoid.
  6. Most investments either fail or break even. The vast majority of your success is determined by a small number of big winners – ""tail events."" In the Russell 3000 Index, 40% of companies lost at least 75% of their value. Effectively all of the Index's returns were driven by only 7% of companies that outperformed the average by at least two standard deviations. In VC investing, approximately 65% of companies lose money, 2.5% return 10-20x their investment, 1% return >20x their investment, 0.5% return 50x their investment. The majority of VC returns come from the last category. To allow enough time to take advantage of tail events: 1) Don't panic in a crisis and sell prematurely. 2) Be a consistent investor. 3) Take advantage of a wide range of investments.
  7. If the goal is happiness, then a person should structure their wealth to maximize their control over their own time. In 1981 psychologist Angus Campbell studied what made people happy. He found that most people were happier than most psychologists assumed but could not be grouped by income, geography, or education. He found that the most influential factor was whether people felt they had control of their own time. Money can contribute to giving people control of their own time, but it is not a guarantee.
  8. Wealth is the money that is not spent. But to accumulate wealth, people must accept that being wealthy and looking wealthy are different things. In 2009 Rihanna nearly went bankrupt after she lost 82% of her wealth in a year. She sued her financial advisor for gross mismanagement, who responded, ""was it really necessary to tell her that if you spend money on things you'll end up with the things and not the money?"" People tend to imagine wealth as what you can buy with wealth. That is the opposite of wealth.
  9. Building wealth is less about income or investment return and more about savings rate. In the 1970's it appeared that the world was going to run out of oil. The rate of oil consumption was increasing faster than the rate of oil production. But those predictions did not account for the new efficiency technology would create. The US now uses 65% less energy per dollar of GDP than in 1950. Saving is like that oil. It is easier and more effective to use the already available wealth more efficiently than to find new sources of wealth.
  10. It's more important to have flexibility. One hundred years ago, 75% of people had neither a telephone nor regular mail. The only real competition that most people had were the people in their immediate surroundings. Now, the entire world is competition, and it is increasingly hard to compete. Each year almost 600 people get a perfect score on the SAT, and 7,000 come within a few points. In the past, each of these people would be unrivaled in their immediate area. Now they are competing against each other. As it becomes harder and harder to compete, it becomes more and more important to save because savings provide flexibility and time to wait for good opportunities both in a career and in investments.
  11. If being reasonable is easier to maintain than being coldly rational, that should be done because anything that helps keep an investor in the game long enough to benefit from tail events will have a quantifiable advantage. In 2008 a pair of researchers at Yale created a retirement strategy whereby investing using a two-to-one margin when buying stocks investors could increase their retirement savings by 90%. However, this strategy also makes it easy to lose everything when you're young and expects you to pick up from that and keep going so that it works. It's entirely rational, but no reasonable person would behave like that. It's hard to be rational. It's easier to be reasonable.
  12. One good way to stay in the game long enough to benefit from tail events is for investors to have an emotional connection to their investments. Many investors pride themselves on a lack of emotion, but with no love of the investments, they've made it easy to panic in a downturn and sell too early. If investors invest in something they love, they will be more willing to ride out turbulence and stay in the game longer.
  13. History is a poor guide to investing because it tricks investors to think that the future will be like the past. Things that have never happened before happen all the time. The future is rarely like the past, and if investors forget, they will miss the unprecedented events that have the most significant effect on the future. To avoid this, when looking at history, look for patterns and generalities instead of discrete events. The further back history goes, the more general conclusions should become.
  14. No one can know everything that is going to happen, so they have to invest safely enough to experience tail events. When people are asked about other people's home renovation projects, they predict that they will run, on average, between 25% and 50% over budget. But when they're asked about their own, they usually predict they will come in at budget. Over time, the stock market returns an average of 6.8% per year, but it does go down, and what if that happens at a critical time? Investors need to build a margin of error into all of their plans to be prepared for these eventualities and ensure they are not wiped out.
  15. Therefore, long-term financial plans should have the potential for change built into them. Only 27% of college graduates work in a field related to their degree. 29% of stay-at-home parents have a college degree. Research shows that from age 18 to 68, people underestimate how much they and their goals will change and that makes long-term financial planning hard. To plan for this change: 1) Avoid the extreme ends of planning. 2) Reject the sunk cost fallacy.
  16. Most investors who try to game the system see it come back to bite them. Morningstar studied 112 tactical mutual funds from 2010-2011, which tried to beat market returns and compared them to simple 60/40 stock-bond mutual funds. They found that ""with few exceptions, [tactical funds] gained less, were more volatile and were subject to just as much downside risk."" Volatility, loss, uncertainty, and doubt are natural parts of investing. Investors have to accept that sometimes they will make a loss and not get out because of that.
  17. Bubbles form when the momentum of short-term returns attracts enough money that the makeup of investors shifts from mostly long-term to primarily short-term. From 2000 to 2004, the number of homes sold more than once in twelve months – that were flipped – rose from 20,000 to 100,000 per quarter. This, in turn, drove up the price of homes. Similarly, in the late '90s, day traders, to whom the cost of a stock was largely irrelevant as long as it went up in a day, drove up the price of most stocks. Cisco rose 300% in 1999 and Yahoo! rose to $500 in the same year.
  18. Bubbles, however, do their damage when long-term investors start taking their cues from short-term investors. In 1999, the average mutual fund had a 120% annual turnover, meaning that long-term investors were not investing for the long term. Different investors have different goals, and one of the biggest financial mistakes that can be made is to take advice or cues from investors who have different goals from you.
  19. Bad news will get more coverage but identification of the places with potential can be massive. In 1889 the Detroit Free Press wrote that flying machines ""appear impossible."" Four years later, the Wright Brothers flew the first airplane. Even then, most wrote it off. It wasn't until World War I, which began in 1914, that airplanes began to get regular use. The first major coverage of an airplane in the media, however, was a crash in 1908. Progress tends to happen too slowly to notice, but setbacks happen too quickly to ignore.
  20. Predictors of the future tend to extrapolate current trends into the future, but they rarely do, or can, account for how markets will adapt. In 2008 it was written that by 2030 China would need 98 million barrels of oil per day, but that only 85 million barrels were produced worldwide and not much more was likely ever to be produced. However, growing demand drove up the price of oil, which made it profitable for the first time to tap harder-to-get-to oil reserves, driving up production well above what was needed. In 1985 the journal ""nature"" predicted that by 2000 women would consistently run faster marathons than men. They figured this because the average marathon times of professional female runners were increasing faster than that of males. However, if you extrapolated those numbers at that rate indefinitely into the future, women would quickly run faster than 1,000 miles per hour.
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Bill Gates is a prime example of a successful person whose success can be attributed to risk. Part of his success can be attributed to his decision to attend a high school with a computer, which was a roughly 1 in 1 million chance in the '60s.

