Behavioral finance is the blend of psychological principles with your finances. It provides valuable insights into our own behaviors and their financial consequences. Essentially, it is a framework for understanding how, when and why people make repeated and irrational errors. The lessons you’ll learn here will nudge you to making wiser financial decisions in your life.
Adverse Selection Bias is when one person in a transaction has more information than the other. It is a specific subset of selection bias and has recently been on my mind. A couple weeks ago, in my investment research for HIT Capital I found a stock growing 25% a year and trading at a P/E of 5. To translate that into English, I found a stock trading 4x cheaper and growing 8x faster than the average US company. But in my next level of research, I learned [...]
A Two-Decade Reflection on Happiness and the Age Positivity Effect As I reflect on my own life journey, I realize that my pursuit of happiness is still evolving. Initially, my goals were about me, as I focused on personal achievements like earning a degree, finding love, and competing professionally. Later my goals began to include others, like achieving financial independence for my family, and creating a business. Now my focus is just as much on me as on others, like supporting my wife’s mission to help our [...]
Imagine strolling through your favorite supermarket on a Sunday evening after finishing a game of soccer with your friends. You're worn out, hungry, and the air is filled with the tempting aroma of freshly cooked pastries. As you pass the second vendor he is frying up some crackling crispy pork, your mouth waters at the thought of biting into it. Your stomach is screaming "Yes!" and before you even have a chance to weigh the pros and cons, you find yourself buying some. This instinctive, visceral response [...]
It’s not often I get that lump in my stomach but yesterday it happened. Assertio Holdings, an investment of mine, had a stellar first half of the year. They were cheap, growing, and just closed a deal reducing their risk and adding a potential multi-billion dollar product to their repertoire. As I sat down to listen to their quarterly update, out of the corner of my eye, I saw a flash of red, Assertio's stock price plummeted. The market had just closed and their share price was down [...]
At HIT Capital, our stock picking process begins with filling the top of the funnel with as many stocks as possible. In 2014, I started value investing with data on 2000 stocks, and now nine years later we are up to 42,280. As I look back and review the path we took to get here, two primary and intertwined hurdles jump out, overcoming the mere-exposure behavioral bias and learning how to code. In 2013, the subset of 2000 stocks I was using were the same ones utilized [...]
When reviewing the stock market to gain insights into the future I prefer to use two tools or let's say lenses. The first lens is a magnifying glass of which I attempt to see what the market is doing today, tomorrow or next week. The second lens is a set of bifocals of which I use the magnifying portion to focus in on the market's value today, and then with that knowledge I look up through the distant lens to see the market further out. Magnifying Glass What [...]
We learned in the last post on the Dunning Kruger Effect that our knowledge does not necessarily track our confidence. My knowledge of the unknown is limited and therefore I’d prefer to be prepared for the unexpected. Is that even feasible? Let’s dive into the ultimate unknown, our own and others' ability to stay alive. None of us think we are going to die tomorrow but there are a number of known and unknown risks that could wipe us all from existence: nuclear war, asteroid collision, volcano eruption, [...]
A little over a year ago, if you would have asked me about a European war, I would have betted against you and in reality I did. I had multiple investments in Russian run businesses and today I have none. As information became more readily available, the unknown risk transitioned into a perceived risk and now has become our reality. How can we plan for future unknown unknowns like the war in Eastern Europe? Acknowledgement The first step is acknowledging that you don’t know everything. Our Society and [...]
I was watching the baseball world series back in Oct of 2005 with some college buddies and during the pre-game I seemed to be the only one excited. The White Sox had a chance to make history by closing out the series in 4 games. As the night went on the excitement spread and by the end, we were all celebrating and caught up in the moment as the confetti flew and fireworks blew up. The White Sox finished the sweep, beating the Astros 1-0 and were crowned [...]
In my last blog post I addressed what action bias is, and why we, as humans, tend toward this bias. Hopefully looking through a few more examples will help you identify where you tend toward action bias, and then help you set up ways to minimize its effects on you. The following 10 examples are situations where taking action does not warrant praise and has proven more often than not to provide a detrimental outcome. The first 8 are personal finance, investment and business related, the next two [...]
Have you ever been stuck in traffic and found yourself honking the horn, waving your fist, or even releasing the bird? Did any of your actions improve the situation? Maybe you are similar to my parents who live where there is no traffic, but where there is gossip. Have you ever listened to someone talk about someone else and then validated their thoughts? Then in hindsight realized you should have done nothing of the sort. Ok, so you don’t drive in traffic or listen to gossip (congratulations!). [...]
In my last post, I connected an increase in anxiety with the additional choices and freedom brought on by financial independence. Thanks to Barry and Danielle’s insights I was able to take a step back and see what was happening inside my head, Choice Overload. I have a natural tendency to maximize every decision, and when I face multiple decisions at once it leads to decision deferral, and decision fatigue. While in my mind I was trying to do great things, in reality I was like the baby [...]
