I spent last summer reading three of Daniel Crosby’s book: The Behavioral Investor, The Laws of Wealth, You Are Not That Great – today, we spend an hour discussing some of the biggest lessons from his writing, work, and research – we learn what we can do to get out of our own way, and make better investment decisions.
Dr. Daniel Crosby is a psychologist and behavioral finance expert who helps organizations understand the intersection of mind and markets. Dr. Crosby's first book, Personal Benchmark: Integrating Behavioral Finance and Investment Management, was a New York Times bestseller. His second book, The Laws of Wealth, was named the best investment book of 2017 by the Axiom Business Book Awards and has been translated into 12 languages. His latest work, The Behavioral Investor, was Axiom's best investment book of 2019 and is a comprehensive look at the neurology, physiology and psychology of sound financial decision-making. When he's not decoding market psychology, Daniel is a father of 3, a fanatical follower of the St. Louis Cardinals, an explorer of the American South, and an amateur hot sauce chef.
We talk about:
1. Brain's Perception of Money: Brain's wiring in relation to valuing money, liquid happiness.
2. Impact of Early Investing Lessons: How early market experiences shape future investing decisions.
3. Crowd Behavior in Investing: Wisdom of the crowd vs. individual insights, and thinking for yourself.
4. Unique Investor Behavior: The human tendency to fit in vs. the need to stand out in investing & a rat experiment
5. Importance of Slowing down reflexive responses for better financial outcomes.
6. Tropical Disease vs. Wealth Habits: Shocking comparison and the lessons derived.
7. Fallibility in Investment Behavior: Human fallibility as both an advantage and an impediment in wealth accumulation.
8. Role of Investment Advisors: Value of the right advisor in preventing major mistakes & The long-term benefits of seeking expert advice.
9. Performance Measurement: Comparing performance to personal needs vs. market indices.
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Daniel Crosby, AI-generated transcript, it may contain errors.
[00:00:00] Bogumil: hello Daniel. How are you? It's so nice to see you.
[00:00:02] Daniel: Thank you. It's great to be here.
[00:00:03] Bogumil: As you know, I'm a big fan of your writing, of your books, of your ideas, and I spent this summer reading three of your books, the Behavioral Investor, the Loss of Wealth, and you're not that great. And I, I liked all of them for various reasons, and as I was sharing with you, Some of the ideas I'm familiar with, but I think hearing them delivered in a certain way made them click for me much more.
And I was reading your books very slowly and highlighting a lot of things, and I have a lot of quotes. Some of them are perfect, one-liners that I want to repeat and repeat until they truly stick. So I wanna dive in with you today and go over all three books. If we find time. Hopefully we do. And highlight some of the, the biggest ideas that truly resonated with me and hopefully will resonate with the audience.
If you don't mind, I'd love to start with your childhood and upbringing. I'm always curious how the journey started for you, why this particular interest? How did it all begin? I.
[00:01:01] Daniel: Yeah, I think, I think my childhood and my upbringing are, I mean, childhood and upbringing are always salient when, when talking about how someone creates a life. But I think they're perhaps especially salient in, in the career choices that I've made. So I grew up the son of a financial advisor. I mean, my dad is.
Still a financial advisor. And, um, so, you know, we grew up talking about stock ideas around the dinner table and, you know, sort of vetting different investment ideas and talking about, you know, what, what might make a company investible or not investible. And that's, you know, that's certainly not the experience I think of the average person and certainly not the average American.
And so I sort of grew up steeped in these ideas. Uh, on the psychological front though, it, it really wasn't until I got to college. Um, you know, I went to college with an eye to becoming an investment manager. I really thought that I would sort of in work on the investment side of the house somewhere, perhaps do more like what my dad did.
Um, but, but in my general ed classes, my freshman year, I fell in love with psychology. I mean, I took, I took a clinical psychology course. I took like an abnormal psychology course, which is of course, you know, the good stuff. And, um, I really, really just fell in love with psychology. I. Uh, after that first year of, of college, I had a couple of other formative experiences.
I actually served a two year mission for my church, so I, I left, I left college. I dropped outta college for two years to go do a service mission in, in the Philippines. And so I spent two years, you know, living on the other side of the world, but speaking a different language, you know. Very different cultures and customs and people and I just fell in love with the whole process of, you know, go, having grown up in my whole life in the US having traveled very little, going 8,000 miles away.
I. And just observing culture and values and beliefs and you know, what, what makes one culture different than the other? That psychology was again, top of mind. And then I returned home after that mission to, to resume my educational journey, and a very close friend of mine had developed an eating disorder, and so I sort of became a liaison.
Between her and her family, she was getting inpatient treatment out near where I went to school, and so I, I sort of became a liaison and a go between, between her and her family. So that process sort of, you know, was, was kind of the final straw for me falling in love with, with psychology. So then, you know, went, went on to try and pursue a degree in well and did get a PhD in clinical psychology.
But, you know, long story short, somewhere along the way. Um, just didn't, just really burnt out, really just, uh, was taking my work home with me and I approached, you know, I approached my dad and I said, look, I love psychology. I love studying human behavior. I love thinking about why people do the things that they do, but I don't love doing it in a medical context.
You know, what ideas do you have for me? And he said, well, look, there's a ton of psychology in, in my line of work, which shocked me. Like I had never, I had never, I had thought of my dad as, uh, a math guy and a sales guy.