There are several ways to account for risk in investment decisions. First, diversification is key. By spreading investments across a variety of assets, you can mitigate the risk associated with any one investment. Second, understanding and analyzing the risk-reward trade-off is crucial. Higher risk investments often come with the potential for higher returns, but also higher potential for loss. Third, using financial tools and models, such as the Capital Asset Pricing Model (CAPM), can help quantify risk and incorporate it into investment decisions. Finally, staying informed about market trends and economic indicators can help anticipate and manage risk.

There are several ways to account for luck in investment decisions. Firstly, it's important to understand that luck can play a significant role in investment outcomes, and it's not always about making the 'right' decisions. Secondly, diversification can help to mitigate the impact of luck. By spreading investments across a variety of assets, you can reduce the risk of a single unlucky event causing significant damage to your portfolio. Thirdly, it's important to have a long-term perspective. While luck can have a big impact in the short term, its influence tends to diminish over longer time periods as the effects of skill and strategy become more pronounced.

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Summary

Morgan Housel is a partner at the Collaborative Fund and a former columnist at The Wall Street Journal and The Motley Fool. His work has been focused on the exploration of how investors deal with risk and how to handle it in more productive ways.

Confounding compounding

During the 1800s, scientists came to the consensus that the Earth had experienced a number of ice ages in which large parts of the planet had been covered in ice sheets. During the last glacial maximum, the location of what is now Boston had more than a full kilometer of ice above it. Toronto had two kilometers. Montréal had more than three. The southernmost edges of the North American ice sheet were in northern Kentucky and West Virginia.

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The ice ages had significant effects on the Earth's atmospheric conditions. They led to a decrease in the Earth's temperature, causing a drop in sea levels as water was locked up in glaciers and ice sheets. This also led to changes in the distribution of plants and animals, with many species moving to warmer areas. Additionally, the ice ages affected the composition of the atmosphere, with lower levels of carbon dioxide during glacial periods.

The ice ages had significant impacts on the Earth's water systems. They led to the formation of many of today's geographical features, including valleys, mountains, and lakes. The weight of the ice sheets also depressed the Earth's crust, causing changes in the flow of rivers and the formation of new water bodies. Additionally, the melting of ice sheets contributed to sea level rise, altering the coastline and leading to the creation of new islands and peninsulas. The ice ages also affected ocean currents, which in turn influenced climate patterns.

