May 28, 2025 • 31 mins
Kirk Loury, a portfolio and wealth strategist, delves into the realm of behavioral investing. This field examines how cognitive biases, or the way our brains process thoughts, influence our financial decisions and investing behavior. Loury introduces key behavioral biases, starting with loss aversion, which is the tendency for the fear of losing money to have …
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(00:02):
I'm Jeff Hakim,
founder of MCM Wealth.
Welcome to our podcast today.
We do these podcasts to advise families,
business owners, and health professionals.
Our approach is to build
customized portfolios
for each client
while offering
comprehensive
financial planning services.
(00:24):
Thank you for joining us today on this
educational journey designed to protect your future.
Hello, and welcome to the MCM podcast. I'm
Wendy McConnell.
Today,
we will be speaking about behavioral
investing with Kirk Lowry,
portfolio and wealth strategist at MCMWealth.com.
(00:46):
Well, hello there. Kirk, how are you? I'm
doing great, Randy. I hope you're doing well
too. Oh, yes. We're finally we finally have
hit spring.
The weather's warming up a little bit here
and there. So, you know, I'm a little
bit in a happier mood. My seasonal affective
disorder is going away. There we go. Yes.
Yes.
So today, we're gonna be talking
(01:06):
about
behavioral investing.
And I'm not really sure what that is,
so we're gonna dive right in. Okay?
Well, the good thing to know is behavioral
investing has nothing to do with parents and
children. Okay?
Okay.
So as it goes you know, it's it's
interesting.
Behavioral investing is is becoming pretty popular, kind
(01:28):
of trendy.
Has, you know, different versions of it. The
academic versions are cognitive biases.
Our our cognition is
our thinking.
And, of course, you know what a bias
is. Mhmm. You know, biases can be,
informed biases. I like nice spring days as
a bias that you and I have. Right?
(01:49):
And biases can be uninformed, which, you know,
has been throughout, unfortunately, human history.
But but we're gonna talk about cognitive biases,
and it's it's how our brain
works, how it is, how thoughts get processed
or don't get processed, and how that affects
our behavior.
And then specifically
(02:10):
here, our investing behavior
because why not. Right? It's,
you know, as it goes. So, you know,
the interesting thing about this, Wendy, is it's
a really well grounded
area of psychology,
and it's been, well recognized and well rewarded.
But there is some intrigue
about this. Can I tell you a little
(02:32):
bit about the intrigue to start?
Let's, please. Okay. Let's go.
So
there are three
main pioneers, fathers, we might call them, because
they're all men, in in behavioral economics and
behavioral finance. There's Richard Thaler, Daniel Kahneman, and
Amos Tversky.
And Richard Thaler won the
(02:53):
Nobel Prize in 2017,
and Daniel Kahneman won the Nobel Prize in
02/2002.
And Amos Tversky won the MacArthur Fellowship. I'm
not exactly
clear why,
although he had passed away by the time,
I think, his partner Daniel Kahneman
got the Nobel Prize. I'm not sure why
diversity was
(03:14):
excluded from that. But, anyway,
if you have to be excluded from the
Nobel Prize, winning the MacArthur Fellowship, which is,
like, the genius award, ain't too bad. Okay?
So, you know, it had moved along. And
what what
Kahneman and Diversey did is they created a
number of interesting experiments on how people thought
(03:35):
about
things like losses
and gains.
And it's and that was really the core
of it. And and the the expansion of
it we'll talk about today are derivatives
of that research.
But here here's the interesting intrigue. So they
Daniel Kahneman,
was a professor
at Princeton until just recently. I'll tell you
(03:56):
a sort of a sad
outcome
of of that whole thing.
But,
he and Tversky had
collaborated
throughout time,
and I've not met either one of them.
I've done a lot of reading, but about,
you know, their work together and separately.
But the what I've read is Amos was
(04:16):
a very engaging guy.
And so he was
he was the one that was speaking a
lot and so forth, and Kahneman was a
little bit I don't know. Do we call
it jealous or felt that he wasn't getting
the same recognition?
And, you know, again, isn't that crazy how
that flipped when he gets the Nobel Prize?
I suppose that thought sort of should have
gone out of his mind at that moment
in time when he got the
(04:38):
got the call for the prize. But, anyway,
you know, they're like a lot of thinkers
and and coworkers, they had their issues.
But they managed to move along and and,
and yet gave Greg credit
to them in their processes of of talking
about the other. So, anyway, Daniel Kahneman ended
up dying in 20018.
(04:59):
As it turns out, Kahneman's wife had also
died. So
this is where the intrigue comes in a
bit. So
in his last part of his life until
just here recently,
his partner was Amos's wife.
Right? So it gets a little confusing, you
know, with that, but, you know, you have
to give them credit. Right? Let's not prejudge
(05:20):
it. Let's give them credit for, finding something
within themselves and, obviously, their their history with
their, respective spouses.
But this is where the intrigue came into
play. Just last week, there was an article
in The Wall Street Journal, an essay about
Daniel Kahneman. I did not know this,
but he and his
his partner, Barbara Traversky,
(05:40):
went to Paris with their I think their
children's stepchildren or some mixture like that and
had a wonderful time in Paris,
enjoying all the sites and dinners and everything
else like that.
And Daniel Kahneman flew then to Switzerland where
he committed suicide.
And this had been his plan. He actually
I think of the way it worked out
is as he was either on his way
(06:02):
or he got into Switzerland or whatever, he
sent emails to people saying this is why
he did it. His health was failing.
He was anxious, I think, about his his
cognitive capabilities. He was 90 years old,
and he chose to end his life on
his terms.
Okay. And that just literally,
happened here, I think, maybe December 24, something
(06:25):
like that. So it it's sort of an
odd, sad story, but, you know, a brilliant
mind, a brilliant person. And, we're gonna spend
our time talking about the implications of their
research
because I've I have to say that of
a lot of areas of psychology, I find
that behavioral
finance
cognitive bias is really practical
(06:46):
and really useful, not just in investing, but
just generally. So can we get started with,
some definitions here?
