← The Psychology of Money with Morgan Housel
The Psychology of Money with Morgan Housel
A Tale as Old As time: Getting Rich vs. Staying Rich
00:26:05
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Real quick before I start the show. People spend enormous energy trying to predict the next quarter. Far fewer spend the time finding great businesses and giving them years to compound. That is one reason I am pleased that this episode is sponsored by Davis Advisors. For more than 50 years, Davis has believed that patient ownership of exceptional businesses is one of the most reliable ways to build wealth. That philosophy is reflected in focused portfolios of durable businesses selected with a long term mindset rather than today's headlines. If you believe investing is about what businesses become over years instead of what markets do tomorrow, visit DavisAdvisors.com to learn more. Before investing, you should carefully consider the investment objectives, risks, charges and expenses. The Prospectus, or Form 80V as applicable, contains this and other information. You can obtain a current prospectus of Form 80V by calling 1-850-279-2279. Investing involves risks, including possible loss of principle if you study enough financial history, you know that in every market cycle, in every era, in every country, whenever there is a booming economy, booming market, there is somebody or something, some organization that is kind of christened and anointed the next seer who can see the future and understands what's going to happen next. And it is so common, it is one of the most common stories in the history of finance that that person, that organization, is one of the first to blow it during that cycle. I've always been really fascinated in the difference between getting rich and staying rich, two extremely different skills that again, when you look at the course of history, a lot of the people who are very good at getting rich do not have a lot of ability to stay rich. They are the people who are taking outsized risk that work in one segment, in one era, for one period of time and revert to the mean with as much spectacular blow up fashion as they did on the way up. This happened last week and before I get into the details of what happened and they are very interesting details I think, I think there's a lot of lessons to it. One thing I want to mention is that I think there is too much schadenfreude in finance when these things happen. Of course, schadenfreude is the German word for taking pleasure in other people's downfall, other people's pain. And that always happens when you have a situation like this. When a high flying, very smart fund goes down in spectacular fashion. It's very easy and very common for ordinary people to point and laugh and say look at that idiot. How could they be so dumb? I don't want to do that here because for one, if there is any group in the market who should be taking big outsized risks that they can hopefully manage, it's somebody like a hedge fund. And a lot of hedge funds and private funds that are marketed to rich people do the opposite. They're just taking very boring, average risks and charging enormous fees for it. So I don't want to have any schadenfreude here, but here's what happened last week. A couple of years ago, a extremely smart, highly educated 22 year old named Leopold Aschenbrenner published a series of essays about the future of AI and they are fantastic. They are fantastic. They're well written, they are there. A lot of the predictions came true and they just give a lot of context into what, what AI is doing now and in the future. Now, he used that fame that he got from those essays to start a hedge fund called Situational Awareness. And Situational Awareness may have been one of the fastest growing hedge funds investing funds in history. So much so that earlier this year, which was just two years after he started this fund, and at 24 years old, Leo Aschenbrenner and Situational Awareness were managing $45 billion. And it was one of the largest hedge funds. And the returns were absolute off the charts until last week when it all came kind of crashing down in spectacular fashion. And Situational awareness lost about 67% of its value in one month. And its assets that it manages fell from 45 billion to about 10 billion. And the reason this all happened was because of leverage. The hedge fund, as many funds do, was borrowing billions and billions of dollars to amplify its bets to buy more of the stocks that it was betting on going into debt, going into margin to buy this. Now that story is as old as time. The idea of like a very smart person who claims to see where the world is going and goes into a ton of debt and then that debt backfires on them spectacularly. That has been going on forever and I think will happen forever. And if you're listening to this thinking, Morgan, I'm not a hedge fund manager. Why do I care about this? Let me share some stats with you. This chart that I'm showing you, this is margin. This is debt that ordinary individual investors are going into to buy more stocks leveraging against their portfolio. And you can see in 2017 it was about 240 billion. Now it's about 600 billion. That's just kind of ordinary people. This chart is hedge funds borrowing against their portfolio. Hedge Fund margins. And you can see it's about the same. In 2017 it was about 300 billion. Now it's over 700 billion. You put those together and total margin debt right now that people are