In The Psychology of Money, Morgan Housel takes you on a wealth-building journey to explain your financial brain. In a series of 19 lessons, we learn that if a Janitor can save, invest and become a multi-millionaire, so can you. But is it as simple as saving and investing over long periods of time? Let’s find out.
In this Psychology of Money Summary and Review, we group the stories into logical sections. And we connect a few dots within the book and look at some big ideas.
Here is a quick overview, feel free to jump ahead.
Psychology of Money Review
The Psychology of Money is a fantastic book. It has to be read to be truly appreciated. No summary or shortcut blog post will truly do it justice.
It is written simply and beautifully in short chapters, that touch on various components of the human condition. Told through stories within stories, across the spectrum of financial history and beyond.
It is a book that is worth reading and studying. The first read is mind-blowing with so many ideas and fresh takes on financial behaviour. There is no technical information or stock tips or market analysis. On first read, you may come away with a feeling and some ideas. But those ideas and central themes become apparent on subsequent re-reads as they repeat throughout the book.
The Psychology of Money is a Must Read for anyone slightly interested in personal finance. It is one of the most important finance books to be released in recent times and is required reading.
Psychology of Money – Three Key Takeaways
- Every day people can become wealthy
- Invest by starting small, compound your investment, and over time, even a janitor can become wealthy.
- Building Wealth is easy, but Staying Wealthy is more difficult
- Building wealth is based on your savings rate, and staying wealthy is based on your wealth mindset. Where you must remain “financially unbreakable” during ups and downs in the market.
- Focus on what you can control and Avoid Financial Wipeout
- Focus on what you can control (saving rate and investing) and Plan for the Unplanned (market fluctuations and average returns). And Ignore what you cannot control (News, other investors, distractions) to avoid a financial wipeout.
Psychology of Money – The Biggest Takeaway
The Psychology of Money opens with Ronald James Read, an investor, Janitor and gas station attendant who became a multi-millionaire through investing and compounding his returns.
What makes this story extraordinary is that Ronald James Read was no extraordinary investing genius. Ronald Read is inspirational because his method is repeatable and achievable by everyday investors. That means you and me.
To repeat this level of success, there is no Warren Buffett level of investing insight required. Ronald James Read made “moderate returns” over a long period of time and made millions.
The biggest takeaway from the Psychology of Money is if a Janitor can save money, Invest, and Build multi-million dollar wealth, anyone can do it. There is no magic and the investing process of saving, investing and compounding over time is simple. That is why we should be inspired by Warren Buffett, but take our inspiration from Ronald James Read.
Psychology of Money Summary
The Psychology of Money is deceptively simple. It has 19 stories and a confession that takes you on a financial journey through the winners and losers of history. Themes are repeated and extrapolated throughout the book. Every summary of the book written so far has taken every chapter as a single piece of information.
Having read through the book multiple times, we have analyzed and grouped the chapters into thematic sections. And the first section sets the foundation for re-wiring our money mindset.
1. Past Experience Drives Bad Decisions
Financial Education is not Taught. It is usually learned (the hard way) by losing money.
We all do “crazy stuff” with money, but that’s ok. In the grand scheme of economic history and bad decisions, we are hard-wired to make those bad decisions. It’s not completely our fault as we view our financial decisions through a lens of past experiences and flimsy frameworks.
Fortunately, the good news is we can learn new behaviors and make better financial decisions. And this is where Housel comes into the picture, to explain our brains, and to shine a light on what we cannot control. This starts with Luck and Risk.
Luck and Risk on the Road to Wealth or Wipeout
Most of our success is based on luck (success) or risk (failure).
Like flipping a coin, luck and risk are doppelgangers. If you play the financial game long enough, you can be fooled into thinking your success is skill. But it may just be prolonged luck, and like all things, luck can run out.
Luck and Risk cannot be controlled, but they need to be managed.
Too much luck can make you greedy. Greed can lead to bigger financial risks to maximize success. More risk can lead to bigger mistakes. And bigger mistakes can lead to the worst-case scenario – a financial wipeout. This is when a loss is so extreme, you cannot play the game any longer. And a financial wipeout removes any chance of getting back into the game.
How Much is Enough?
On the Road to Building Wealth, we need to define how much is enough.
At some point, when luck is confused with skill, the concept of “enough” may get lost in the process. The goalposts of success should not be moved. And understanding how much is enough will reduce the appetite for risk in the pursuit of more than enough.
The key point is there is a duality to everything. Heads Vs Tails. Luck Vs Risk. Wealth Vs Wipeout. The trick is to sit in the middle of these, using a “barbelled” approach to ensure the world, that you barely understand and cannot control, can be managed. And a “moderate” approach can build wealth, as we will see in the next section.