[00:04:39] Bogumil: Right?
[00:04:40] Daniel: that's what he does. He sells, he, he, He works with numbers and he develops
[00:04:46] Bogumil: Mm-hmm.
[00:04:47] Daniel: And so basically that comment set me down the path to explore the, the human side of money. And you know, the rest is history.
[00:04:57] Bogumil: These are some big, powerful ideas and, and. When I went to school, business school and I studied finance and accounting, we didn't talk much about psychology at the time. Maybe we briefly touched on it, but I feel like it's such a big topic and such a big. Part of why investments work, why some approaches work, and how our human nature gets in the way.
I wanna start with a big question about money. You, you write how our brains appear wired to value money directly and to never, never be fully satisfied in the pursuit of more. And we might think that we see money in terms of what it can buy and means to an end, but you propose a different perspective here.
Could you share more?
[00:05:38] Daniel: Yeah, a lot. Uh, a lot of times, you know, kind of like you set it up nicely there. We think money is as good as the things that it buys, like right. We don't like money that per se, we just like Ferraris or, you know, big, big houses or nice vacations or whatever it is. Uh, but the research shows something different and I think it speaks to. think it speaks to the ways that, you know, first of all, it certainly speaks to some evolutionary roots that, that we can talk about in a minute. But it also speaks to the ways that we've kind of treated money like a panacea, and we, we treat money almost like liquid happiness, right? Like we, we treat money.
Like this yardstick for measuring the quality of a life or the goodness of a person or the competence of a person. And so that is, I think, what leads us to value it directly and not as what it truly is, which is just sort of a means to an end or a tool which can be used for good, bad, or indifferent. Um, but, but we really do treat it as, Sort of liquid, liquid, self-worth, and that's, I think can be, can be really problematic.
[00:06:58] Bogumil: It is fascinating, especially in the investment pursuit because a lot of successful investors continue to work throughout their life long before. Beyond the point where they have all the comfort and the freedom to do whatever they want. And I'm always intrigued what drives them. And you use the term liquid happiness.
And I wrote down a quote that Chris Mayer, who is a successful investor and writer, shared on this podcast. It was a quote from Schopenhauer who said that wealth is like seawater. The more we drink it, the more we want it. Seawater will never. Quenched the thirst, and I like the idea of calling it, uh, liquid happiness.
It has a potential to turn into something that will maybe give us happiness.
[00:07:43] Daniel: Yeah, well there's, there's, there's many rabbit holes we could pursue, but you know, when you, so much of my writing is sort of from an evolutionary psychology perspective, and when you think about the seawater idea for, for millennia, right, for millennia, There was no way that a human being could amass sufficient wealth to see him or herself through their life reliably, because for so long we were nomadic.
Right? Sort of the, the. The things that were stand-ins for wealth, you know, food or shelter, things like that. I mean, when, uh, in, in hunter gatherer days, you, you can't gather, you can't stack enough, you know, meat, meat and berries to last you a lifetime. They just don't. They, they spoil. But now you could stack enough chips, right?
You could stack enough dollars to last you many lifetimes. Yet, we're still not wired for it. We're still sort of working with these hundreds of thousand year old brains who have programmed us to always be striving, always be moving, and it's, it's a hard switch to make.
[00:08:55] Bogumil: Yeah, it's a very powerful idea. I think it's very hard to embrace and the idea of wealth. For the longest time it was the land. If you own the land, you had income. You could earn money on that land through growing something or or renting out the land. And then, Only the last few hundred years we have wealth that's decoupled from the land.
And these days the wealth is even decoupled from the location. And I think it's, it's more. Intangible and harder to comprehend what that wealth actually represents. I have a big question about early investing lessons, and it's a topic that came up quite a few conversations in this podcast about the early years when somebody joins the investment profession or even learns about money, and you say, how, depending on the experience, good or bad, different parts of the brain are responsible for the future investment decisions.
Can you talk about that? Different parts of the brain are activated and work depending on what the early experience was.
[00:09:58] Daniel: There's a couple of ideas to to know here that I think are important. You know, the, the first is something called primacy and recency effect in. Human psychology. So we have an outsized memory for things that happen early in a sequence and things that happen recently in a sequence, right?
So when you look at a human life, you know, childhood memories loom large, right? Because this is where sort of your foundational assumptions are being formed. And then you know what, what happened last week? Looms. Looms larger than it should. A lot of that stuff in the middle has, uh, you know, a disproportionately little power.
And so when it comes to, uh, you know, how we think about money, the way that we're taught, the way that we're groomed, the way that we're raised in those childhood experiences really are so formative. And, you know, I even look in a, in a small way in my family. When I have a brother who's 12 years younger than me and when, when I was born, my dad was cutting lawns and my mom worked at McDonald's.
You know when, when my brother was born, my mo, my mother was staying at home raising the children, and my father was a successful financial advisor. And so we grew up. In financial realities that basically didn't resemble. Each other at all. And you know, the way that we think about and act with money is very different to this day because of those that, that primacy effect.
The other thing to know is that there is this idea of neuroplasticity, which is sort of speaks to the Mali ability of the brain. And the easiest way to think about it is that we can quite literally, the way that a tire would wear a groove in a road or a muddy path or something, uh, we can wear grooves into our brain that then become sort of the default pathway, right?
