I’ve been re-reading Kahneman’s Thinking Fast and Slow, and the gist is that the only defense against poor decisions is rules, processes and algorithms. So I’ve been thinking of three rules around personal finance.
Don’t Lose Money #
Warren Buffett said that the first (and really only) rule of investing is don’t lose money. Studies by Kahneman and Tversky1 have shown that people hate losing $10 more than they like winning $102. It’s just easier to sleep at night when you make high probability bets rather than going all-in at every opportunity. Charlie Munger, Buffet’s partner, also shared: “People gain long-term advantages by trying to be consistently not stupid instead of being very intelligent”.
Diversify and Hedge Risk #
One of the easier bets we can make, is that the economy will tend to improve over the long run. As humans continue to invent new ways of using the limited resources around us, we often increase productivity and output with the same number of inputs. In that case, it seems reasonable to go long by buying (and holding) total market index funds3. By hedging our risks, we get into fewer stressful situations and avoid making stupid decisions under pressure.
Invest in Yourself and Those Around You #
Money is only one measurement of wealth, and I think time is a more valuable currency. Health, happiness, knowledge, and community are all part of one’s wealth, and sometimes these things will pay off even greater dividends than the markets.
After all, what good is money during times of extreme monetary policies, political upheavals, and impending existential crises? We might as well hedge for those risks too and enjoy things while we can ๐.
Notes #
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This is probably why lotteries and casinos make winnings seem disproportionately bigger than the cost to play a game, even if the chances to win are infinitesimally low. ↩︎
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But only investing in total market index funds doesn’t fully protect you from risks. As John Maynard Keynes once (roughly) said: In the long run we’re all dead. And markets can remain irrational longer than you can remain solvent (or alive). Some money under the mattress, metaphorically, might always come in handy ๐. ↩︎