borrowing against their portfolios is $1.3 trillion. In that neighborhood. It's not a small amount of money. And a lot of individual investors, maybe some people listening to this, are doing it themselves. This kind of debt is often available to ordinary people where you can borrow money to buy more of the stocks that you already own. Now some context here. A trillion dollars plus of margin debt sounds like an incredible amount. What's true is that the value, the total value of the US stock market is about $100 trillion. And so in the context of that, what it's being borrowed against, honestly not that much in the grand scheme of things. So if you're worried about this causing some kind of system wide blow up, I don't think that's at all what we're facing here. But at the individual level, the people who do borrow money in order to invest, there are a couple things to keep in mind here. One, I think there is always an irony here of when you are borrowing money to invest and going into debt, the claim that you are kind of making, whether you know it or not, is that you have an idea what the stock market is going to do next. That you have some idea of how much it's going to go up and when it's going to go up. And that's why you're borrowing this money. And that's why you think it's safe to borrow this money. You think you know what the market's going to do next. The irony to me has always been the entire reason the stock market goes up over time is because you don't know what's going to happen next. That's why there's opportunity on the table here. The putting up with not knowing exactly when the returns are going to come, the putting up with volatility, the putting up with a company performing well and its stock still goes down 30% enduring. That is why you get paid over time. And for you to go into debt because you think you do know what's going to happen over time. It almost never works out. Could we find examples of funds that were very good at hedging their bets or it did. The leverage did work out, of course, but I think it's the exception proves the rule. I don't know of anyone, particularly individual investors, but if I'm being honest, even professional investors who've done very well over time because of margin. Now, some people would point to Berkshire Hathaway and their insurance float details don't matter, but there is some leverage in there. It's a very different kind of debt because it can't be called back to you. The bank can't come knocking on your door and say, give me all that back. It's a different kind of thing. What's common among individual investors and professional investors is this feeling of this is a sure thing. AI, for example, is obviously changing almost everything in the world around us in a profound way and maybe the biggest way that any business technology has in our life. But nothing in investment is ever assured, particularly what, when and how much a stock is going to go up or down. Howard Marks, the great investor, tells a story. It's a funny little story where he says his dad once heard of a horse race and there was only one horse in the race, and so he bet the rent money on the source. There's only one horse in the race he can't lose. His dad goes to the race, puts all of his money on this horse. Midway through the race, the horse jumps over the fence and runs off the track. Funny little story, but that there is nothing assured in investing. And it is so common that people in investing make the worst mistakes at the worst possible time, because that is when they are the most confident that they know what's going to happen next. And it's almost never true. That's one of the takeaways here. After the 2008 financial crisis, which in many ways was caused by debt and leverage almost entirely, Warren Buffet had to give an interview to the US Government of just kind of like a debrief. Here's what happened during the financial crisis, and they asked him about leverage, and he had a quote that I loved, he said about investing on margin. He said, if you're smart, you don't need it, and if you're dumb, you shouldn't be using it. I think there's a lot of truth to that as well. If you know what you're doing in investing, you can earn a good enough return to meet all of your financial goals. And if you don't know what you're doing, you should not be within 10 miles of this stuff. Another situation of Buffett mentioning This was after 1998 when another hedge fund very Leverage up, did implode. And that was a hedge fund called Long Term Capital Management that exploded in spectacular fashion in 1998. And Buffett was asked about it, and he Had a very telling quote for that situation, too. He said, to make money that they didn't have and didn't need, they risked what they did have and did need. And that is foolish if you're risking what you have and need in order to gain what you don't need. It's never a smart bet, even if you think the numbers are going to work out. That's my rant about leverage and everything that has happened in the last week. I want to tell one more story similar to this that I really like, that I've read recently is from a guy named Mike Michalowitz. And he talked about whenever he would go on stage and talk to people, he would do a little bit where he would pull out a hundred dollar bill and he'd look at the audience and he would say, who wants this hundred dollars? And people would raise their hand, but that's all they do. They would just raise their hand and he would say, no, no, come