2. Everyday People Can Get Wealthy
The secret to wealth is compounding.
It’s the fuel that makes small amounts of money grow into fortunes. And it doesn’t require a lot of effort or investing skill. All you need is time.
Understanding compounding is fundamental because then you will understand what is possible. Small investments over a long period of time can lead to astronomical results. And anyone can do that. Even Warren Buffett, a famed investor built his fortune with skill, but mostly, with compounding.
But to benefit from compounding, you will need to survive all the unpredictable ups and downs that we will experience. Building wealth is important, but staying wealthy is the skill that matters most.
Financial Survival means being “Financially Unbreakable”
Money success relies on financial survival. And survival mode means being “financially unbreakable”. So that your investments are never interrupted and can compound over time. Survival mode means knowing that your plan will not go according to plan. And a margin of safety is a must.
If you survive, your success can rely on a flip of a coin. Luck is involved, but you can be wrong half the time and still make a fortune. Housel explains that “Tails drive success”, as the outliers in finance can account for a majority of outcomes. And the best investors make the most of their gains from a small percentage of their stocks.
The key point is everyday people can get wealthy, with compounding and patience. And with the right amount of frugality and paranoia, they can retain that wealth by being financially unbreakable. Which then leads to Freedom. Where money is used to buy time and lifestyle options.
And what drives all of this is a Wealth Mindset.
3. Wealth Mindset – Wealth is what you Don’t See
Staying Wealthy is the skill that matters most.
In a world driven by Luck and Risk, it’s naïve to believe that your wealth is purely skill. Luck runs out and Wealth can disappear. When wealth is created, that frugality and paranoia will help you stay wealthy. And this is where the wealth mindset comes into play.
Wealth is what you don’t see. Housel explains that “Spending money to show people you have money is the fastest way to have less money.” We judge wealth by outward appearance, based on people’s clothes, cars and homes. But is that true wealth? Or is this acting rich? Housel believes that real wealth is hidden and not spent.
Money is NOT made to be spent
Unfortunately, we are ingrained to have money and spend it.
Being wealthy requires restraint, which means not spending money. And since we can’t see it, how do we learn about it? So the default is to earn it and spend it.
But the everyday person can become wealthy because building wealth has little to do with your income and investment returns and lots to do with your savings rate. Spend less and your wealth will grow.
Personal savings and frugality are in your control and you have 100% chance of being effective in the future. In a world you cannot control, savings can be a hedge against unplanned surprises. Such as job loss or market meltdowns.
The key point is that saving by spending less, reinforces your financial un-breakability. So your investments can compound uninterrupted if things go wrong. Such as a job loss or market meltdown. By not spending money, any unplanned surprises are easily managed. And this is how to increase the odds of staying wealthy,
4. Plan for the Unplanned
You need to allow for surprises and plan for failure.
There is no such thing as a sure thing. History can inform the future, but it’s not a map of what comes next. There is no guarantee and the world is full of surprises that you cannot plan for.
Housel explains that “Things that have never happened before happen all the time”. And the greatest financial plan can fall apart as we have no idea what might happen next. And that is why we need to allow room for error.
Plan for Failure and Assume lower Returns
In the likely event that you are wrong at some point, can you survive if your assets drop 30% financially, mentally and physically? A person with enough room for error in their strategy has an edge, as they can endure hardship and not get wiped out.
And room for error should be used in estimating returns. Assume returns will be 1/3 lower than the historic average. And if the future does resemble the past, it’s a nice surprise. And using leverage or taking any risk that can wipe you out is not worth taking.
To plan for the unplanned, you need a barbelled approach to money. Take risks with one portion and be terrified with the other. You want to ensure you can survive long enough to succeed to see the risks pay off. And the room for error protects you from things you never imagined.
And it’s important to understand, in life everything that can break will eventually break. All it takes is a single point of failure and this includes your finances and a sole reliance on a regular paycheck to survive. That is why you need to save money and become financially unbreakable. This will reduce the likelihood of that potential catastrophe.
Plans will Change and Nothing is Free
Surviving that, your plans may also change over time. A 30-year plan may only last 5 years. Or 2 years. You don’t know what you will want in the future. You need your plans to be “moderate”, and flexible enough to change as you change. And avoid the extreme ends of financial planning.
The key point here is the world, your plans and your life will change from internal and external forces, there is a price to pay to building wealth. Markets go up and down, and managing finances is easier in theory than in practice. There are no shortcuts to wealth, nothing is free and it is never easy. Plan for the unplanned, find the price to building your wealth and pay it.