Sarah and my financial independence dream was coming to fruition and it was inevitable we were going to reach our magic number. So why, at the same time, did I feel overwhelmed and full of anxiety? Everything I heard or read up until this point led us to believe financial freedom would be just that, freeing. But so far it was more stressful than freeing. I felt the weight of opportunity upon our shoulders. Since the beginning of time, we as first world humans have never had more [...]
Severance Update In my last post, “No Power, No Water, No Heat, No Severance'' we were in the middle of a cold front that left us without electricity, water, and internet. This delayed all of my corporate work communications and the following week when the essential services came back online I received word on my severance request and... It was accepted. I am now twice retired, and can focus on HIT, family and friends. Financial Independence It has now been 3 months since retiring and financial independence has [...]
It is 8:30 am on Wednesday, day 3 of a 6-day cold spell across Texas. We lost power around 2 am Monday and have been relying on our fireplace, camping gear, and friends for warmth. I once laughed at the fact, 90% of homes in Houston had fireplaces. Thank goodness we bought one of those homes, as the fireplace is keeping our living room a toasty 48 deg F! The Damage In addition to losing power, our water has stopped flowing, and the technique of dripping faucets is [...]
My sister shared the following riddle based on implicit bias with me last week. If you are free from bias, good luck :) The Riddle A man and his son are in a terrible car accident and the father dies. The boy is rushed to the hospital and in need of surgery. Once in the operating room the doctor comes in, looks at the boy, and says “I can’t operate on him; he is my son!”. How can that be? Who is the surgeon? Was the answer quick [...]
Do you think you are a better driver than your friends? Is common sense ingrained in our veins? It appears not. In the 1970’s psychologists started proving we repeatedly make irrational judgements and decisions in similar circumstances. In fact, 93% of Americans surveyed thought they were a better driver than the median. That is not our common sense shining through, but one of many behavioral biases, and in this case illusory superiority. Uncertainty We each suffer from behavioral and cognitive biases and during times of uncertainty, like [...]
When I first wrote about the mental model for purchases I did not imagine that my own personal case study would follow. But then again, who would have thought Hurricane Harvey was going to bring more than 60 inches of rainfall. That volume of rain shattered the previous record by more than 12 inches! It has now been almost 600 days since thirteen of those inches found their way into our home and our entire first floor was destroyed. Since being rescued on August 30th, 2017, we have [...]
The illusion of control bias is the tendency for people to think that they have more control than apparent over events. It’s like wearing a rabbit’s foot to an exam or believing you’re safer driving than being a passenger. Neither can influence the outcome of events – good or bad – but the belief can cause real-world harm. In reality, chance plays a bigger role than we give it credit for, and in the case of investing, this can hurt your finances. Whether you’re investing in the wrong [...]
As the kids go down for a nap and the waters begin to stabilize I gather some of our thoughts over the last couple days, and the days to come. I learned of what was soon to become Hurricane Harvey from a co-worker last Tuesday, 7 days ago. This consisted of nothing more than an awareness of a storm that was over the Yucatan. I came home from work that day and told my wife over dinner. Neither of us thought much of it as it didn’t come [...]
We all put off unpleasant tasks. In surveys 95% of all people admit to procrastinating, with about a quarter of them saying it is a chronic, defining characteristic. Our innate human behavior is to put off less appeasing tasks regardless of importance. I struggle at times to get out of bed, to tackle mundane tasks, or to get my workout in. I even had an urge to delay writing the article you’re reading today. It’s unfortunate the consequences or benefits of procrastination are many times unknown. Fortunately, in [...]
A burger and a slice of cheese together cost $1.10. The burger costs a dollar more than the cheese. How much does the cheese cost? (It’s more impactful if you answer how much the cheese costs before continuing on) Your answer to the cost of cheese may have depended on which psychological mode of thinking you engaged in. If you chose to answer quickly, your answer was likely 10¢, but if you stopped and worked the answer meticulously then you should have come up with the correct answer [...]
We have many behavioral biases and the latest data shows that “home bias” is one of them. Home bias is where we invest more of our assets in the country and community we live rather than globally. Becoming aware of our biases, including our home bias, enables us to make more rational personal finance and investing decisions. The IMF (International Monetary Fund) and MSCI All World Index gathered data from the five largest countries by market size. All five demonstrated a significant home country bias, rather than a [...]
Loss aversion refers to our tendency to strongly prefer avoiding losses over acquiring gains. This behavior is at work when we make choices that include both the possibility of a loss or gain. For example, when making investment decisions we most often focus on the risks associated with the investment rather than the potential gains. The loss aversion bias is not always dreadful to have, as in many cases it is beneficial to our way of life. Naturally responding more powerfully to threats than to opportunities is a [...]
Warren Buffett and Charlie Munger, possibly the most successful investors of our time, have regularly emphasized the importance of rational investing or just being “rational” human beings. When Charlie was asked, “What one word accounts for your remarkable success in life?” his response was “rational.”1 Warren Buffett thinks similarly as seen in Berkshire's annual letter where he stated his successor will be a rational, calm and a decisive individual”.2 So What's Rational Investing? Rational is to be sane, reasonable, of sound judgment, and to derive from reason. [...]