The ice ages had significant effects on the Earth's ecosystems. They led to the formation of new landscapes as glaciers carved out valleys and mountains. The weight of the ice also depressed the Earth's crust, causing changes in sea levels. Furthermore, the ice ages led to shifts in the distribution of plants and animals, as species had to adapt to colder temperatures and changing habitats. Some species went extinct, while others evolved new traits to survive. The ice ages also affected human evolution and migration patterns.

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It was unknown, however, what caused these ice sheets to form. Each theory could explain one or two instances, but not all of them. That is, until Russian meteorologist Wladimir Köppen made an unexpected discovery. The cause, Köppen discovered, was not especially cold winters but slightly colder summers.

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Global warming influences a variety of meteorological phenomena. These include increased frequency and intensity of extreme weather events such as storms, hurricanes, and heatwaves. It also leads to changes in precipitation patterns, causing increased rainfall in some areas and droughts in others. Furthermore, global warming affects the distribution and intensity of tropical cyclones, and it can lead to the melting of polar ice caps and glaciers, causing sea levels to rise.

Climate change influences a variety of meteorological phenomena. These include temperature changes, precipitation patterns, storm intensity, wind patterns, and sea level rise. It can also lead to more frequent and severe weather events such as hurricanes, droughts, heatwaves, and heavy rainfall events.

Temperature changes can influence a variety of meteorological phenomena including wind patterns, precipitation levels, humidity, atmospheric pressure, and the formation and movement of clouds and storm systems.

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Each winter, snow would be left behind, but the slightly colder summer meant that a small amount of it would survive to the next. Over time, more and more snow piled on top of what had survived in years before and covered more and more of the ground in permanent snow. Each summer, the leftover snow would increase the chances of more remaining, and the new snow cover would reflect more sunlight, cooling the ground and causing more to remain the following year. Eventually, this became ice sheets thousands of meters thick.

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A traditional sector company can apply the innovative approaches discussed in The Psychology of Money by understanding and managing the inevitabilities of risk, utilizing powerful wealth-building tools that require little technical skill, and overcoming cognitive biases that hold back prosperity. The company can also learn to adapt to changing circumstances, much like how snow accumulates over time, reflecting more sunlight, cooling the ground, and causing more to remain the following year. This metaphor can be applied to business in terms of gradual growth and adaptation.

'The Psychology of Money' relates to contemporary debates around investment and wealth management by addressing the psychological aspects of financial decision-making. It discusses how investors manage risk, the most effective wealth-building tools that require minimal technical skill, and how our mental biases can hinder our financial prosperity. The book emphasizes the importance of understanding one's own behavior and psychological biases when making investment decisions, which is a topic of ongoing debate in the field of wealth management.

Small businesses can leverage the wealth-building strategies discussed in The Psychology of Money by understanding and managing risks, utilizing powerful wealth-building tools that require little technical skill, and overcoming cognitive biases that may hinder financial prosperity. These strategies can be applied in various aspects of business such as investment decisions, financial management, and strategic planning.

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It feels counterintuitive that such small change can have such massive results, but it is the same operating principle behind compounding returns. If something, like ice or money, compounds and a little bit of progress builds more progress, that small progress can have tremendous results. The number one rule of investing is that you don't need massive returns. You need on average ok returns that can compound for long periods.

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The Psychology of Money presents several innovative ideas. One of the most surprising is the concept of compounding returns, where small, consistent progress can lead to significant results over time. This principle applies not just to financial investments, but to many aspects of life. Another innovative idea is the psychological aspect of money management. The book suggests that our brains often hold us back from making sound financial decisions due to biases and irrational behavior. It emphasizes the importance of understanding these psychological pitfalls to build wealth effectively.

Investors might face several obstacles when applying the concept of compounding returns. One of the main challenges is the need for patience, as compounding requires time to produce significant results. Another obstacle is the temptation to chase after high returns, which can lead to risky investments and potential losses. Additionally, investors may struggle with maintaining consistent contributions to their investments. To overcome these obstacles, investors should focus on long-term goals, avoid risky investments, and make regular contributions to their investments.

Compounding returns, as explained in 'The Psychology of Money', is a principle where a small amount of progress or growth can lead to significant results over time. It's like a snowball effect; a small amount of money or progress, when compounded, can grow exponentially. The key is not to seek massive returns in a short period, but rather to aim for average returns that can compound over a long period. This is because the power of compounding works best when it has time to multiply the returns.