And so the approaches, the ideas, uh, the attitudes that we have about money, they're formed early. Those grooves become deeper with time. And then they just become sort of the neurological default. So, you know, from, from the neurological level, there's something physical happening there where we're quite literally wearing grooves in our brain.
Um, and then from the psychological level, we have this outsized memory for things that happen early. And, you know, we, a, a lot of my work most recently has been around couples and money. So you look at, you know, two people in a romantic relationship, and I've studied basically what do couples fight about when they fight about money?
And you see that however you grow up is your normal, you know, your, your concept of normal or average, whether it's, you know, great wealth, great poverty, or something in between. Has everything to do with how you grew up. And I think this, you know, the primacy effect and the neuroplasticity plays into that pretty heavily
[00:13:20] Bogumil: It's, it's fascinating 'cause I. Uh, I read stories of various investors and I have my own story, and he, the other day I was talking to William Green, I don't know if you know him, but he studied the lives of many successful investors and
[00:13:33] Daniel: book.
[00:13:34] Bogumil: richer, weiser, happier, and he was sharing with me the story of. F Guy Spear and Monash Bry that many people are familiar with how they're friends and they both follow Warren Buffett.
So you would think that they're alike and they are in many ways, but they had very different upbringing and family's story. And Monish Bry is more willing to take huge risks. He saw his father go bankrupt many times and start over. Guy Puri. More about building lasting wealth and staying rich and it has a different tolerance for risk.
So it's fascinating to see how people who can be very close, even in investment profession because of their background and early experience can have very different views. I grew up in Cold War Poland. The first decade of my life. It was a different world and there was no stock market. Uh, there were ration cards.
The you, you. The stores were owned by the government. They were empty. I didn't grow up with a mindset of, of scarcity, quite the opposite. I, I thought my world was full and complete until I saw the huge change. And I realized the world can be organized in a completely different way. But I have cousins who were born completely missing out on that decade.
And the same way as when you talk about your brother, We remember Poland in a very different way and that they can't even imagine what it was like in those 10 years that I remember as a kid because these are the days when you get really shaped and your expectations and your tolerance and, and even shopping habits.
I. I don't enjoy shopping 'cause the stores were empty. I never thought that going to a shop can be fun and I never developed a big affinity for running around supermarkets and malls, which a lot of my friends do. So it's interesting how you can trace back why you do what you do today because of the early days.
I want to ask you about the crowd. You mentioned in the book how it sometimes pays to follow the crowd, and I'm curious to explore it more. I wrote a book, outsmarting the Crowd, crowd, so outsmarting the crowd. So I think we'll have a lot to talk about on that topic, but tell me more why it pays sometimes to follow the crowd.
[00:15:37] Daniel: Yeah, there, there are times in which the crowd is wise, right? So we'll take sort of a silly example, right? So if you have a jar that's filled with jelly beans or the weight of a cow or something like that, right? Any individual guess is likely to be pretty bad. The aggregation of those guesses is almost always very close to the right answer, right?
I mean, that, that's often really close to the right answer. So there are places where the crowd is wise. You know, I've talked about something like Yelp scores or hotel reviews. I mean, they're remarkably reliable. Right. Like, I don't think I've ever eaten at a restaurant that had a 4.5 or better on Yelp and, you know, and, and walked away Disappointed and I, I rely heavily on, on that.
But these are low stakes decisions that we have a lot of experience making, right? You eat three times a day. You're pretty good at knowing what tastes good and what doesn't taste good. So the conditions for sort of a reliable crowd decision, right? So not super emotional, right? Like where to eat is not an overly emotional uh, decision, right?
You've made it with some frequency, right? Three times a day. And immediate feedback. That's another important piece. We need immediate feedback, right? Like you can go to a restaurant and know within five minutes whether the food is good or not, right? Like you don't, you don't need to wait around for years to figure that out.
But an investment typically violates all of those assumptions, and that's why outsmarting the crowd, as you've written about, excuse me, makes a ton of sense in, in markets. Because the crowd doesn't make all that many investment decisions, right? Uh, they're not all that expert at it. And then Mo, perhaps most importantly, they're, they're super emotional decisions because again, we value money directly.
It's this liquid happiness, liquid self-worth. And then sort of most confoundingly, there's a massive, massive delay. Between the decision point and sort of judgment day. I mean, you think about something like Amazon, you know, buying Amazon stock. Well, for a while that was a great choice, then it was a horrible choice, like it was down, you know, better than 90%.
And then of course, now it is what it is today, which is this incredible thing. So, Is Amazon, you know, is buying Amazon stock a good choice or a bad choice? Well, like it depends, like, you know, it kind of depends on your timeframe, and so it makes investment decisions uniquely thorny because they're ultra emotional, they're low frequency, and there's this really fuzzy feedback mechanism.
[00:18:38] Bogumil: I like that idea and. I look for the extremes, whether it's a recommendation or a rating that you mentioned in books or restaurants, it's always curious to see what the extremes are. At least for me, it's very telling who gave one star or who gave five stars and, and a best note possible. And I'm just curious where it came from and what they really fought and in the market.
I would assume that most of the time the market is fairly correct about valuing, but there are moments of that, of true distress, I call them. And especially on the downside, where you can have an opportunity to buy wonderful businesses at, at very low prices. And most recently it was March of 2020 when people truly panicked.