Yeah. Absolutely. Alright. So let's talk about loss
aversion.
In in our podcast, I focused a lot
on how to avoid losses because losses have
real economic impact.
And and this is really the first,
(07:07):
outcome of Kahneman's and Tversky's research, and it
came to be known as prospect theory. And
the idea is what is the prospect of
a win versus a prospect of a loss?
And what they came to realize
is that people have what's called loss aversion,
that the prospect of loss
has a greater influence on decision making than
(07:29):
the prospect of winning.
And we always talk about the the the
greed
and the the the loss choice that people
have.
And
the way I'd like to think about this
is that when we lose something,
something is taken away from us.
But when we don't get a gain, we're
(07:50):
just where we started with.
Nothing lost, nothing gained. Exactly right. So I
there there's some rationality
to it. But because of this loss aversion,
people look at investing very differently. And what
we wanna focus on here today after we
go through some of these definitions
is is how we can gain some awareness
(08:10):
about it. So loss aversion
has some very practical things about this. We
talked about this in the podcast on
on forecasting.
You know, if we know that we can
lose something like our life
or our house
or our health by doing things that are
unhealthy, improper, etcetera,
(08:32):
then
that is a a a life saving. It's
it's a it's a survival
instinct component to it. So let's recognize that
loss aversion
does have some very practical
benefits and practical importance,
for us. So we think about then the
next one is is this confirmation bias. And,
boy, this is something that that we all
fall into, and I think it's very true
(08:54):
in our in our day now.
And and that is with the Internet,
we have access for the first time in
the history of the world to information that
that otherwise would be unavailable.
And we've had this now for a generation.
I'm sorry. Say it again? Instantly, at least.
Yes. Instantly, at least. And what's happened in
the last eighteen months with AI
(09:15):
is we are able to pull out
from this vast store of information
and and make it understandable
to help us think about it instantly,
rightly said.
So what happens is when we do our
searches, we tend to search for things that
want that confirm what we think.
(09:37):
And we do that because maybe we're not
sure about what we think, but we also
might want to make sure that we have
we are armed with information if we're challenged
in what we think.
So it's called confirmation bias, and it's really
seeking out that
information that confirms what we believe
and ignoring contradictory
(09:57):
evidence. You know, we see this in what
information people seek in terms of their social
media, in terms of the the news shows
thing. They watch the people that they listen
to on podcasts.
You know, all these things
are what people seek, and and that's a
that's a danger
of that because
information changes. Information
(10:19):
previous information we thought was right has been
proven wrong, and information that we thought was
was wrong has been proven right as we've
gone through this, a lot of it through
scientific studies. So that's a real issue for
us and very timely in our day. Now
the other part of that and quite related
to it is is the overconfidence
bias.
And that is the more we get our
(10:41):
opinions confirmed by others,
who might likely themselves have the same confirmation
bias, we get overconfident
about this. But it also goes to this
matter that when we get a confirmation
in what we think,
we naturally tend to shift away from believing
that, oh, it was just luck or coincidence
(11:03):
to believing that it's because of my skill
or my insight and wisdom.
Now that might be true,
but not always the case.
And so we happen to think about this
in that way. I I
I I chuckle a little bit about this,
example in my mind. So, you know, Carl
Lewis. Do you remember Carl Lewis?
The runner? The runner. The sprinter.
(11:25):
The greatest Olympic athlete. One of the greatest
in history.
Super fast
world record holder in the long jumper and
so forth. So
I think Carl Lewis had
confirmation bias and overconfidence in in his athletic
ability. Right? Understandable.
So he gets asked one year to throw
up the first pitch. I forget which teams
(11:48):
it was, you know, that started the season
to throw out the first pitch.
And you know when he couldn't throw?
He he got on the pitcher's mound and
threw it, like,
12 feet to the left of where he
was and Oh, no. Understand. And it it
was really quite funny
because it was so shocking that this here,
this great athlete
(12:08):
the fact that you're a great athlete in
one area doesn't mean you're a great athlete
in all areas, and that's kind of a
couple that's percolating in my mind about that.
So we find this this aspect of this,
with herd mentality. Herd mentality, I think, we
kind of understand these days, and that is
where people are moving, we wanna be with
them.
And so we see this in investing. We
(12:30):
see this in social media.
Obviously, as as people move along
in a in a trend
as it goes, you know, they they wanna
follow that trend. That's been the story of
how fashion has moved through
our society and how language and other things,
movies, all of that has moved because of
the herd mentality.
And and
(12:51):
investing bubbles
and and investing busts
are driven by herd mentality. And we can
see this just in this very day, how
even a couple weeks ago, people were very
positive about where the markets were going, and
now they're not. It can change in an
instant.
And it is the herd mentality is very
apropos
(13:11):
because we've all seen these massive
herds of of ox and deer and so
forth and or keys flying in the,
you know, in in the sky and so
forth. And for whatever reason, something changes, they
immediately
all change
the direction.
Yeah. So it's it's very understandable.
Right. For them, Wendy. Alright. Recency bias. Recency
(13:35):
bias says that I am going to give
more weight to the information I've heard most
recently.
Again, related to herd mentality.
It it sort of divorces ourselves from the
history of thought or the, of our thoughts
or the the even
information change that we utilize
and that we can get divorce ourselves so
(13:56):
very quickly from that, but very much driven
by, you know, headlines. And again, I'm gonna
put this a bit on social media. Anchoring
bias.
Anchoring bias is a very similar notion,
and it it goes to relying on information
I initially heard.
Maybe that first thought or that first class
or whatever that we might have gotten information,
(14:17):
we anchor on that.
And we don't allow ourselves to realize that
information can evolve and change in that context
and that it might not be quite correct.
You know, a lot of it is how
we were schooled and and so forth and
how we learn to read. We have a
anchoring bias that that causes to think that's
how everyone else should learn in that way.
