Several years ago, I took an interesting philosophy course. The instructor suggested that in order to become “wise”, we needed to embrace some critical concepts. I’ll call this concepts “The Circles of Knowledge”. The main points go something like this:
- There are things you know you know- I know I know that the earth is round.
- There are things you know you don’t know- I know that I don’t know how to speak French.
- There are many more things you don’t know that you don’t know-I don’t know for example, that left handed people named Skip are five times more likely to have sleep disorders, nor did I know that there was was an organization looking into this phenomena (there isn’t really but you get the point).
- Paradigm Shifts- “There are facts, and people’s interpretation of facts”
What’s Your Money Paradigm?
To further illustrate, consider Steven Covey’s example of a “Paradigm Shift” from his book “7 Habits of Highly Effective People”. Covey tells a story about an experience he had on a quiet Sunday morning New York subway ride. When a man and his children entered the subway car, the children became loud, rambunctious, and disturbing to everyone in the car. It was obvious that everyone in the car was disturbed by these children, and even more irritating that that the man didn’t seem to want to do anything to attempt to calm his children down. Covey explains to the man that his children were disturbing a lot of people and asked politely to try and control them. The man, seemingly oblivious to the situation replied “Oh, you’re right. I guess I should do something about it. We just came from the hospital where their mother died about an hour ago.”
The moral of this story is, one’s perception and opinion of facts are based on our own interpretation of events, coupled with our common sense, personal experiences, and knowledge of a particular subject (knowledge is a dangerous thing). Our opinion may not always lead us to the correct conclusion. This is the case with money too.
Why do People Make Dumb Mistakes?
No matter how many times we experience volatility in the markets, people still run for the hills at the first sign of trouble. Even though “buy low, sell high” has been drilled into our heads at nausea, people are still human and will run for the exists when someone yells “fire”. This is human nature. There is an entire field of study in people’s reactions to money called “behavioral finance”. How about another example?
Ever held a stock that kept going down? Remember the Internet bubble? You held on to the stock because you thought it would come back right? The stock was originally $75/share, but now it trades at $10/share. You held on because you think that the real value is $75/share. That’s called “anchoring”. A popular example of this is the price marked on a car at the dealership. You determine how good of a deal you got by how much you were able to knock the salesman down, having never known what the “real value” of the car was. When it comes to the price of the stock, the “real” value is generally determined based on the fundamentals of the company, and comparable investments, not what the price of the stock was in the past. The fact is that the information changed. The price it is, or was, could have been an overreaction or not. The fact that the stock is a fraction of what it once was, likely has nothing to do with the current attractiveness or value of the investment.
So now you still have that stock in your portfolio right? Studies have shown that people have a tendency to hang on to “losers” (perhaps not just investments?) because they are biased toward inaction. If you sell and the stock goes back up, you have made a BAD decision. If you do nothing, your inaction feels less painful somehow even though the results are still just as bad.
Why I’m Here
There are things you think you think you know that you don’t. There are many more areas where you have absolutely no knowledge of something that is important and you never knew about the issue, or how important the issue was to you. I’m here to help educate you about money and understand what’s important from my perspective. Enjoy!