5. Expect Curveballs
Even with a plan that won’t go according to plan, there are more curveballs to come.
These curveballs can be inflicted by an innocent comment or idea from another investor. In the face of an impending bubble bursting or crash, it is easy to take cues from other investors.
Financial advice does not have a one-size-fits-all approach. There is nuance, and it will always depend on your current investments and situation. You cannot take advice from investors playing other games with different timeframes. The game is wildly different for long-term and short-term investors.
You need to identify the game you are playing and stick to it. And ignore the financial cues of others if the game they are playing doesn’t align with yours.
Negative News and Tomorrow’s fortune
And these financial cues include that of pessimists and news cycles that peddle doom and gloom. Optimism is required to be successful, as a good outcome is possible, even if there are setbacks along the way.
Growth is driven by compounding which always takes time. Forget today’s news and focus on tomorrow’s fortune.
You know the price, and you have to pay it. You need to be positive. News cycles are negative and need to be ignored or blocked out, as that narrative should not change your resolve. The risk of financial danger provides undivided attention and can be very persuasive.
These curveballs can infiltrate your mind and your plan.
The key point here is that financial information, negative or positive, can color your financial reality. There is so much you don’t know, and so much of what happens in the world you cannot control. That can be hard to accept but that is why room for error, flexibility and financial independence are so important.
Being financially unbreakable can help manage the never-ending curveballs.
7. All Together Now
For such a complicated subject, the psychology of money takes you on a round trip of your brain to tell you something very simple. Housel brings it all together into a neat summary, within the following dot points.
- Invest by starting small, compound your investment and over time, and even a janitor can become wealthy.
- Focus on what you can control (saving rate and investing) and Plan for the Unplanned (market fluctuations). And Ignore what you cannot control (News, other investors, distractions). Expect curveballs and avoid a financial wipeout.
- And know Nothing is free, Define the cost of success and be ready to pay for it.
And with all of that information, Housel takes the reader through how he personally invests.
How Morgan Housel Invests
Independence has always been Morgan Housel’s personal financial goal. And his approach to his personal finances aligns perfectly with the insights within the book. Let’s take a look.
High Savings Rate
Housel has never been interested in chasing the highest returns or leveraging assets to live a luxurious life. He believes that independence at any income level is driven by your savings rate. And past a certain level of income, your savings rate is driven by your ability to keep your lifestyle expectations from running away.
Despite increasing incomes over the years, Housel hasn’t expanded his lifestyle spending. He has pushed his savings rate higher. Adding more to his “independence” fund. And rejecting the idea of keeping up with the Joneses, comfortably living below what his family can afford.
Owns His Home with 20% Cash
Housel owns his house without a mortgage for peace of mind. And he is happy with this decision. And he has 20% of his assets outside the value of his home in cash. Because he never wants to be put into a position where he needs to sell any stocks. Making himself by his own definition, “Financially Unbreakable”. As Charlie Munger says “The first rule of compounding is to never interrupt it unnecessarily.”
Regular Index-Fund Investment via Dollar Cost Averaging
Although Housel started his career as a stock picker, he only owns low-cost index funds. He believes that every investor should pick a strategy that has the highest odds (luck and Risk) of successfully meeting their goals. And for most investors, dollar cost averaging into low-cost index funds will provide the highest odds of long-term success.
Housel invests money from every paycheck into a combination of US and International stock index funds. One of Housel’s deeply held investing beliefs is that there is little correlation between investment effort and investment results.
And Housel explains his investing strategy beautifully…
“My investing strategy doesn’t rely on picking the right sector or timing the next recession. It relies on a high savings rate, patience and optimism that the global economy will create value over the next several decades. I spend virtually all of my investing effort about those three things – especially the first two, which I can control.”
If you enjoyed this Psychology of Money Summary and Review, why not take a look at Robert Kiyosaki’s Capitalist Manifesto Review and Key Takeaways.
Final Thoughts
The Psychology of Money begins with Ronald James Read, and ends with Morgan Housel. They are two sides of the same coin. Read being the Multi-millionaire janitor with a simple investing strategy focused on compounding.
And we have Morgan Housel, a stock picker, Wall Street Journal columnist and winner of various business writing awards. He has the world of financial history and decades of data at his fingertips, and he has the same strategy.
Save your money, Invest often over time and let your investments compound. These repeatable steps make being financially independent achievable for anyone.
The Psychology of Money is a fantastic book, deep with insights and themes that will be unpicked and discussed for years to come. Or until Housel releases his next book, which is coming soon.
M. Moneyman