(14:40):
So these are just a few of the
areas where in behavioral
finance,
people have developed these these tendencies, and you
can have multiple tendencies at work
all at the same time.
So
let's talk about loss aversion. How does that
impact investor behavior, and what strategies can be
used to mitigate its effects?
(15:02):
Well, it's interesting. There there are two aspects
of loss aversion.
The first one is, by definition,
we fear losses more than the gains.
And what happens in this
is that when an investment starts to lose
money,
we are afraid of losing more money.
(15:23):
Now the rational
thought would be, okay. Well, if I'm going
to lose money, let me get out of
it now.
But what ends up happening too often is
that people let the loss. They wanna they
fear the the greater loss, so they allow
that
investment to continue to lose
and lose and lose. And one of the
(15:43):
interesting aspects of investing
is that it's not just being able to
pick good investments,
but it's having a sale a a a
a a selling
discipline
to help me know when to get out,
to take my profits,
or to or to,
minimize my losses.
(16:03):
And because loss aversion is this odd thing
that when losses begin to happen, we are
so fearful of losing more money that we
stay with it with the hope
the hope that it will recover.
And and it becomes one of these sort
of irrationalities.
It's sort of the gambler's sin
where they've lose you know, they lose and
lose and lose, and so they keep putting
(16:24):
more money and more money into it because
not to necessarily gain, but to keep avoiding
more losses.
And and and this is really a problem,
why a lot of people end up losing
far more money than they should. We've seen
this with cryptocurrency
where the the the fear of a greater
loss
almost paralyzes our ability to think rationally.
(16:46):
And so we wanna be able to put
into our investing behavior, you know, protection devices.
Some of these things can be done
tactically, like putting in stop loss orders as
an example or or buying a a a
put option to protect ourselves from losses. But
a lot of it also is just having
that discipline, being able to talk things through,
(17:06):
not allowing ourselves to get caught up in
in in the anxiety of of of of
the loss
as we go forward with that. Well but,
Kirk, don't
isn't the general rule of thumb and I
guess it's more specific to long term investing
is to kind of leave it, and it'll
come back up eventually.
Right. That that's the rational view of it.
(17:28):
That's the wealth plan view of it. That's
having an investment plan, knowing that you've got
money
to pay your bills so you can be
divorced
from some of the headlines.
Because the investing reality is in most instances
is that the loss in the market as
we've been experiencing this these last few weeks,
(17:49):
there might be some companies that are gonna
continue to lose to bankruptcy
as an example.
But most instances,
losses in the market in that with particular
investment or even a particular stock
that eventually markets recover, and you can outgrow
your losses.
But people are so fearful of that that
(18:10):
they will either sell too soon
or they will allow it to go to
nothing. And that's where the selling discipline goes.
But if you do have a plan
and you have enabled yourself to be divorced
from that recency bias,
then you can start thinking about this rationally
and know that I don't need to worry
about
(18:31):
losing because I have other resources. I have
an emergency fund. I have a plan. I
have diversification.
Okay. So let's talk about herd mentality then
in investing and how it can lead to
market bubbles and crashes.
Right. So the the herd mentality or have
you heard of the acronym FOMO?
Oh, of course. Yes. Fear of missing out.
(18:51):
Fear of missing out. You know, that is
that is the opposite of the of the
loss aversion.
And and it's it's very much of a
social
compromise, I suppose, that we make that we
wanna not,
lose out what our, you know, mostly our
friends,
have achieved.
And so we we end up buying in.
(19:13):
And pretty much every bubble that has existed
in history is based upon this herd mentality.
That and the winners of the herd mentality
are those that were in early. And there's
a lot of nasty games that are played
by those who know that they were in
early
and continue to push that so that they
can then get out
(19:34):
when everybody else is starting to get in.
And and, you know, there's actually a a
stock investing scheme called pump and dump where
you pump
a a a stock, talk you're touting it
over and over and over again, and people
start getting into it. This is the main
stock idea
that we've seen, you know, quite frequently in
even recent times with True Social.
(19:55):
And and, you pump it up, pump it
up, and then you sell it as people
are starting to get into it. So the
losers
of of herd mentality are those that get
in last.
And the other side to it is when
they those that have loss aversion,
that they continue to to
experience those losses. So people that had gains
(20:15):
are selling selling because they don't wanna lose
anymore.
So hot you know, the the whole herd
mentality is very much on both sides
of of the the, details of of market
behavior.
Can you give me an example
of overconfidence
affecting investment decision making and, you know, what
are some of the signs that an investor
(20:36):
might be overestimating
their abilities?
Well, when you think about the,
matter, you know, of cryptocurrency
as an example,
the criticism of cryptocurrency,
which I share, is that there's nothing behind
it.
It's only this
this wreck this willingness
to say that
(20:57):
people want it.
Right? There's nothing there's not a storehouse of
it. There's not a,
there's nothing tangible about it,
and so forth. Even gold, which is,
was before cryptocurrency was thought about, you could
still take gold and make something of it.
You can't make anything of cryptocurrency. It's simply,
(21:18):
you know, ones and zeros digitally.
And so what what ends up happening is
that the the herd mentality says, well, okay.
I'm now seeing that it's gone from 19,000
to a hundred thousand.
Well, what's gonna happen if it goes from
a hundred thousand to 200,000
or to a million?
And everybody else has made all this money
(21:38):
on it.
And they start making decisions not for looking
at the economic realities of it,
but for the fact that
other people are doing it, which is a
classic irrationality
to it. We're doing something not because it's
good for us, because other people are doing.
Okay. So would that also be an example
(21:58):
of recency bias?
Very much so. Recency bias is a is
related to this. It's it's the
it's the switch in time literally in some
cases within a day where you have a
a stock that moves up very fast and
then it for some reason, because of some
negative news, it flips around. We see this
in in the stock market that can happen
(22:20):
with
with the changes
of of what the Fed might say. So
they might be a surprise. All of these
things go into it. And what you mentioned
before is that when we when we know
that we have a plan, we can
we can relate our
our, inclinations,
our emotions against that plan.