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Tails, you win

In 1936 Heinz Berggruen fled Nazi Germany. In his new life in America, he would become an art dealer until, in 2000, he sold the core of his massive collection to the German government. This sale, which would go on to make up the core of the Berggruen Museum in Berlin, included 85 works by Picasso and 80 other pieces of art by artists like Klee, Braque, Matisse, and Giacometti. The 165 pieces were valued at over $1 billion.

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A company in a traditional sector like manufacturing or retail can apply the innovative approaches discussed in the story of Heinz Berggruen by being adaptable and open to change. Heinz Berggruen fled Nazi Germany and started a new life in America, becoming a successful art dealer. This shows his ability to adapt to new circumstances and thrive. Similarly, traditional companies can embrace change and adapt to new market conditions, technologies, and consumer behaviors. They can diversify their product or service offerings, explore new markets, and leverage technology to improve their operations and customer service. Additionally, Heinz Berggruen's decision to sell his art collection to the German government shows his strategic thinking. Traditional companies can also make strategic decisions to maximize their value, such as selling off non-core assets or entering into strategic partnerships.

The artists Picasso, Klee, Braque, Matisse, and Giacometti are significant in Heinz Berggruen's art collection as they represent some of the most influential figures in 20th-century art. Picasso, known for his pioneering role in developing Cubism, is a major highlight with 85 works in the collection. Klee, Braque, Matisse, and Giacometti also made substantial contributions to modern art, each with their unique styles and techniques. Their works in Berggruen's collection not only add immense value but also provide a comprehensive overview of the evolution of modern art.

Heinz Berggruen's strategy involved collecting valuable assets over time and then selling them when the time was right. A small business owner can apply this strategy by investing in valuable resources, such as skilled employees, technology, or other assets that can increase in value over time. When the time is right, these assets can be leveraged for growth, such as by selling a product or service, or even the business itself, for a significant profit.

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How did Berggruen acquire such an impressive collection of famous masterpieces? Luck? Skill? Horizon Research wrote that the secret was that Berggruen bought and sold thousands of pieces of art throughout his career. Most of them were probably of little value, but if a tiny percentage of those thousands turn out to be Picassos and Matisses, they can make up for all the ones that weren't. Most of Berggruen's investments could be bad, but he made enough of them that it didn't matter.

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1. Understand the role of luck and risk: Just as Berggruen acquired his art collection, success in business often involves a mix of skill and luck. Not every decision will lead to success, but taking calculated risks can lead to big rewards.

2. Patience is a competitive advantage: In the world of instant gratification, being able to delay gratification can lead to long-term success. This is true in investing, as well as in business.

3. Recognize the power of compounding: Small, consistent actions over time can lead to significant results. This applies to wealth creation, skill development, and business growth.

4. Be aware of your own biases: Our brains can often hold us back from making rational decisions. Being aware of these biases can help us make better decisions in business and investing.

The themes of "The Psychology of Money" are highly relevant to contemporary issues and debates in finance. The book addresses key topics such as risk management, wealth-building strategies, and the psychological barriers to financial success. These themes are timeless and universal, making them applicable to both current and future financial landscapes. The book's insights into human behavior and decision-making processes are particularly pertinent in today's complex and rapidly changing financial environment.

Startups can leverage the investment strategies covered in "The Psychology of Money" by understanding and managing risk, utilizing wealth-building tools that require little technical skill, and overcoming cognitive biases that may hinder financial prosperity. They can apply the principle of diversification, as illustrated by Berggruen's art collection, by investing in a wide range of opportunities. While some may fail, others may succeed and compensate for the losses. This approach can help startups manage risk and potentially achieve significant returns.

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The reality is most companies and most investments lose money or break even, but a few are big winners. Those big winners are the ones that create value. In 2018 Amazon single-handedly drove 6% of the S&P 500's returns, and Apple drove another 7%. If you owned an S&P 500 index fund in that year, almost 1/7th of your returns came from just two companies. If the number one rule of investing is compounding returns, then the number two rule has to be those tail events create the returns that get compounded.

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The themes of "The Psychology of Money" are highly relevant to contemporary investment issues and debates. The book discusses the importance of understanding the psychological aspects of money management, such as risk tolerance, emotional resilience, and long-term thinking, which are crucial in today's volatile investment environment. It also emphasizes the significance of compounding returns and the impact of a few big winners on overall investment returns, which are key considerations in modern investment strategies.