And then on the upside, there are moments where everybody thinks that, uh, Things will get better and better and you have a bubble and that's the moment where you wanna step away and be more cautious. But it's fun to watch the crowd and sometimes the crowd gives us the right recommendation and sometimes we have to think for ourselves.
I have a couple of quotes that I really liked, uh, three that I wanna share with you and I'm curious to hear more about them. First one is, you were born to fit in, but investing requires you to stand out. The sec. Second one is trusting in common myths is what makes you human, but learning not to is what will make you a successful investor.
And the last one that I really like, I think it's thought provoking. The behavioral investor thinks like a rat carrying only for probability in a world that craves sophisticated nonsense. Wow.
[00:20:11] Daniel: well, we'll, we'll start with the, we'll start with the last one first. And you may have to read some of those back to me, but the, the, the rat research was really interesting. So I actually do this in, in one of my presentations. I have people try and guess, and so what they did is they, they set up this scenario where, uh, 80% of the time, 80% of the time it's a green dot, and 20% of the time it's a red dot.
And so what they ask people to do is to try and figure out what the next dot and the sequence will be. Right? And there's like a hundred dots or whatever, right? So they pop up sort of one at a time. You can tell people this, right? Like you can, you can even tell people the distribution, right? You say be beforehand, okay, we're gonna do this thing.
80, 80% of the time it's gonna be green, 20% it's gonna be red. And so when humans go through this exercise there, there are two clever by half, right? Because what they try and do is they try and game it. They go, okay, well there's been, there's been. Two greens in a row, so we're probably due for a red or like, well we just had two reds, so it's probably time to guess.
A bunch of greens. And they're, they're trying to look, they're engaging in these sophisticated human processes to try and game the system, right? They're trying to find patterns and logic, which is. Human nature. When rats do this, of course, you can't tell a rat about probability distribution. So the way that they do it is when it's green, they get rewarded.
When it's red, they get shocked, right? And so when they guess correctly, right? They get rewarded. When they guess, uh, wrongly, they get shocked. And so what the rats learn to do very, very quickly is to always guess green. They learn very, very quickly. Just always guess green. if it's, if it's right 80% of the time, uh, about the best chance you have is just, just keep guessing green.
'cause four times out of five that's gonna be the right answer. So rats complete this task with a little bit of, you know, with a little bit of experience. Rats get this right 80% of the time. 'cause they always get green and humans are hovering around the 50, 60% mark because they're trying to look for patterns, streaks, and, and, and impose some sort of form or structure where there's truly just randomness.
And so, you know, I mean the, the great parallel here. Is to markets, right? I mean, markets go up, eh, 65, 70% of the time, kind of depending on the market. And yet humans are always, I mean, every year in human history, I mean, this is a great year. Everyone thought the market was gonna tank this year. Everyone thought there was a recession coming.
A lot of times we try and be too clever by half instead of just following simple rules and probabilities, tilting probability in our favor and, and going on what works. Most of the time we try and time every turn we try and time every market move, and in so doing, we're getting outsmarted by people who are literally just doing nothing.
[00:23:28] Bogumil: It is fascinating what you, you say, and I'm curious. I had a guest on the podcast, Luca Alana, who talks about game overs and do overs. So when we play games and I think of success and failure, I wrote an article about success and failure in investing. What does it really mean? And it means different things to different people.
But if the success means that you were in the market when market went up, that's fine. And if the failure means that you went into the market and lost half of it now, If the downside is so big that you can't continue to play, it creates a different dynamic of the decision, right? So the, the rat is deciding, okay, I picked red.
What's the worst? That can happen, a shock, but I continue to live. But if that outcome, the bad outcome was actually, let's say death or in a financial situation, complete total loss, we start to make a decision in a different way. We become much more risk averse or risk aware, whichever way you wanna describe it.
[00:24:26] Daniel: Yeah. Yeah, that, that's exactly right. And I think the, the very thing you're talking about, going back to these evolutionary roots, That's a, that's a rational approach. Like if your life is on the line, you should be very risk averse. And the reason why, you know, we know experimentally that people are two and a half times as upset about I.
A negative event as they are happy about a comparable positive event. And so, you know, everyone goes, oh well that's so irrational, you know, that doesn't make any sense. Well, it did make sense for effectively all of human history because, you know, if you eat. If you eat one wrong mushroom, you're dead, right?
You eat, you eat the you. You know you eat. You eat the right mushroom, so the right plant or the right animal, and look, you have a full belly for six hours. You eat the wrong mushroom and you're dead. And so we still have within us, Those elements, right? We still have within us those elements that say, yeah, losing that a hundred dollars feels a lot worse than gaining the a hundred dollars.
Felt good. And that's why you gotta have risk controls, right? That's why diversification and position sizing and risk management of, of various sorts is so important because it's a perfectly rational thing to become extremely risk averse when, when your livelihood is on the line.
[00:25:53] Bogumil: It is fascinating that you mentioned mushrooms. I grew up picking mushrooms in Poland in the region. It's a tradition that you go to the woods and you pick edible mushrooms, and I was always curious who was the one that tried the bed mushroom, who was the first person that tried and got really, really sick or maybe even died, and then somebody told me that whatever it's berries or mushrooms.
When we think about the initial consumer of those maybe. They didn't have them and try them, uh, because they wanted to. Maybe they were forced to try them, and I never thought about it this way. Maybe somebody made them try it. Do you have some thoughts about the first person to try to bury that kills you?