(22:41):
And just having that check on our behavior
is really important to have us think, okay.
Let me ground myself and think this through.
That's really the whole point of how we
begin to mitigate these different biases.
Okay.
So let's talk about framing effects and then
how they influence investment perceptions and how investors
(23:04):
reframe
their thinking to make more rational decisions.
Well, framing is the academic's
term for marketing.
Right? And what we do is we frame
our biases
in such a way to help other people
have gained the same bias that we have.
(23:25):
We see this in politics
where the self interest is to frame a
particular topic
around something I may not believe in.
We hear this in the in,
news reporters. They'll say, well, I talked to
a particular senator, and he confided in me
that he doesn't really believe this.
(23:46):
But he, you know, he's fearful of having
some some, aftershock if it came out that
he didn't agree. So he's gonna frame it
in a way that is consistent with what
other people think. This is tribalism
at its core.
So we frame things to help more and
more people
think like we do. And I I believe
this is insidious.
(24:06):
It's intentional.
And you see this in investing. It's kind
of like what I mentioned about the pump
and dump. I want to frame a stock
in a way that other people will think
that it's really good
so that when more and more people think
it's really good and that momentum starts kicking
in, I can sell and get out.
And so framing is a is a very,
(24:27):
I think, intentional,
context of this, and it and it takes
advantage of people who are not informed.
And and in many ways, the compliance
functions that exist in investing are all around
helping people break away from the framing that
goes on that's against their self interest.
(24:47):
Okay. So what are some practical techniques investors
can use to counteract their behavioral
biases and improve their decision making process? Well,
hire MCM.
Okay. Well, there you go. There you go.
Alright. We can we can end the process
now.
Yeah. But but there there's some seriousness to
(25:08):
that. You know? That's why people have higher
advisers. That's why they have doctors. That's why
they have lawyers and other things like that
to help them think things through. That's why
they have friends. That's why they have,
accountability partners, which hopefully is a spouse or
a trusted social. Whatever that is, is to
talk things through. Talking three things through gets
this old adage, the two heads are better
(25:30):
than one in action.
And and and that's where we go now.
You know, if you talk to somebody exactly
like you, you're gonna get the herd mentality,
of course. But but a lot of that
is is the element of it. And it's
the willingness,
which again goes against our overconfidence
bias, to be willing to change our mind.
You know, I think it was Einstein that
(25:50):
said, you know, something to the effect that
when I change my mind, I've learned something.
That's probably a big paraphrase of what he,
actually said, but it's that idea that when
we change our mind, it's because we've learned
either from other people
or other people in addition to this vast
at the fingertips
(26:10):
of storehouse of knowledge that we have.
And in some ways, I'm gonna tout the
benefits of the AI in this because
AI
takes a bit of the wild west away
from the Internet. When we used to do
searches long ago, like,
ten months ago, eighteen months ago, and we
just put search terms in, and we would
get all kinds of garbage up there. Right?
(26:32):
Some of it was really good, some of
it was really bad, but we were never
sure. What AI
has done is it's evolved and continues to
evolve is it presents a more rational filter.
When it first came out, we had these
things called hallucinations. When I did my podcast
on that, you know, we talked about the
crazy things that the Internet would produce, but
it's been it's been
(26:53):
bounded now so that it is a much
more of a tool to help us see
a balanced view of things. So always, when
we're getting the thought of making a big
decision,
you know, at this point, you know, spend
$20 a month on Gemini or or Cloud
or these other services or Chad GPT and
others. You know, pay up for it because
(27:14):
you're gonna get a better, more insightful,
balanced view of things than we had before.
AI is much better now.
It's not perfect by any means, but much
better as an accountability
partner for us
to help us think that through. And if
you spend $240
a year to save yourself from a decision
(27:34):
that might cost you a thousand or $2,000
or or in the broader context might cause
a a terrible argument in a family or
lose a friend, you know, that's a pretty
decent investment to make. It's a bargain.
It's a bargain to help us think.
Okay. So how does emotional regulation play a
role in successful
investing, and what are some strategies for managing
(27:57):
emotions during market volatility?
Well, I talked a bit about them already,
but partly, it's just to be aware of
them,
to recognize we all have them. There's no
person lesser or greater.
We all have these biases,
and some become more prominent
in our minds at certain different times of
our life. And they are not just related
(28:17):
to investing to emphasize that point I just
made, but it's in all areas of our
of our life as we go along. So
let's use the tools available to us. Let's
use our our friends, our family members to
talk things through,
not to ask them, do you agree with
me?
Right? But to ask the question, what am
I missing?
(28:39):
That's really the more important question because we
don't wanna get our friends. We don't wanna
lead our friends and family into a herd
mentality because of our passion
about what we're thinking about it. But we
also we also don't wanna we wanna give
them the license
in our thinking to help us see maybe
there's something that I'm missing because of my
(28:59):
biases. It's kind of the whole definition of
a bias is what if I'm missing something
because of my bias?
But, also, let's utilize the tools that we
have. We have enormous amounts of brainpower
available to us on the Internet.
We don't have to subject ourselves
to one one news channel or one one,
(29:20):
newspaper or one podcaster. You know, let's explore
ourselves
and make be able to filter, make our
own decisions. And, again, I think AI can
be a helpful angel for us in this
way with the big caveat
that
it can be wrong.
So in your own opinion,
do you think that behavioral investing is a
(29:40):
learnable skill?
Very much a learnable skill if you're aware
of what it is, aware of the different
biases we've talked about here, Wendy,
aware of what they are, what our tendencies
are. And we
part of the learning is that we can
ask ourselves those questions. What am I missing?
Why does this seem to make so much
(30:01):
sense?
To give us that extra layer of due
diligence
in this in this way to help us
see that maybe we shouldn't be as confident.
We might still be confident, but there's a
difference between a 65%.