on, who wants this hundred dollars? And people would raise their hand, but they would stay in their seats. They wouldn't do anything. And he would, like, egg them on like, come on, who wants this? Most people in the audience would either think that it was a joke or a scam, or they would just. He would take the money back. So no one went up and got it until finally, inevitably, somebody from the audience just walks up and takes the money out of his hands and he says, why didn't it. I was offering it to you, why didn't you take it? So then he pulls out another $100 bill and he says, who wants this? And the entire audience runs up and takes it. And I think in many ways that's like the stock market. It's like, you know, from the historical evidence of what's there, that there is a strong opportunity and high odds, nothing more than that of doing very well over time for average, ordinary people. And a lot of people look at that and say, yeah, but look at what's going on. The economy. Look at what's going on in politics. Look at what's going on in here. Maybe I should wait. Maybe it's a fraud, maybe it's a scam. It's almost the same as the people in the audience who are like, I want the $100, but I'm not going to do anything about it until you watch a lot of other people getting rich and going up and taking the hundred dollars. And as soon as you see other people doing it, everyone swarms the stage and all the money is gone. I think in many ways that's what the stock market is. All right, let me get into your questions and they're fantastic, as always. Thank you. And keep them coming at pod@longterm words.com Send me as many questions about almost any topic. I can't get to all of them, but they've been fantastic. Thank you. All right, this first question comes from Joe, who asks. Everything you write assumes the last century of American market history roughly repeats, steady, compounding, mean reversion, patience rewarded. What's the single assumption baked into your worldview that if it broke, would make most of your advice useless? And do you think it's more fragile now than when you started writing? It's a tough question for me, like what? What advice do I give that is just based off of assumption that might be a faulty assumption? It's a very good question. And I think wherever and whomever you seek your advice from, you should ask these kind of questions. Most people, of course, they listen to advice because it sounds good and it makes them feel good. And that's when you should be the most skeptical and push back and saying, what am I missing? One thing I'd say that is similar to people losing a lot of faith in the system is if you go back to the early days of the Great Depression, particularly 1931 and 1932, there was a very common belief among reasonable, smart, educated people that it was obvious that capitalism and democracy didn't work. Now when the stock market falls 90% and unemployment is 25% as it was at the time, not an unreasonable feeling to have. And a lot of smart, reasonable people at the time were saying maybe we should give a different system a shot. And, and they weren't talking about higher marginal tax rates. They were talking about full on fascism at the time. And of course it didn't happen. And we can look back at that with a set, you know, raising our eyebrows at that. But you do get these moments throughout history, even in American history, when a lot of people come together and say maybe we should not do the thing that made us so rich to begin with. So there are these moments where it's come close to moving in a direction that if we did that again, we would. I lose faith that these bets that I'm making on the future don't have the odds of playing out that I did. Yes, they would. Here's what I think could be true about the advice that I give, that we could in 30 or 40 years look back and say, that didn't hold up. I Think at the, the highest level. A lot of the assumptions that I make about the future that were what drove the past are that the majority of people around the world. But if we're just talking about the US Stock market in the United States, wake up every morning trying to become a little bit better than they were yesterday, trying to go to work, to work a little bit harder, make their product a little bit more efficient, make their company a little bit more profitable, do a little bit better in their own life, save and invest and teach their kids. Most people just want to, at the end of the day, say, I did a little bit better today than I did yesterday. That is the driver of all progress, and that is what has driven the US Economy, the world economy, the stock market for the last century or two that we look at when we make these assumptions. If people stopped doing that, if you got to a point where there was such a level of pessimism in society that more people than not woke up in the morning and said, I have no incentive to do better today, why even try? That would make me very pessimistic about where things are now. Some people, when they hear Matt might say, hello, have you looked around in the year 2026? That I don't buy that much. It's true that if you spend a lot of time on social media, you can, if the algorithm is pushing you in that direction, come away extremely pessimistic about the state of the world. If you spend more of your time out in the real world, going to kids, little League games, having dinner with your friends, talking to people who work at these businesses