The lessons from "The Psychology of Money" can be applied in today's investment environment in several ways. Firstly, understanding that most investments lose money or break even, but a few are big winners, can help investors manage risk and set realistic expectations. Secondly, recognizing that our brains can hold us back from a more prosperous future can encourage investors to challenge their biases and make more rational decisions. Lastly, appreciating the power of compounding returns and the impact of tail events can guide investment strategies.

A traditional retail company can apply the investment approaches discussed in 'The Psychology of Money' by focusing on value creation and understanding the power of compounding returns. They can invest in areas that have the potential for high returns, even if they are few. They should also be aware of the inevitabilities of risk and manage them appropriately. It's important to note that big winners are often those that create value, as seen with Amazon and Apple driving significant portions of the S&P 500's returns. Therefore, retail companies should strive to create value in their offerings and operations to achieve substantial returns.

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Good investors will cast a sufficiently large net that they are sure to have some tails in it. They won't panic at one bad year, one bad earnings report, or one lousy product and sell before they have a chance to find those magic returns. They'll accept that most of their decisions will not be big winners but that if they make enough, they'll find ones that are.

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The concept of 'casting a large net' in the context of investing, as explained in 'The Psychology of Money', refers to the strategy of diversifying investments. Instead of putting all your money into one or a few investments, you spread it across a wide range of options. This approach ensures that you have some 'tails' or successful investments in your portfolio. The idea is to accept that not all investments will yield high returns, but by making enough diverse investments, you increase your chances of finding those that do.

Companies might face several obstacles when applying the concepts from The Psychology of Money. One potential obstacle could be the inherent risk aversion in the company's culture. Overcoming this requires fostering a culture that understands and accepts the inevitabilities of risk. Another obstacle could be the lack of patience and long-term perspective. Companies need to understand that wealth-building is a slow process and requires patience. They should not panic at one bad year or one bad earnings report and sell before they have a chance to find those magic returns. Lastly, companies might struggle with the concept that most of their decisions will not be big winners. They need to accept this and understand that if they make enough decisions, they'll find ones that are.

'The Psychology of Money' challenges existing paradigms in the field of investment by emphasizing the importance of understanding the psychological aspects of money management. It suggests that success in investment is not just about technical skills or knowledge, but also about managing one's own behavior and emotions. It argues that good investors are those who can manage risk, remain patient, and avoid panic selling. This perspective challenges the traditional focus on technical analysis and market prediction in investment practices.

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Room for error

There has never been a battle larger than that for the city of Stalingrad during World War II. Having lasted almost half a year, that single battle saw more casualties than the total military dead of the United States, Great Britain, Italy, France, and Yugoslavia combined. In 1942 a unit of 104 German tanks was outside of the city in reserve. But when it was needed most, its officers were shocked to discover that only twenty of their tanks were operational.

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The key takeaways from The Psychology of Money that are actionable for entrepreneurs or managers are:

1. Understand the role of luck and risk in financial success. Not all success is due to hard work, and not all failure is due to lack of effort.

2. Recognize the power of compounding. Small, consistent actions over time can lead to significant results.

3. Be aware of the psychological traps that can hinder financial success, such as overconfidence, short-term focus, and the tendency to follow the herd.

4. Cultivate a long-term perspective. Patience and discipline are key to wealth-building.

5. Make decisions based on your own needs and goals, not on what others are doing or saying.

The Psychology of Money by Morgan Housel explores various concepts and strategies related to money management. One key concept is the understanding of risk. Housel suggests that investors should manage the inevitabilities of risk by acknowledging that it is an inherent part of investing. Another important strategy is the use of wealth-building tools that require little technical skill. This could refer to simple investment strategies like regular savings and compound interest. Lastly, Housel discusses the psychological barriers that often hold us back from a prosperous future, such as cognitive biases and emotional decision-making.

The themes in 'The Psychology of Money' are highly relevant to contemporary financial issues. The book explores how our perceptions and attitudes towards money can impact our financial decisions and outcomes. It emphasizes the importance of understanding risk and reward, and how our biases can often lead to poor financial decisions. In today's complex financial landscape, these insights can help individuals and investors navigate challenges and make more informed decisions.

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Engineers investigated and soon discovered that during the weeks the tanks spent unused, outside the city to be called upon, field mice had nested inside of them and eaten the wires and insulation of the electrical systems the tanks needed to run their engines.

These tanks were not poorly designed. Many have made the argument that German armored units were so well engineered that they were impractically expensive. But no engineer would think to plan for a 20-gram field mouse to disable a 25-ton steel machine. It wasn't the engineer's responsibility to plan for freak events like field mice. It was the commander's responsibility to plan that they may not be able to use those tanks for some reason.