So we we arm ourselves in the 35%
of less confidence
as we talked before
(30:22):
by putting in protections,
planning,
contingency
planning as we talked about,
being prepared
if it doesn't go the way we thought
it was to pull ourselves back and to
be willing to lose less than losing too
much.
To realize that we don't know everything, and
we have to admit that. Right? Yes. Indeed.
(30:43):
Okay.
Well, Kirk, this has been, very enlightening. I
appreciate it.
Thank you for being here. Happy to help,
Wendy. Alright. And thank you for listening today.
Please like, follow, and share this podcast with
your friends. Until next time. I'm Wendy McConnell.
(31:05):
This is Jeff Hakim again. Thank you for
listening to this episode
of our MCM Wealth podcast.
Please click the follow button to be notified
of new episodes
as they become available.
Also,
please visit our website
at www.mcmwealth.com
(31:28):
or call me on my direct line
at (415)
299-6574
so you and I can have an initial
discussion.
We look forward to learning about you.
I'm Jeff Hakim,
founder of MCM Wealth.
Welcome to our podcast today.
We do these podcasts to advise families,
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Our approach is to build
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for each client
while offering
comprehensive
financial planning services.
(00:24):
Thank you for joining us today on this
educational journey designed to protect your future.
Hello, and welcome to the MCM podcast. I'm
Wendy McConnell.
Today,
we will be speaking about behavioral
investing with Kirk Lowry,
portfolio and wealth strategist at MCMWealth.com.
(00:46):
Well, hello there. Kirk, how are you? I'm
doing great, Randy. I hope you're doing well
too. Oh, yes. We're finally we finally have
hit spring.
The weather's warming up a little bit here
and there. So, you know, I'm a little
bit in a happier mood. My seasonal affective
disorder is going away. There we go. Yes.
Yes.
So today, we're gonna be talking
(01:06):
about
behavioral investing.
And I'm not really sure what that is,
so we're gonna dive right in. Okay?
Well, the good thing to know is behavioral
investing has nothing to do with parents and
children. Okay?
Okay.
So as it goes you know, it's it's
interesting.
Behavioral investing is is becoming pretty popular, kind
(01:28):
of trendy.
Has, you know, different versions of it. The
academic versions are cognitive biases.
Our our cognition is
our thinking.
And, of course, you know what a bias
is. Mhmm. You know, biases can be,
informed biases. I like nice spring days as
a bias that you and I have. Right?
(01:49):
And biases can be uninformed, which, you know,
has been throughout, unfortunately, human history.
But but we're gonna talk about cognitive biases,
and it's it's how our brain
works, how it is, how thoughts get processed
or don't get processed, and how that affects
our behavior.
And then specifically
(02:10):
here, our investing behavior
because why not. Right? It's,
you know, as it goes. So, you know,
the interesting thing about this, Wendy, is it's
a really well grounded
area of psychology,
and it's been, well recognized and well rewarded.
But there is some intrigue
about this. Can I tell you a little
(02:32):
bit about the intrigue to start?
Let's, please. Okay. Let's go.
So
there are three
main pioneers, fathers, we might call them, because
they're all men, in in behavioral economics and
behavioral finance. There's Richard Thaler, Daniel Kahneman, and
Amos Tversky.
And Richard Thaler won the
(02:53):
Nobel Prize in 2017,
and Daniel Kahneman won the Nobel Prize in
02/2002.
And Amos Tversky won the MacArthur Fellowship. I'm
not exactly
clear why,
although he had passed away by the time,
I think, his partner Daniel Kahneman
got the Nobel Prize. I'm not sure why
diversity was
(03:14):
excluded from that. But, anyway,
if you have to be excluded from the
Nobel Prize, winning the MacArthur Fellowship, which is,
like, the genius award, ain't too bad. Okay?
So, you know, it had moved along. And
what what
Kahneman and Diversey did is they created a
number of interesting experiments on how people thought
(03:35):
about
things like losses
and gains.
And it's and that was really the core
of it. And and the the expansion of
it we'll talk about today are derivatives
of that research.
But here here's the interesting intrigue. So they
Daniel Kahneman,
was a professor
at Princeton until just recently. I'll tell you
(03:56):
a sort of a sad
outcome
of of that whole thing.
But,
he and Tversky had
collaborated
throughout time,
and I've not met either one of them.
I've done a lot of reading, but about,
you know, their work together and separately.
But the what I've read is Amos was
(04:16):
a very engaging guy.
And so he was
he was the one that was speaking a
lot and so forth, and Kahneman was a
little bit I don't know. Do we call
it jealous or felt that he wasn't getting
the same recognition?
And, you know, again, isn't that crazy how
that flipped when he gets the Nobel Prize?
I suppose that thought sort of should have
gone out of his mind at that moment
in time when he got the
(04:38):
got the call for the prize. But, anyway,
you know, they're like a lot of thinkers
and and coworkers, they had their issues.
But they managed to move along and and,
and yet gave Greg credit
to them in their processes of of talking
about the other. So, anyway, Daniel Kahneman ended
up dying in 20018.
(04:59):
As it turns out, Kahneman's wife had also
died. So
this is where the intrigue comes in a
bit. So
in his last part of his life until
just here recently,
his partner was Amos's wife.
Right? So it gets a little confusing, you
know, with that, but, you know, you have
to give them credit. Right? Let's not prejudge
(05:20):
it. Let's give them credit for, finding something
within themselves and, obviously, their their history with
their, respective spouses.
But this is where the intrigue came into
play. Just last week, there was an article
in The Wall Street Journal, an essay about
Daniel Kahneman. I did not know this,
but he and his
his partner, Barbara Traversky,
(05:40):
went to Paris with their I think their
children's stepchildren or some mixture like that and
had a wonderful time in Paris,
enjoying all the sites and dinners and everything
else like that.
And Daniel Kahneman flew then to Switzerland where
he committed suicide.