[00:26:29] Daniel: So I, I don't have any deep thoughts. So my brother, um, my brother is a mushroom forger
[00:26:36] Bogumil: Oh, there you go.
[00:26:36] Daniel: yeah, he has like encyclopedic knowledge of the different varieties of mushrooms, but he'll take, you know, a mushroom he's about to eat and hold it up next to against it's sort of poisonous cousin and I, for the life of me cannot tell the difference between them, but he will go, oh, well it smells.
Oaky or like it has a blue streak or something, they all look the same to me. So, uh, in, in those days, my brother would've been a good one to have on your team. But yeah, it's, they look, they look remarkably similar and, and we'll have to pour out, pour out a glass for all the, all the people forced to eat the bad mushrooms for the good of the herd.
[00:27:17] Bogumil: But that's how it works with investment sometimes. You know, you, you have to make a judgment without trying. I wanna ask you about myths. So the quote was, trusting in common myths is what makes you human. But learning not to is what will make you a successful investor, which is a bigger theme of kind of overriding the rituals, the habits, the principles that we follow everywhere else in our life.
Don't believe in the myths.
[00:27:40] Daniel: Hmm. Yeah. So this is sort of my lofty philosophical take that, that I sort of begin the book the Behavioral Investor with. But if you, you know, if you, if you think in sort of a grand way about what makes us human, Right. You know, it's, is it, is it tools? Like No, you know, Chimps use tools like lots of an animal, you know, crows use tools, you know, is it opposable thumbs?
No, it's not that, is it language? No. Like whales have language. Bees have language. You know, all these things that I think we've traditionally, um, sort of held out to be the, the purview of humanity really. Lots of other animals have them. The only thing that we kind of have going for us, and it's the thing that allows us to build. You know, great cities, churches, governments, economies, is this idea of functional fictions, right? So these are things that, that aren't true, but we treat as true, right? So the borders of the country of Poland, Are not real in the most literal sense, and yet we act as though they're real. And especially when you were growing up, like the borders of Poland versus, you know, one country over that was, that had material consequences, right?
And so things like. Fiat currency, right? Uh, it's not real in the strictest sense, but it has power in that we all agree that it's real. You know, the laws of the US Constitution, the tenets of a religion, like just, uh, human culture is rife with these things that aren't physically materially real in any meaningful sense, but that we treat as real and it allows us, I can get on a plane. Fly to Poland. Right. And, and buy a sandwich. I don't know what they eat in Poland, right? No, but buy, you know,
[00:29:34] Bogumil: You'll find a sandwich.
[00:29:36] Daniel: yeah. Buy, you know, buy lunch. Buy lunch from a stranger I've never met in Poland, who I don't, we don't speak the same language. We're not from the same country. We don't have the same currency, but we can transact that business because of these functional fictions.
Right. Okay. So one of the hallmarks of of the book is that I talk about how things that serve us well in one part of our lives serve us very poorly in another part of our lives. And so these functional fictions, which do so much for us culturally, The reason why we follow the herd and, and perhaps the most interesting, it's hard to say, but this is perhaps the most interesting bit of research that I came across in, in writing the behavioral investor. There's this, there's this famous, uh, study. It's called the ASH experiment,
[00:30:30] Bogumil: Mm-hmm.
[00:30:30] Daniel: you have one line, think of like a bar graph, right? So you have one line on the left and, and three lines on the right, and you, you know, you have to say which line on the right. Looks like the line on the left, right. So I have a couple of young children, they could do this, right?
Like it's, it's super simple. You just match the line on the left with, with the mine on the line, on the right. So individually, everybody gets this, right? Right. Individually, everybody gets this right? But when you put people in groups, 76% of people get this wrong if they're in a group. Where the, where people are in on the joke and they give the wrong answer, right?
So I'm the eighth, if that makes sense. Like I'm the eighth person in line. This, I'm not in on the joke. The other seven people are confederates of the experiment, so they, they all give the wrong answer. And so 76% of the time, when it comes to me on this extraordinarily simple task, I would give the wrong answer Now. We used to think that this was like a peer pressure thing, right? This is, uh, this is just simple peer pressure. Daniel can see that those lines are not the same length, but. He answers as though they are to not, you know, stick out from the group. But what's fascinating is when you hook someone up to a brain scan, you hook someone up to an F M R I machine and you put them through this, what they find is when people are engaging in this experiment, that the part of their brain that is impacted is not the peer pressure part of the brain, it's actually the sensation and perception part of the brain.
So your brain physically changes the length of the line to make you believe that it's matches, if that makes sense. So you have effectively, your brain has created a distortion field. To help you fit in with the crowd, like a physical distortion field to help you fit in with the crowd and make the line the same length.
And it's like science fiction stuff, right? It's like we, it's so primal and so central for us to fit in that our brains will actually change the world around us to help us fit in.
[00:32:57] Bogumil: It is a very powerful idea when you think about it, and it can get us in a lot of trouble investing. I would call it a little bit outsourcing your thinking to the group. And the second thing that you mentioned is we want to fit in so bad that we're willing to make a mistake. Just so that we're not called out as one that doesn't belong to the group.
And I think it's extremely difficult as an investor to always know what you are actually thinking. I mean, the minute you open your laptop or your phone, you see news and opinions and comments about recession coming or not coming, earnings being good or bad, actually five minutes of reading, and you don't really know what you really think yourself and what you're trying to.
