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Morgan Housel of Collaborative Fund is one of my favorite financial writers. His new book, “The Psychology of Money,” contains many of the same investing/personal finance lessons I’ve tried to convey, only better. Jason Zweig at The Wall Street Journal said Housel “writes beautifully and wisely about a central truth: Money isn’t primarily a store of value. Money is a conduit of emotion and ego, carrying hopes and fears, dreams and heartbreak, confidence and surprise, envy and regret.”
In other words, financial success is not a hard science like physics (with rules and laws), but a soft science like psychology (with emotions and nuance), so this book could be the best $18.99 you spend in 2020!
The book’s premise is that, how you behave with your money is significantly more important than how smart you are. According to Housel, “A genius who loses control of their emotions can be a financial disaster. The opposite is also true. Ordinary folks with no financial education can be wealthy if they have a handful of behavioral skills that have nothing to do with formal measures of intelligence.”
Time in the market is critical; timing the market is not.
Warren Buffett’s investment acumen is legendary, but the “Oracle of Omaha’s” fortune “isn’t due to just being a good investor, but being a good investor since he was literally a child.” Buffet is 90 years old and his net worth is $84.5 billion. According to Housel, $84.2 billion of that was accumulated after his 50th birthday and $81.5 billion came after he qualified for Social Security, in his mid-60s.
Housel said that, if Buffett earned his same extraordinary average annual return of 22% but had instead behaved like many folks and 1) didn’t start investing until age 30, with, say, $30,000 and 2) quit investing and retired at 60 to play golf, then 3) he would have ended up with $11.9 million, still a sizable sum, but 99.9% less than his net worth today.
In other words, you would never have heard of Warren Buffett.
Buffett’s “secret sauce” was time in the market (three-quarters of a century) combined with the “miracle of compound interest,” the most powerful lever for creating wealth in history.
For simplicity, assume you begin Year 1 with $100 and earn 8% each year. After Year 1, you have $108. In Year 2, you earn 8% on the original $100 plus 8% on the $8 earned in Year 1 (i.e. interest on interest), ending with $117. And so on.
In fact, the “Rule of 72” says dividing 72 by the assumed return gives you the number of years it takes for your investment to double. Assuming an 8% return, your investment doubles every nine years (72/8), so you have $200 after Year 9 and $400 after Year 18.
Housel says that “good investing isn’t necessarily about earning the highest returns, because the highest returns tend to be one-off hits that can’t be repeated. It’s about earning pretty good returns that you can stick with and which can be repeated for the longest period of time. That’s when compounding runs wild.”
Indeed, the real “fireworks” didn’t occur for Buffett until well after most folks have retired.
Wealth is what you don’t see.
Housel believes “spending money to show people how much money you have is the fastest way to have less money. The only way to be wealthy is to not spend the money that you do have. It’s not just the only way to accumulate wealth; it’s the very definition of wealth.”
We rely on visual cues, but outward appearances are often deceiving.
Rich is current income and easily seen in people’s car or house, either live or in their Instagram fairy tale.
By contrast, “wealth is hidden. It’s income not spent. Its value lies in offering you options, flexibility and growth to one day purchase more stuff than you could right now.”
Housel defines savings as the gap between your ego and your income. “One of the most powerful ways to increase your savings (and wealth) isn’t to raise your income. It’s to raise your humility.”
Peter “Pete the Planner” Dunn refers to the practice of expanding your lifestyle as your income grows as “lifestyle creep.” Your desire for more stuff is never satisfied and you’re always on the positional treadmill, chasing goalposts that are constantly moving.
As the Greek philosopher Epictetus said, “Wealth consists not in having great possessions, but in having few wants.”•
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Kim is Kirr Marbach & Co.’s chief operating officer and chief compliance officer. He can be reached at 812-376-9444 or mickey@kirrmar.com.
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