And this had been his plan. He actually
I think of the way it worked out
is as he was either on his way
(06:02):
or he got into Switzerland or whatever, he
sent emails to people saying this is why
he did it. His health was failing.
He was anxious, I think, about his his
cognitive capabilities. He was 90 years old,
and he chose to end his life on
his terms.
Okay. And that just literally,
happened here, I think, maybe December 24, something
(06:25):
like that. So it it's sort of an
odd, sad story, but, you know, a brilliant
mind, a brilliant person. And, we're gonna spend
our time talking about the implications of their
research
because I've I have to say that of
a lot of areas of psychology, I find
that behavioral
finance
cognitive bias is really practical
(06:46):
and really useful, not just in investing, but
just generally. So can we get started with,
some definitions here?
Yeah. Absolutely. Alright. So let's talk about loss
aversion.
In in our podcast, I focused a lot
on how to avoid losses because losses have
real economic impact.
And and this is really the first,
(07:07):
outcome of Kahneman's and Tversky's research, and it
came to be known as prospect theory. And
the idea is what is the prospect of
a win versus a prospect of a loss?
And what they came to realize
is that people have what's called loss aversion,
that the prospect of loss
has a greater influence on decision making than
(07:29):
the prospect of winning.
And we always talk about the the the
greed
and the the the loss choice that people
have.
And
the way I'd like to think about this
is that when we lose something,
something is taken away from us.
But when we don't get a gain, we're
(07:50):
just where we started with.
Nothing lost, nothing gained. Exactly right. So I
there there's some rationality
to it. But because of this loss aversion,
people look at investing very differently. And what
we wanna focus on here today after we
go through some of these definitions
is is how we can gain some awareness
(08:10):
about it. So loss aversion
has some very practical things about this. We
talked about this in the podcast on
on forecasting.
You know, if we know that we can
lose something like our life
or our house
or our health by doing things that are
unhealthy, improper, etcetera,
(08:32):
then
that is a a a life saving. It's
it's a it's a survival
instinct component to it. So let's recognize that
loss aversion
does have some very practical
benefits and practical importance,
for us. So we think about then the
next one is is this confirmation bias. And,
boy, this is something that that we all
fall into, and I think it's very true
(08:54):
in our in our day now.
And and that is with the Internet,
we have access for the first time in
the history of the world to information that
that otherwise would be unavailable.
And we've had this now for a generation.
I'm sorry. Say it again? Instantly, at least.
Yes. Instantly, at least. And what's happened in
the last eighteen months with AI
(09:15):
is we are able to pull out
from this vast store of information
and and make it understandable
to help us think about it instantly,
rightly said.
So what happens is when we do our
searches, we tend to search for things that
want that confirm what we think.
(09:37):
And we do that because maybe we're not
sure about what we think, but we also
might want to make sure that we have
we are armed with information if we're challenged
in what we think.
So it's called confirmation bias, and it's really
seeking out that
information that confirms what we believe
and ignoring contradictory
(09:57):
evidence. You know, we see this in what
information people seek in terms of their social
media, in terms of the the news shows
thing. They watch the people that they listen
to on podcasts.
You know, all these things
are what people seek, and and that's a
that's a danger
of that because
information changes. Information
(10:19):
previous information we thought was right has been
proven wrong, and information that we thought was
was wrong has been proven right as we've
gone through this, a lot of it through
scientific studies. So that's a real issue for
us and very timely in our day. Now
the other part of that and quite related
to it is is the overconfidence
bias.
And that is the more we get our
(10:41):
opinions confirmed by others,
who might likely themselves have the same confirmation
bias, we get overconfident
about this. But it also goes to this
matter that when we get a confirmation
in what we think,
we naturally tend to shift away from believing
that, oh, it was just luck or coincidence
(11:03):
to believing that it's because of my skill
or my insight and wisdom.
Now that might be true,
but not always the case.
And so we happen to think about this
in that way. I I
I I chuckle a little bit about this,
example in my mind. So, you know, Carl
Lewis. Do you remember Carl Lewis?
The runner? The runner. The sprinter.
(11:25):
The greatest Olympic athlete. One of the greatest
in history.
Super fast
world record holder in the long jumper and
so forth. So
I think Carl Lewis had
confirmation bias and overconfidence in in his athletic
ability. Right? Understandable.
So he gets asked one year to throw
up the first pitch. I forget which teams
(11:48):
it was, you know, that started the season
to throw out the first pitch.
And you know when he couldn't throw?
He he got on the pitcher's mound and
threw it, like,
12 feet to the left of where he
was and Oh, no. Understand. And it it
was really quite funny
because it was so shocking that this here,
this great athlete
(12:08):
the fact that you're a great athlete in
one area doesn't mean you're a great athlete
in all areas, and that's kind of a
couple that's percolating in my mind about that.
So we find this this aspect of this,
with herd mentality. Herd mentality, I think, we
kind of understand these days, and that is
where people are moving, we wanna be with
them.
And so we see this in investing. We
(12:30):
see this in social media.
Obviously, as as people move along
in a in a trend
as it goes, you know, they they wanna
follow that trend. That's been the story of
how fashion has moved through
our society and how language and other things,
movies, all of that has moved because of
the herd mentality.
And and
(12:51):
investing bubbles
and and investing busts
are driven by herd mentality. And we can
see this just in this very day, how
even a couple weeks ago, people were very
positive about where the markets were going, and
now they're not. It can change in an
instant.
And it is the herd mentality is very
apropos
(13:11):
because we've all seen these massive
herds of of ox and deer and so
forth and or keys flying in the,
you know, in in the sky and so
forth. And for whatever reason, something changes, they
immediately
all change
the direction.
Yeah. So it's it's very understandable.
Right. For them, Wendy. Alright. Recency bias. Recency
(13:35):
bias says that I am going to give
more weight to the information I've heard most
recently.
Again, related to herd mentality.