Due to distort your own vision so that it fits into the headlines that you just saw. And I think it takes a lot of discipline to be sure what you really think and what's just something that you repeat because so many other people said so.
[00:33:55] Daniel: Well, it's, um, you know, a couple of interesting pieces of research here. One is when you, when you look at the brain itself, this is really important to understand. 'cause the brain accounts for like two to 3% of our body weight. Uh, but it accounts for somewhere around 20 to 25% of our caloric expenditure each day.
So the brain is not that big, but it's very energy intensive. It's very sort of inefficient. It's pulling on way more calories than it, than it should. And so when we look about, you know, there's, there's different ways to, to try and sort of coast a little bit more and not use so much energy. And one of the, one of the most effective ways for us to bring that energy and balance back is to just rely on other people's opinions, right?
If we. And if we watch a toothpaste commercial and they say, nine outta 10 doctors use Crest toothpaste, you go great. Like perfect.
[00:34:58] Bogumil: be good.
[00:34:59] Daniel: What one less thing to think about. Right. And we actually see, I talk about in the book, they hook people up to brain scans and they had them watch cable financial news. And when people were watching, uh, you know, a quote unquote expert on C N B C, the part of their brain associated with critical thinking and decision making actually went to sleep.
[00:35:23] Bogumil: Mm-hmm.
[00:35:24] Daniel: you basically have given the wheel. Of your financial decision making over to whoever's on TV because your brain is tired, candidly. And so I think it's a call for us to be very thoughtful about the inputs. You know, I think it's very, it's a call for us to be very thoughtful about the places and the people and the ideas that we surround ourselves with.
[00:35:49] Bogumil: It is a very powerful image and idea to, to ponder. The big central theme in your book is that we obviously make mistakes and one of the. One, the advice that you share is to to slow down. Slow down our reflexive thinking, and I thought it's really powerful because we talk about the late gratification. I talk with Chris Mayer about delayed reaction and judgment that we can sometimes exercise or choose to exercise.
That gives us a chance to actually pause and think, why am I doing this? Can you talk about that? Slowing down of our reflexive thinking as an opportunity, a chance to make, maybe make a better decision.
[00:36:27] Daniel: Yeah, there were, there were a couple of like quirky little studies in, in the behavioral investor that I really liked, and one of the ones that's, you know, sort of quirky but interesting, looked at people who were bilingual, right? So people who were bilingual make better financial decisions when they are talking through them or reasoning through them in their non-dominant language. So I speak Filipino and English, but I speak English a lot better than I speak Filipino. So if I, if I am asked to reason through a complex problem in Tagalog or Filipino, I. It makes me slow down, right? I have to be more thoughtful. I have to be more deliberative. It goes back to thinking fast and slow. I can speak English very reflexively with very little thought.
To engage the Filipinos speaking part of my brain takes a lot more deliberation. So we also found research that that, you know, when people are presented with two choices, So two choices between sort of equal alternatives and they're, they're pressured to make a decision. 80 plus percent of the time they go with their existing decision. If they're pressured, you know, 83% of the time they're gonna go with the status quo. But if you give them a night to sleep on it, It's almost 50 50 and, and people are able to weigh those alternatives much more evenly. And so, you know, there's, I, I don't know that there's any magic shortcuts here, but a lot of times this sort of old, you know, this old school wisdom
[00:38:18] Bogumil: Mm-hmm.
[00:38:18] Daniel: of sleep on it or like give it a day, there's actually some rigor to it.
And this is one of those cases.
[00:38:25] Bogumil: I like that whenever you're in doubt, sleep on it and that whenever you feel that people tell you you have to make a decision by the end of the day or in the next five minutes, which is actually a very successful selling technique, uh, here. It's a place where you might be making a decision and buying an appliance that you don't actually need, or making an investment choice that is not good for you.
In the loss of wealth, you share many different stories, but there's one that stands out and it's early in the book, and you compare a horrific tropical disease with our wealth habits. Can you tell us more about that and the way you describe it? It gave me chills, but it made me really think about. The wealth habits that we have,
[00:39:10] Daniel: Yeah. So this is, this is a great story and it actually features my, uh, my adopted hometown of Atlanta, Georgia, where I'm coming to you from today. But, you know, if you think back about diseases, there is actually only one disease that has ever been truly eradicated. Do you have, do you have a guess what it is?
Do you happen to know what it is?
[00:39:34] Bogumil: I don't know what it is. Is it the one.
[00:39:36] Daniel: smallpox, so it's small. So smallpox was fully eradicated, like taken off the face of the earth, basically. Right? And the way that we, um, the, the first smallpox vaccine was, uh, rolled out in the late 17 hundreds, but for many years you had flare ups and you know, it was still bad.
So in the fifties, like, you know, mid fifties through 1980, There was a massive coordinated worldwide vaccination effort, and smallpox was eradicated, so that is the only disease that has ever been sort of, and so now the only reason we keep smallpox vaccine. Is biological weapons and stuff like in case some bad guy wants to, you know, cook some up in a lab and shoot it on a missile.
So the other disease though, that we are, we are this close to eradicating is the, the tropical disease in question, which is Guinea worms and smallpox was eradicated. Through sort of the, the usual suspects, right? Vaccine. That's how, that's how you think you would get rid of a dis disease is with a powerful medicine.
