Premise of the book
The Psychology of Money walks you through the fascinating field of behavioral finance through 19 distinct short stories. This book puts forward the forgotten truth that money is entirely psychological and that financial success isn’t about knowledge, but behavior. Understanding money bias is a must for any investor.
About the author
Morgan Housel is an award-winning author, writer, and columnist who shares his insights on the psychology of money in this brilliantly written book. Money is a fascinating but complicated topic, yet the author is able to present complex concepts with such tact that anyone can pick up this book and enjoy the read.
Keys takeaways of The Psychology of Money
This book is easy to read and successfully synthesizes complex topics into understandable English suitable for any audience. The book is packed with money wisdom through 19 short stories but I will try to limit this review to my top 10 takeaways from the Psychology of Money by Morgan Housel:
1. It’s all about your attitude. The author highlights the story of a US janitor who became a multi-millionaire through sheer frugality and evidence-based investing. To contrast that, the book provides the example of a high-earning CEO who went spent his way to bankruptcy.
2. Money is all about your point of reference. Some people may be delighted to work minimum wage if the alternative is homelessness. Others may be offended by a 100,000$ salary offer if they’re a high flying executive. Happiness isn’t derived from a set amount of cash, it’s about your point of reference.
3. How much money is enough? We tend to believe that we work for money and that, when we have enough money, we’ll stop. This isn’t the case as the author exemplify with Bernie Madoff, the infamous fraudster who ran the largest Ponzi scheme in history. The truth is, Madoff was already a successful business owner prior to launching the Ponzi scheme. Madoff did not need the extra money by any means, but his greed led him to risk (and eventually lose) his legally-owned fortune. This goes to show that you can be one of the richest people in the world but still not be satisfied. As the author brilliantly puts it: The most difficult thing to do is to make the goalpost to stop moving.
4. The power of compounding. Warren Buffet may well be the greatest investor of all time, but did you know that 99% of his wealth was accumulated after he turned 50? Buffett has been investing for over half a century, time & compounding is what made him rich.
5. Getting rich versus staying rich. There are thousands of ways to get rich, but only one way to stay rich: frugality.
6. Don’t risk it. Out of the thousands of stocks available, only very few of them can make you truly rich. Unfortunately, these stocks are incredibly difficult to find. Don’t risk not owning these stocks, buy into index funds and guarantee your fair share of market gains.
7. History doesn’t always repeat itself. Investors have a tendency to look to at history to forecast the future. That’s a flawed concept. By definition, history is a record of surprising and abnormal events that happened, it may not be wise to expect surprising events to repeat themselves. Here’s an example: historically the USA experienced a recession every 4 years, it has now been 13 years since we experienced one.
8. Don’t get complacent. The world is always changing yet we seem to plan our future based on what is considered “mainstream” today. Government backed pensions only emerged 60 years ago. By historical standards, government pensions are an exception to the historical norm, not the default. Index funds are 50 years old, the US 401k is 43 years old, venture capital is 26 years old and Bitcoin is not even of drinking age. The world is constantly changing, don’t base your entire financial future on today’s “mainstream”. Be prepared for things to change so you’re never caught on the wrong foot.
8. Money gives you free time – Money invested generates passive income and passive income can replace a salary. Once you’ve got enough in passive income, you’re free to quit your job and do what you like. You’ll no longer be tied down to a job, city, or person for money, you’ll essentially be “financially free”.
9. Wealth is what you don’t see. You may have heard people saying they wish they were to be a millionaire but what they’re really saying is : “I’d like to spend a million dollars”. Spending a million, when you’ve got a million, makes you broke. Choosing not to spend that million makes you rich. The next time you see someone driving a fancy car or living in a fancy apartment, remember that they may not be rich, they may only be pretending to be rich. Wealth is what you don’t see, and you can’t see people’s bank account.
10. Nobody is crazy. Each time you buy a stock on a stock exchange, someone is selling you this stock. This means that if you’re buying a stock because you think its cheap, someone else is selling it to you because they think its too expensive.
The point is, people always think they’re making a good deal, and for their situation they probably are. For example, Somebody who held on to Amazon stocks for 20 years is happy to sell at a 2600% gain, while someone else may think that Amazon is very well priced given covid-19’s e-commerce opportunity.
The verdict
The Psychology of Money is a great book and a must have for investors. It covers everything from personal finance & investing to financial decisions. Too many of us equate money with happiness and this book helps rewire our expectations and money behaviors correctly. This is an amazing book and no book review can ever capture the wealth of wisdom contained within. There’s a ton of valuable wisdom in this book but I’ll leave you with a quote which blew me away:
“Savings is the gap between your ego and your income“
Food for thought.