It it sort of divorces ourselves from the
history of thought or the, of our thoughts
or the the even
information change that we utilize
and that we can get divorce ourselves so
(13:56):
very quickly from that, but very much driven
by, you know, headlines. And again, I'm gonna
put this a bit on social media. Anchoring
bias.
Anchoring bias is a very similar notion,
and it it goes to relying on information
I initially heard.
Maybe that first thought or that first class
or whatever that we might have gotten information,
(14:17):
we anchor on that.
And we don't allow ourselves to realize that
information can evolve and change in that context
and that it might not be quite correct.
You know, a lot of it is how
we were schooled and and so forth and
how we learn to read. We have a
anchoring bias that that causes to think that's
how everyone else should learn in that way.
(14:40):
So these are just a few of the
areas where in behavioral
finance,
people have developed these these tendencies, and you
can have multiple tendencies at work
all at the same time.
So
let's talk about loss aversion. How does that
impact investor behavior, and what strategies can be
used to mitigate its effects?
(15:02):
Well, it's interesting. There there are two aspects
of loss aversion.
The first one is, by definition,
we fear losses more than the gains.
And what happens in this
is that when an investment starts to lose
money,
we are afraid of losing more money.
(15:23):
Now the rational
thought would be, okay. Well, if I'm going
to lose money, let me get out of
it now.
But what ends up happening too often is
that people let the loss. They wanna they
fear the the greater loss, so they allow
that
investment to continue to lose
and lose and lose. And one of the
(15:43):
interesting aspects of investing
is that it's not just being able to
pick good investments,
but it's having a sale a a a
a a selling
discipline
to help me know when to get out,
to take my profits,
or to or to,
minimize my losses.
(16:03):
And because loss aversion is this odd thing
that when losses begin to happen, we are
so fearful of losing more money that we
stay with it with the hope
the hope that it will recover.
And and it becomes one of these sort
of irrationalities.
It's sort of the gambler's sin
where they've lose you know, they lose and
lose and lose, and so they keep putting
(16:24):
more money and more money into it because
not to necessarily gain, but to keep avoiding
more losses.
And and and this is really a problem,
why a lot of people end up losing
far more money than they should. We've seen
this with cryptocurrency
where the the the fear of a greater
loss
almost paralyzes our ability to think rationally.
(16:46):
And so we wanna be able to put
into our investing behavior, you know, protection devices.
Some of these things can be done
tactically, like putting in stop loss orders as
an example or or buying a a a
put option to protect ourselves from losses. But
a lot of it also is just having
that discipline, being able to talk things through,
(17:06):
not allowing ourselves to get caught up in
in in the anxiety of of of of
the loss
as we go forward with that. Well but,
Kirk, don't
isn't the general rule of thumb and I
guess it's more specific to long term investing
is to kind of leave it, and it'll
come back up eventually.
Right. That that's the rational view of it.
(17:28):
That's the wealth plan view of it. That's
having an investment plan, knowing that you've got
money
to pay your bills so you can be
divorced
from some of the headlines.
Because the investing reality is in most instances
is that the loss in the market as
we've been experiencing this these last few weeks,
(17:49):
there might be some companies that are gonna
continue to lose to bankruptcy
as an example.
But most instances,
losses in the market in that with particular
investment or even a particular stock
that eventually markets recover, and you can outgrow
your losses.
But people are so fearful of that that
(18:10):
they will either sell too soon
or they will allow it to go to
nothing. And that's where the selling discipline goes.
But if you do have a plan
and you have enabled yourself to be divorced
from that recency bias,
then you can start thinking about this rationally
and know that I don't need to worry
about
(18:31):
losing because I have other resources. I have
an emergency fund. I have a plan. I
have diversification.
Okay. So let's talk about herd mentality then
in investing and how it can lead to
market bubbles and crashes.
Right. So the the herd mentality or have
you heard of the acronym FOMO?
Oh, of course. Yes. Fear of missing out.
(18:51):
Fear of missing out. You know, that is
that is the opposite of the of the
loss aversion.
And and it's it's very much of a
social
compromise, I suppose, that we make that we
wanna not,
lose out what our, you know, mostly our
friends,
have achieved.
And so we we end up buying in.
(19:13):
And pretty much every bubble that has existed
in history is based upon this herd mentality.
That and the winners of the herd mentality
are those that were in early. And there's
a lot of nasty games that are played
by those who know that they were in
early
and continue to push that so that they
can then get out
(19:34):
when everybody else is starting to get in.
And and, you know, there's actually a a
stock investing scheme called pump and dump where
you pump
a a a stock, talk you're touting it
over and over and over again, and people
start getting into it. This is the main
stock idea
that we've seen, you know, quite frequently in
even recent times with True Social.
(19:55):
And and, you pump it up, pump it
up, and then you sell it as people
are starting to get into it. So the
losers
of of herd mentality are those that get
in last.
And the other side to it is when
they those that have loss aversion,
that they continue to to
experience those losses. So people that had gains
(20:15):
are selling selling because they don't wanna lose
anymore.
So hot you know, the the whole herd
mentality is very much on both sides
of of the the, details of of market
behavior.
Can you give me an example
of overconfidence
affecting investment decision making and, you know, what
are some of the signs that an investor
(20:36):
might be overestimating
their abilities?
Well, when you think about the,
matter, you know, of cryptocurrency
as an example,
the criticism of cryptocurrency,
which I share, is that there's nothing behind
it.
It's only this
this wreck this willingness
to say that
(20:57):
people want it.
Right? There's nothing there's not a storehouse of
it. There's not a,
there's nothing tangible about it,
and so forth. Even gold, which is,
was before cryptocurrency was thought about, you could
still take gold and make something of it.
You can't make anything of cryptocurrency. It's simply,
(21:18):
you know, ones and zeros digitally.
And so what what ends up happening is
that the the herd mentality says, well, okay.
I'm now seeing that it's gone from 19,000
to a hundred thousand.
Well, what's gonna happen if it goes from
a hundred thousand to 200,000
or to a million?
And everybody else has made all this money
(21:38):
on it.