But Guinea worms, in the mid eighties, there were nearly 4 million cases of Guinea worms, and it is disgusting, but it's this long tape worm that goes inside of you can be up to three feet long and it's, you know, As miserable as it sounds. And so this was impacting large swaths of Africa. Anywhere that it would go and there would be a big outbreak, it would decimate local economies and health and just, you know, ruining millions of lives.
And the way that it spread. Is that people will go down to a communal watering hole and to try and get relief from the itch and the burn of the worm. They'll go wash their feet in the watering, the, this community water source, and then of course that reinfect the entire village. And so there is to this day, No cure for Guinea.
No, no medicinal cure for Guinea worms. There's no shot you can take, there's no pill you can take. But the Carter Center here in Atlanta has spearheaded the effort to, to get rid of Guinea worms. And at the most recent count, we're down to 13 cases in the world. So it, it is just on the absolute brink of being eradicated.
But there's no pill, there's no potion, there's no vaccine. The way they did it was teaching just a couple of sound behaviors. They taught, they taught early detection, they taught sort of symptom relief, and importantly, they taught sort of community intervention. So basically like, hey, if you see someone that's showing, you know, a, B, C signs of an early Guinea worm infection, you don't let this person within a million miles of your, you know, Of your water.
And so basically the community self-educate and self polices. And so the analogy that I draw in the laws of wealth is that like, look, we are beset by this sort of cancer of irrational, misguided financial behavior. But if we can just get a couple of behaviors right.
[00:42:59] Bogumil: Hmm.
[00:42:59] Daniel: In, in the same way that the Carter Center and, and those folks eradicate or have nearly eradicated Guinea worms.
Um, we can free ourselves of bad behavior by following just a couple of simple rules the same way that they did.
[00:43:13] Bogumil: It's a very powerful idea, and I keep thinking how the principles are well-defined and written down and shared, but embracing them is the hard part. And that leads me to another quote from Loss of Wealth. You write, the fact that people are fallible is your biggest enduring advantage in accumulation of greater wealth, but it's also the biggest impediment to the very same goal.
[00:43:38] Daniel: Right. So, uh, the thing about working in behavioral finance is that, you know, Jason Zweig, who used to write for the, maybe still does write for the Wall Street Journal. Um, He, he talks about how people use behavioral finance as a window and not a mirror.
[00:43:57] Bogumil: Mm-hmm.
[00:43:58] Daniel: so what, what I'm saying there is when, when most people read a book like mine, they go, oh wow, you know
[00:44:05] Bogumil: It's them.
[00:44:06] Daniel: yeah.
Oh. It's like, oh, wow, my, my wife or, you know, my wife or my brother, you know, my mother-in-law totally does
[00:44:14] Bogumil: Mm-hmm.
[00:44:14] Daniel: And like, yeah, I see that with my clients. But I guess what I'm saying there is like, look, Understanding human psychology, I would say, is sort of the only source of enduring alpha because any other, any other non-behavioral sort of market anomaly that gets dis discovered gets arbitraged away immediately.
Because if it's easy to do and everybody knows about it, then everyone's gonna do it till it's gone. But if there's a behavioral core to, you know, your, your signal there. You, you have a shot, you, you have a shot at real arbitrage, this behavioral arbitrage. But the first step is to realize that you're no better.
You're no smarter, you're no luckier than the next person. You know, I talk in the book about the sort of the various forms of overconfidence and it's. We think we're better than other people. We think we're luckier than other people, and we think we have more of an ability to forecast the future than other people.
And thinking those three things is like a recipe for disaster in markets. And so, yes, read the book, learn all about wacky human behavior, but, but know that you're just as wacky.
[00:45:29] Bogumil: So you're telling us we're not that great.
[00:45:32] Daniel: You're not that great. That's right.
[00:45:33] Bogumil: I will come back to that book in a minute, but I wanted to ask you a few more questions about this book because it had so many wonderful revelations for me. One of the points you make is about investment advisors and you have some kind of words for investment advisors.
You explain how they help us. They keep us from making bus big mistakes over a lifetime. So there's actually value added they get. I would see it as getting between the capital, the money, and the client in moments where you can help. Can you talk about that? I, I thought it was really interesting 'cause it's a different way of evaluating the benefit of having an investment advisor.
[00:46:10] Daniel: Yeah, so in the, in the technological world that we live in, a lot of times what technology does is take the most basic form. Of a role or a profession and tries to technologize it and say, oh, that profession is dead, right? So you think about self-driving cars, right? So soon we'll have self-driving cars and then we go, okay, well, oh, I can, I can, uh, you know, go anywhere in the world and I don't need a taxi driver to take me there.
Well, Taxi drivers do more than than just get you there. Like, if I'm in a country that's, you know, maybe unfriendly, a taxi driver's also going to like steer me away from bad neighborhoods, right? A taxi driver is also, if we get, you know, accosted by people who, you know, might be hostile, they're gonna like keep you in good stead and they're gonna talk with people.
So, you know, yes, there's lots of good that will come of, of self-driving cars and fewer accidents and things. A taxi driver is more than, you know, just a, a taxi driver. Uh, there's, uh, there's this idea that, that Rory Sutherland calls the dormant problem. So, you know, you think about places like New York or London where a lot of hotels have dormant. And you say, you know, if you're a hotelier, you say, oh, well, you know, what's the cost of a doorman? We've gotta pay them. I don't know. But a doorman makes 50,000 bucks a year. Like, well, we don't need that. We'll just give everyone elevator keys and, you know, blah, blah, blah. And they can, they can take care of themselves and then we'll save ourselves $50,000.