and are building these products, I don't get that feeling at all in the slightest. Of course there, like, there are a million problems in the world. It's not to discount any of that. But the idea that there are still more people waking up every morning trying to do a little bit better than they were before is the driver of everything. Now, one thing I would say is, of course, there is no certainty that that will play out in the future. But I would say that it's the highest odds of where you should be placing your money. And so do I think there's a 100% chance that the US economy will be richer and more productive 30 years from now? No, there's not 100% chance of almost anything in life except death, death and taxes. Right. But do I think it is the highest odds of pushing me towards that being where I should put my money? Yes, because what would the alternative be if I were to say look, there's only a 90% chance or 80% chance of making that up, whatever it might be. Where else would I put my money in which the weighted odds of doing well over time would be superior to betting on people becoming smarter and more productive in the future? I don't really have an answer for that, and so I would never say that the advice I'm giving is assured. I just think it's the best bet given how people work, the incentives of what people have to do better in their life, and the alternative being possible but not probable in my mind. All right, next question. Another tough question for me, and I love it, and this one is anonymous. He says your work is deeply reassuring. Be patient, avoid ruin and let compounding work. But reassurance sells, and comforting advice and correct advice aren't always the same thing. How much do you worry that your readers like you because you tell them what they want to hear? It's a tough one. You're giving me existential crisis right now of trying to figure out here what my answer would be. And it's a great question. I take no offense to this whatsoever because I would judge other people commenting on investing in money with the same lens. I hope that I have driven home the idea that I'm not selling optimism as much as I am telling you that the long run is worth the pain. That it is worth the pessimism, that if you can endure all the pain and downside and volatility and uncertain that if you can endure that, the rewards are great. But make no mistake that what you're getting paid for is pain. And so if I was selling you a bag of roses and telling you it's all going to be great and all of my stock picks are going to be won, that that is where charlatanism comes in. It's no one's ever been able to do it. I think to me, the healthiest advice, and I'll tell you why advice is the wrong word. But the healthiest take that I can have is that the odds are in your favor over time that the pain is worth it. And I think that's very different than promising someone the moon. The reason I think advice is the wrong word and I try to give nobody advice, is not because it's legally dangerous, although of course it is when you don't know your readers. It's just because everybody's different. And it would be so foolish of me, without knowing you, to tell you how you should live your life, and I would not want or accept you doing that to me, I have my own little quirks in life, of course, as everyone does. And so figuring that out for yourself is what's most important. Last thing I would say about that is it's dangerous for anyone in any topic to only listen to people whose advice you agree with. It's incredibly dangerous to do that. And in fact, some of the best strategies that you can have when you find yourself falling into that trap of I agree with everything this person says is to go out of your way to understand what the counter argument is. Even if you disagree with the counter argument, at least you are aware of what it is that's really important. I love reading the takes of people who disagree with the way that I invest. I don't always agree with them, but I at least need to go out of my way to understand the argument that they're making. And at least then at the worst, I can identify why their advice might be right for them but wrong for me. But you should always at least be cognizant of the other side of the argument, of the people you are taking advice from. All right, this question is from Kanad, who asks you have been transparent about your accumulation strategy, maintaining a large cash cushion and investing the rest into low cost index funds. My question is about the other side of the equation. What is your structural and psychological strategy for withdrawals both now and in retirement? The reason I wanted to answer this question is because I think it is more philosophical than tactical and the philosophy and the tactics of when I'm going to sell the stocks that I own. I don't mean this to sound flippant, but the answer is more or less never. Or it's whenever I need the money. And look, when I buy stocks, it's not because I necessarily think the market is super attractive at this moment relative to what it was before or since. It's because I have money to invest at that moment and I think my strategy on the way out will be similar. I don't think, and I've never sold in any meaningful amount, so hopefully this is a long time in the future. But I don't think I will ever sell stocks based off of some kind of formula around valuation or where I think the economy is going to go next. I'll sell when I need the money to