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Yes, there are examples of investors who have successfully planned for "freak events". One notable example is the 2008 financial crisis. Many investors were caught off guard by the severity of the crisis, but some, like John Paulson, were able to anticipate the collapse of the housing market and profited immensely from it. This is often referred to as "black swan" investing, where investors prepare for unlikely but high-impact events. However, it's important to note that predicting such events with accuracy is extremely difficult and not a reliable strategy for most investors.

The story of the German tanks challenges traditional thinking about risk management in investment by highlighting the importance of planning for unforeseen and unpredictable events. In the context of the tanks, no engineer would think to plan for a small field mouse disabling a large, well-engineered machine. Similarly, in investment, it's not always possible to predict every risk or event that could impact an investment. Therefore, it's crucial to have a risk management strategy that accounts for the possibility of unexpected events. This could involve diversifying investments, setting aside a contingency fund, or regularly reviewing and adjusting investment strategies.

Investors can learn the importance of planning for unexpected factors from the example of German armored units' vulnerability to field mice. Just as the commanders should have planned for the possibility of not being able to use the tanks due to unforeseen circumstances, investors should also plan for potential risks that could impact their investments. This could include market volatility, economic downturns, or changes in industry trends. It's crucial to have a risk management strategy in place to mitigate these potential impacts.

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Freak events happen all the time. Things that have never happened before happen all the time. Even when someone thinks that they have planned for every possibility, they haven't. That's why it's so essential that margin for error is built into every plan and strategy. Investors always need to account for the ever-present reality of risk in their investments. They should never bet everything on a single strategy. They should always maintain a reserve in case their investments go wrong. They should always be aware that the returns they expect may never materialize. Loss will always come eventually, risk will always appear. The job of a competent investor is to make sure that when that happens, it is not catastrophic.

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The book "The Psychology of Money" does not provide specific case studies or examples in the provided content. However, it emphasizes the importance of risk management in investing. It suggests that investors should always account for the ever-present reality of risk in their investments and never bet everything on a single strategy. They should maintain a reserve in case their investments go wrong and be aware that the returns they expect may never materialize. The broader implication for investors is to understand that loss will always come eventually and the job of a competent investor is to ensure that when that happens, it is not catastrophic.

A startup can use the risk management topics covered in The Psychology of Money to grow by incorporating the principles of risk management into their business strategy. This includes planning for every possibility and building a margin for error into every plan and strategy. They should not bet everything on a single strategy and should always maintain a reserve in case things go wrong. Understanding that loss will always come eventually and risk will always appear, they can ensure that when that happens, it is not catastrophic. This approach can help a startup to manage risks effectively, make informed decisions, and ultimately, achieve sustainable growth.

An investor in a traditional sector like real estate can apply the risk management approaches discussed in The Psychology of Money by always accounting for the reality of risk in their investments. They should not bet everything on a single strategy or property. Instead, they should diversify their portfolio to include different types of properties in various locations. They should also maintain a reserve or emergency fund to cover unexpected expenses or losses. It's also important to be aware that expected returns may not always materialize, so they should be prepared for potential losses. Lastly, they should always build a margin for error into their investment plans and strategies to ensure that any losses are not catastrophic.

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Save money

Margin for error is pretty hard to achieve without savings. Savings are a margin of error in a way, and building margin of error into a strategy – at least in investing – usually requires extra money (read: savings). Past a certain level of income, people fall into three groups.

Past a certain income level, people tend to fall into three groups: 1) Those who save. 2) Those who don't think they can save. 3) Those who don't think they need to save. Group one can stop. This isn't for them. But what should groups two and three understand?

First, wealth has more to do with your savings rate than your income and investments. Wealth is accumulated money. You need to save to get that. Secondly, the value of wealth is relative to what you need. It's a lot easier to use money more efficiently than find new sources of money. Thirdly, past a certain level of income, what you need is just what sits below your ego. Once comfortable basics are covered, everything after that is a want, and often those wants treat the display of money as more important than having money.

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Individuals might face several obstacles when applying the wealth-building strategies discussed in the book. These could include a lack of discipline in saving, the temptation to spend on wants rather than needs, and the influence of ego in financial decisions. Overcoming these obstacles requires a change in mindset. Individuals need to prioritize saving over spending, understand the difference between needs and wants, and keep their ego in check when making financial decisions.