Well, a doorman is also a concierge. A doorman is also keeping, you know, people from sleeping in front of the door and, and. Keeping the building from running down and they, they, they find that the doorman actually adds a lot of value outside of that. So I think in a world where it's effectively free to trade stocks, it's easy for you to set up an account at a number of discount brokerages where you can manage your own money.
[00:48:16] Bogumil: Mm-hmm.
[00:48:16] Daniel: A lot of people, I think, have sort of prematurely declared the death of the financial advisor. And when you look at the research, and I, I attack the research from, from many different angles with this one, but you know, what we see is that people need an advisor, but not for the reason that they think,
[00:48:36] Bogumil: Mm-hmm.
[00:48:36] Daniel: know, when, when, when people choose an advisor, you know, usually they think, well, I'm gonna hire this person and then they're gonna generate.
Outsized returns for me, and that's gonna be the source of my advantage. And if, if what you're looking from for, from your investment advisor is reliably beating the market, then you're correct. You probably don't need an advisor for that reason, because most of them can't do it just definitionally. Um, but if you're saying, look, I want someone to help me reach my goals and to to stay the course.
People with an advisor are happier, they make better decisions, they have better global quality of life. They have higher levels of happiness, they have better, uh, lower levels of marital discord and Oh yeah. People with an advisor tend to outperform those who don't have an advisor by about 3% a year. So one of the studies I cite was outta Canada.
They can't, they, uh, they made people, they standardized sort of the comparison apples to apples and people of similar educational and income levels who worked with an advisor had 2.7 times the wealth of those who didn't. If they had worked with an advisor for 15 years plus. And you know, the reason that the, the d i y folks are underperforming, the, the people who are advised by three X is not because advisors know every hot stock.
It's not because advisors are timing the market. It's because advisors are keeping you in good stead. They're keeping you from a catastrophic screw up. They're keeping you from making these behavioral mistakes, uh, that are sort of the hallmark of wealth destruction. An advisor does a lot more than an app that isn't always appreciated.
[00:50:35] Bogumil: I think it's a more nuanced and comprehensive way of looking at the role of an advisor, and, and I do agree with you how it seems that we can do it all on our own. But that kind of help can make a huge difference, especially if it's a lifelong pursuit and it, it could be a multiple of what you would've ended up if you tried to do it all on your own.
And related to that, you talk about performance and the investment profession is obsessed about it. The idea of performance because you can quantify it, you can measure, measure it throughout the year, but even throughout the day, you can tell if you're underperforming or outperforming before lunch or after lunch.
But it's not very helpful when you're thinking about a, a lifelong pursuit of, of. Uh, keeping and growing your wealth or a family fortune, and you talk more about personal needs rather than an index, as a way to gauge if you're on the right track. And then you add that because of this approach you might be, um, better positioned to deal with market volatility.
It can enhance your savings behavior and maintain a long-term focus. Can you talk about that? I thought it was really interesting.
[00:51:44] Daniel: Yeah. So this, this idea of personal benchmarking is, I think, useful on a couple of fronts. Um, you know, first of all, it just is, is sensible, right? You know, people often compare their performance to the performance of say, the SS and P 500, but for the average person, You don't want to take, uh, SS and P 500 type risk, and so you're, you're sort of comparing apples and oranges, but at a deeper level, there's a psychological benefit to it.
Which is people in what we'll call goals-based portfolios, right? So these are portfolios that have been personalized for, for you and your values and your needs. Uh, people in goals-based portfolios in one study saved twice as much as those in a control group and in another study we're 10 times less likely to go to cash, uh, during a volatile market, specifically the great, the great financial crisis.
So not only is it sensible and it, does it help you sort of take appropriate risk, reward trade-offs. It, it also has this psychological benefit to you that it, that it gives you sort of the rocket fuel you need to save and the purpose you need to stay the course. And it's actually why I'm a big proponent of e s g, like socially responsible type investing too.
I'm, I'm actually quite cynical. About the good that E S G does. Like, I don't believe that, you know me as someone who would like to see fewer, you know, less tobacco in the world, right? Like, I don't think me divesting my portfolio of, of tobacco stocks. Hurts the tobacco companies much 'cause someone else will just come snap it up and whatever.
It's a secondary market anyway. Who caress. And so I, I don't think that it does much in, in some ways to sort of create the world we want, but from a behavioral perspective, it's extremely powerful. Right? Because if I've got, if I've got the, the Daniel Crosby retire to the Dominican Republic Fund. You know that that looks a lot different than Daniel Crosby fund a, b, C 1, 2, 3.
Right? You know, by, by labeling it. By personalizing it, by imbuing these accounts with our goals, we actually, it reaps some real psychological benefit.
[00:54:18] Bogumil: Perfect. Daniel, I know you have to run. Thank you so much. We covered so much today and I hope we can pick it up at some point and continue this conversation. But for today, I, I really wanna thank you for your time and generosity.
[00:54:31] Daniel: Thank you for the thoughtful approach you took to reading the books. I really appreciate it.
[00:54:35] Bogumil: Wonderful. Thank you for today.
[00:54:37] Daniel: Yes.