buy a new house or retirement or help my kids, whatever it might be. That's what I'll sell. It's very similar to my philosophy of when you should buy a house, which is not when you think a house is cheap and about to go up. It's when you need it because of your family situation. I think a very similar philosophy for that. The other answer of what I would say of when I'm going to sell is hopefully never. And that might. That again, might sound kind of flippant, but the idea that the purpose of owning these stocks is to let them compound as long as you can. And I want to use the cash with the bonds that I might have to live off of as much as I can and the income that I earn to live off of as much as I can with the idea that I want these stocks to compound for as long as I can and eventually go to either charity or my heirs. That's the goal. But you'll have to ask me in about 30, 40, 50 years when hopefully I'm at that situation of needing to sell, wanting to sell. All right, this question, last question from Juan. He says people in the media talk a lot about how much money the 1% or the top 10% have, and that's envy or jealousy. However, for me, the correct data that they should analyze is how much better or not the average American quality of life is. And not just the top 1%, but also the bottom 25%. Are they doing better or worse? Have the number of poor families in the USA increased or decreased in the last 10 or 20 years? What do you think I'm going to give you not a quantitative answer to this question question, but a qualitative. The reason why is I think anyone who wants to prove that there are more or fewer or less Americans living in poverty now than there were 20 years ago can prove that by twisting the data any way that they want. And the reason why is I think you can, because you can twist it by, you know, what does poverty mean? You can do it by income, by the percentage of your income that goes to housing and food and shelter and those kind of things. To me, it's always just been this more philosophical where I think if you had a time machine and you could go back to different eras, let's say 20 years ago, 50 years ago, 100 years ago, the majority of people, not everyone, but the majority of people, when they went back in the time machine, would say, you know what, some things may be better in this past, but I still want to go back to the future. Let's take, for example, 20 years ago. If we went back 20 years ago, what would you not have that you do today that almost all of you rely on? Google Maps, podcasts, by and large, a lot of medical Technology, lots of different technology that lets you talk and communicate and socialize with people all over the world. There would be little things like that that maybe don't show up that much in the statistics of income and net worth. But actually if people went back, they'd be like, man, I really miss those things. It's actually really hard to drive across town without Google Maps. I didn't know how good we had it. And especially if you were to go back 50 or 100 years and you woke up with a headache and you realize that penicillin isn't around yet, that a lot of the vaccines are not around yet, that Advil and Tylenol are not readily available, that very basic things that make your life more comfortable. Now again, that don't necessarily show up in the income statistics that made your life better, that you would say, I would rather be in the year 2026. I think for most people, not everyone, that would be the case. And I think if you're an amateur student of history and reading about what life like during these previous eras, two things stick out. One is that a lot of the people were pretty happy, they enjoyed their middle class life. And the standards of that middle class life would not fly today. And so you look at my grandparents generation buying homes in the 1940s, 1950s, it was much easier for them to buy a house than it is for the young generation to buy a house today. No question, full stop easier in previous generations to buy a house than it is today. It is also true that the homes that my grandparents were buying in the 1940s would not fly as even a low income house today. They were 700 square feet with no air conditioning and your six kids shared one room and one bathroom. That was the kind of homes that people were living in back then. And so it's hard to quantify those things, whether life has gotten better over time because it tends to be softer things that you can't put a number on. And the other thing that's true is that, and this is a good thing, I think people's expectations increase over time. And so the definition of what middle class or poverty or upper class or however you want to phrase it, would have been very different 30 years ago, 50 years ago, 100 years ago than it is today. And that's a good thing. People should have higher expectations over time. I think it's very likely that if you were to talk about this topic 30 years from now or 50 years from now, we would be framing it in the same way that we do today we'd be looking at it and saying look, relative to 2026 by this statistic and that statistic, some people are worse off. And if you were to take a time machine back today, you would say, no thank you. I'd rather live in the current era. I think that tends to be true over time and it's one of the reasons that I'm optimistic over time. Thanks again for listening. We'll see you next time.
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