The concepts in "The Psychology of Money" can be applied to improve personal financial habits in several ways. First, understanding that wealth is more about saving than income or investments can encourage better saving habits. Second, recognizing that the value of wealth is relative to what you need can help in making more efficient use of money. Lastly, realizing that beyond a certain income level, everything else is a want, not a need, can curb unnecessary spending and promote financial stability.

The Psychology of Money" suggests that ego plays a significant role in financial decisions, especially once basic needs are met. The book posits that beyond a certain income level, most financial decisions are driven by wants rather than needs. These wants often prioritize the display of wealth over the actual accumulation of it, indicating a significant influence of ego. The book encourages readers to understand this dynamic and make financial decisions that prioritize long-term wealth accumulation over short-term displays of wealth.

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Fourth, people's ability to save is more in their control than they might think. You can spend less if you desire less, and you can desire less if you don't care what others think. Fifth, there's no need to have a specific reason to save. Something that's going to need money is seldom going to be anticipated. Sixth, flexibility and control over your time is an unseen return on wealth. Savings give the ability to control your own time. Lastly, that return is more and more important. Being able to be flexible and control time makes it easier to compete in an increasingly competitive market.

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A manufacturing company can apply the wealth-building strategies discussed in The Psychology of Money in several ways. Firstly, they can focus on saving and controlling expenses, which is more in their control than they might think. This can be achieved by reducing waste, improving efficiency, and investing in cost-effective technologies. Secondly, they can build a financial buffer to handle unexpected expenses, as something that's going to need money is seldom anticipated. Thirdly, they can invest in flexibility and control over their time, which can be achieved by optimizing production schedules, improving supply chain management, and investing in employee training and development. This will give them an unseen return on wealth and make it easier to compete in an increasingly competitive market.

'The Psychology of Money' challenges traditional investment practices by emphasizing the importance of personal behavior and mindset over technical skills. It suggests that wealth-building is more about the ability to save and control one's desires rather than mastering the technicalities of investment. The book also highlights the importance of flexibility and control over time as an unseen return on wealth, which is often overlooked in traditional investment practices.

The lessons from "The Psychology of Money" can be applied in today's business environment in several ways. Firstly, understanding that people's ability to save is more in their control than they might think can help businesses manage their finances better. Secondly, realizing that there's no need to have a specific reason to save can encourage businesses to always have a financial buffer for unexpected expenses. Thirdly, recognizing that flexibility and control over time is an unseen return on wealth can help businesses prioritize time management and efficiency. Lastly, understanding that being able to be flexible and control time makes it easier to compete in an increasingly competitive market can help businesses stay competitive.

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Nothing's free

If someone wants a $30,000 car, they have three options. They can pay for it, they can find a different car, or they can steal it. Most people would not opt for the third option. They know that if they steal that car, it's not really free. It's just a different price. Investment returns are not free either. They all come with some kind of price.

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In the context of 'The Psychology of Money', the concept of 'price' in investment returns refers to the inherent risks and potential losses associated with investments. Just like the example of the car, where stealing it comes with a different kind of 'price' (legal consequences), investment returns are not free either. They come with their own 'price', which could be the risk of losing the invested capital, the stress and anxiety of market fluctuations, or the opportunity cost of other potential investments. This concept emphasizes the importance of understanding and managing these 'prices' to achieve successful investment outcomes.

1. Understand the price of investment returns: Every investment comes with a price, often in the form of risk. Investors should be aware of this and make decisions accordingly.

2. Manage risk: The book emphasizes the importance of managing risk in investments. This can be done by diversifying your portfolio and not putting all your eggs in one basket.

3. Use wealth-building tools: The book suggests that there are powerful wealth-building tools that require little technical skill. Investors should seek out and utilize these tools.

4. Overcome psychological barriers: Our brains can often hold us back from making sound financial decisions. Investors should be aware of these psychological barriers and work to overcome them.

A startup can leverage the insights from "The Psychology of Money" for growth in several ways. Firstly, understanding the concept of risk and reward can help in making informed investment decisions. Secondly, the book emphasizes the importance of saving and investing, which can be crucial for a startup's financial health. Lastly, the book sheds light on the psychological barriers that can hinder financial prosperity. By being aware of these, a startup can avoid common pitfalls and make better financial decisions.

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From 2002 to 2018 Netflix returned 35,000%. But the price of success for someone invested in Netflix through that time was high. Netflix traded below its previous all-time high on 94% of days during that period. Monster Beverage, similarly, returned 319,000% from 1995 to 2018, but traded below its previous all-time high on 95% of all days.

