The Psychology of Money

The Psychology of Money

By Robb Engen


September 26, 2020


I’ve been reading Morgan Housel’s work for years and sharing his thoughtful lessons about money and investing. He has the rare ability to tell stories that connect the past with the present, while unpacking all the useful tidbits that apply to our own lives and personal finances.

That’s why I was excited to read Mr. Housel’s new book, The Psychology of Money: Timeless Lessons on Wealth, Greed, and Happiness. This terrific piece of writing reads like a collection of stand-alone short stories, brilliantly woven together by Mr. Housel to explore our relationship with money and how that connects with life’s bigger picture.

I can’t do the book justice with a simple review. Instead, I’ll say that The Psychology of Money is a highly enjoyable read with 238 pages full of incredible insight, history lessons, and wisdom.

I’ll also highlight two of the ideas that really resonated with me.

The first has to do with stock picking. Mr. Housel points out that most public companies are duds, a few do well, and a handful become extraordinary winners that drive the vast majority of the stock market’s returns. He cites data from the Russell 3000 Index that shows, since 1980, forty percent of all Russell 3000 stock components lost at least 70% of their value and never recovered.

Effectively all of the index’s overall returns came from 7% of the companies that outperformed by at least two standard deviations.

The percentage of companies experiencing catastrophic loss across industries from 1980-2014 included:

  • Technology – 57%
  • Telecom – 51%
  • Energy – 47%
  • Consumer discretionary – 43%
  • Health care – 42%
  • Industrials – 35%
  • Materials – 34%
  • Consumer staples – 26%
  • Financials – 25%
  • Utilities – 13%

Yes, even boring public utilities had a failure rate of more than 1 in 10.

The example shows just how difficult it is to pick winning stocks. But the important takeaway is that the Russell 3000 index increased more than 73-fold since 1980. The 7% of companies that drove the returns were more than enough to offset the duds.

We see this happening today as large technology companies such as Amazon, Apple, Facebook, and Microsoft have been driving the stock market recovery while the vast majority of stocks are still down and struggling. 

This lesson isn’t about trying to identify the 7% of stocks that will outperform in the future. No, it’s to simply buy the entire index so you don’t have to guess which individual stocks will be future winners.

The second lesson from The Psychology of Money that stuck with me is about change:

“An underpinning of psychology is that people are poor forecasters of their future selves.”

Think about where you’ll be five years from now or even 10. There’s a good chance you believe the future will look very much like the present. Now think about where you were five or 10 years ago. What changed? Probably a lot.

What about our future career aspirations? We may dream of one day becoming a doctor or lawyer, but after putting in years of work you may find the career isn’t as rewarding as you’d hoped. 

Only 27% of college grads have a job related to their major. 29% of stay-at-home parents have a college degree. The key is to acknowledge that someone in his or her 30s may think about life goals in a way their 18-year-old self would never imagine.

It’s important to make long-term financial plans. But both you and the world around you are going to change. Acknowledging this makes it easier to adapt. Breaking down your long-term financial plan into five or 10-year blocks of time may be more useful and practical.

That’s just a taste of the many lessons the author explores in The Psychology of Money. Do yourself a favour and pick up a copy today.

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