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Yes, there are other companies that have shown similar investment patterns to Netflix and Monster Beverage. For instance, Amazon and Apple have shown similar patterns. Amazon's stock has increased by over 100,000% since its IPO in 1997, despite experiencing significant drops in value at times. Similarly, Apple's stock has seen substantial growth since the 2000s, with periods of decline along the way. It's important to note that these patterns are not uncommon in the stock market, as companies often experience periods of growth and decline.

Investors might face several challenges when dealing with stocks that trade below their all-time high most of the time. One of the main challenges is the psychological stress and uncertainty associated with the constant fluctuations in the stock price. This can lead to impulsive decisions, such as selling the stock prematurely out of fear of further losses. Another challenge is the need for patience and long-term perspective. Stocks like Netflix and Monster Beverage may trade below their all-time high most of the time, but they have also shown significant overall returns over a longer period. Therefore, investors need to be able to withstand short-term losses and maintain their investment strategy.

The investment patterns of Netflix and Monster Beverage from 2002 to 2018 can be applied in today's business environment by understanding the concept of long-term investment and the acceptance of volatility. Both companies showed significant returns over the long term, but their stocks traded below their previous all-time high on most days. This suggests that investors should be prepared for fluctuations and not be deterred by short-term losses. Patience and a long-term perspective are key in such investments.

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Like the car, investors have three options. They can either A) accept this volatility as the price of those returns, B) accept lower returns with less volatility, or C) try to game the system and get those returns without the volatility. Like with the car, some car thieves will get away, many of them will not.

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Investors might face several obstacles when applying the concepts from The Psychology of Money. These could include emotional biases, such as fear and greed, which can lead to irrational decision-making. They might also struggle with accepting the inherent volatility and risk in investing. To overcome these obstacles, investors need to develop a strong understanding of their own risk tolerance and investment goals. They should also strive to make decisions based on logic and sound financial principles, rather than emotions. Regularly reviewing and adjusting their investment strategies can also be beneficial.

A manufacturing company can apply the investment approaches discussed in 'The Psychology of Money' by understanding and accepting the inevitabilities of risk. They can choose to accept this volatility as the price of returns, accept lower returns with less volatility, or try to game the system and get those returns without the volatility. They can also use powerful wealth-building tools that require little technical skill. It's also important for them to understand how their decisions can be influenced by their mindset and biases, and take steps to mitigate these effects.

'The Psychology of Money' has significantly influenced investment strategies by emphasizing the importance of understanding the psychological aspects of money management. It suggests that investors should accept the inevitability of risk and volatility in the market, rather than trying to game the system. It also highlights the importance of patience and long-term thinking in wealth building. These insights have led to a shift in investment strategies, with more focus on behavioral finance and the psychological aspects of investing.

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In 2008 GE, one of the biggest companies in the world, almost collapsed. Their stock price went from $40 in 2007 to only $7 by 2018. One of the problems was that under their CEO, Jack Welch, their extremely lucrative financing division would always beat Wall Street estimates. They'd always return higher, no matter what. They gamed the system, massaged numbers, pulled returns from future quarters to current quarters.

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A startup can avoid the mistakes made by GE in terms of financial management by ensuring transparency and honesty in their financial reporting. They should avoid the temptation to manipulate numbers to meet Wall Street estimates or to show constant growth. It's also important to not over-rely on one division for profits, as this can lead to instability. Startups should also have a robust risk management strategy in place to prepare for potential downturns.

The lessons from GE's financial crisis can be applied in today's business environment in several ways. Firstly, it's crucial to maintain transparency and honesty in financial reporting. Manipulating numbers to meet Wall Street estimates, as GE did, can lead to disastrous consequences. Secondly, businesses should avoid over-reliance on a single division for profitability. Diversification of revenue streams can provide a safety net in times of crisis. Lastly, short-term gains should not be prioritized over long-term stability. Pulling returns from future quarters to current ones, as GE did, is not a sustainable practice.

The near-collapse of GE in 2008 has had a profound impact on corporate strategies and business models. It served as a stark reminder of the dangers of over-reliance on financial engineering and short-term profit maximization. Many companies have since shifted their focus towards sustainable growth and long-term value creation. They have also become more cautious in their financial practices, emphasizing transparency and accountability. Additionally, the GE case has underscored the importance of effective risk management and the need for companies to have contingency plans in place.

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But that caught up with them, and when the stock market collapsed, so did their game. Volatility, risk, and uncertainty are a part of investing. They have to be accepted because they will always appear, and to think they can be avoided, often just exacerbates their effects.

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