And they start making decisions not for looking
at the economic realities of it,
but for the fact that
other people are doing it, which is a
classic irrationality
to it. We're doing something not because it's
good for us, because other people are doing.
Okay. So would that also be an example
(21:58):
of recency bias?
Very much so. Recency bias is a is
related to this. It's it's the
it's the switch in time literally in some
cases within a day where you have a
a stock that moves up very fast and
then it for some reason, because of some
negative news, it flips around. We see this
in in the stock market that can happen
(22:20):
with
with the changes
of of what the Fed might say. So
they might be a surprise. All of these
things go into it. And what you mentioned
before is that when we when we know
that we have a plan, we can
we can relate our
our, inclinations,
our emotions against that plan.
(22:41):
And just having that check on our behavior
is really important to have us think, okay.
Let me ground myself and think this through.
That's really the whole point of how we
begin to mitigate these different biases.
Okay.
So let's talk about framing effects and then
how they influence investment perceptions and how investors
(23:04):
reframe
their thinking to make more rational decisions.
Well, framing is the academic's
term for marketing.
Right? And what we do is we frame
our biases
in such a way to help other people
have gained the same bias that we have.
(23:25):
We see this in politics
where the self interest is to frame a
particular topic
around something I may not believe in.
We hear this in the in,
news reporters. They'll say, well, I talked to
a particular senator, and he confided in me
that he doesn't really believe this.
(23:46):
But he, you know, he's fearful of having
some some, aftershock if it came out that
he didn't agree. So he's gonna frame it
in a way that is consistent with what
other people think. This is tribalism
at its core.
So we frame things to help more and
more people
think like we do. And I I believe
this is insidious.
(24:06):
It's intentional.
And you see this in investing. It's kind
of like what I mentioned about the pump
and dump. I want to frame a stock
in a way that other people will think
that it's really good
so that when more and more people think
it's really good and that momentum starts kicking
in, I can sell and get out.
And so framing is a is a very,
(24:27):
I think, intentional,
context of this, and it and it takes
advantage of people who are not informed.
And and in many ways, the compliance
functions that exist in investing are all around
helping people break away from the framing that
goes on that's against their self interest.
(24:47):
Okay. So what are some practical techniques investors
can use to counteract their behavioral
biases and improve their decision making process? Well,
hire MCM.
Okay. Well, there you go. There you go.
Alright. We can we can end the process
now.
Yeah. But but there there's some seriousness to
(25:08):
that. You know? That's why people have higher
advisers. That's why they have doctors. That's why
they have lawyers and other things like that
to help them think things through. That's why
they have friends. That's why they have,
accountability partners, which hopefully is a spouse or
a trusted social. Whatever that is, is to
talk things through. Talking three things through gets
this old adage, the two heads are better
(25:30):
than one in action.
And and and that's where we go now.
You know, if you talk to somebody exactly
like you, you're gonna get the herd mentality,
of course. But but a lot of that
is is the element of it. And it's
the willingness,
which again goes against our overconfidence
bias, to be willing to change our mind.
You know, I think it was Einstein that
(25:50):
said, you know, something to the effect that
when I change my mind, I've learned something.
That's probably a big paraphrase of what he,
actually said, but it's that idea that when
we change our mind, it's because we've learned
either from other people
or other people in addition to this vast
at the fingertips
(26:10):
of storehouse of knowledge that we have.
And in some ways, I'm gonna tout the
benefits of the AI in this because
AI
takes a bit of the wild west away
from the Internet. When we used to do
searches long ago, like,
ten months ago, eighteen months ago, and we
just put search terms in, and we would
get all kinds of garbage up there. Right?
(26:32):
Some of it was really good, some of
it was really bad, but we were never
sure. What AI
has done is it's evolved and continues to
evolve is it presents a more rational filter.
When it first came out, we had these
things called hallucinations. When I did my podcast
on that, you know, we talked about the
crazy things that the Internet would produce, but
it's been it's been
(26:53):
bounded now so that it is a much
more of a tool to help us see
a balanced view of things. So always, when
we're getting the thought of making a big
decision,
you know, at this point, you know, spend
$20 a month on Gemini or or Cloud
or these other services or Chad GPT and
others. You know, pay up for it because
(27:14):
you're gonna get a better, more insightful,
balanced view of things than we had before.
AI is much better now.
It's not perfect by any means, but much
better as an accountability
partner for us
to help us think that through. And if
you spend $240
a year to save yourself from a decision
(27:34):
that might cost you a thousand or $2,000
or or in the broader context might cause
a a terrible argument in a family or
lose a friend, you know, that's a pretty
decent investment to make. It's a bargain.
It's a bargain to help us think.
Okay. So how does emotional regulation play a
role in successful
investing, and what are some strategies for managing
(27:57):
emotions during market volatility?
Well, I talked a bit about them already,
but partly, it's just to be aware of
them,
to recognize we all have them. There's no
person lesser or greater.
We all have these biases,
and some become more prominent
in our minds at certain different times of
our life. And they are not just related
(28:17):
to investing to emphasize that point I just
made, but it's in all areas of our
of our life as we go along. So
let's use the tools available to us. Let's
use our our friends, our family members to
talk things through,
not to ask them, do you agree with
me?
Right? But to ask the question, what am
I missing?
(28:39):
That's really the more important question because we
don't wanna get our friends. We don't wanna
lead our friends and family into a herd
mentality because of our passion
about what we're thinking about it. But we
also we also don't wanna we wanna give
them the license
in our thinking to help us see maybe
there's something that I'm missing because of my
(28:59):
biases. It's kind of the whole definition of
a bias is what if I'm missing something
because of my bias?
But, also, let's utilize the tools that we
have. We have enormous amounts of brainpower
available to us on the Internet.
We don't have to subject ourselves
to one one news channel or one one,
(29:20):
newspaper or one podcaster. You know, let's explore
ourselves
and make be able to filter, make our
own decisions. And, again, I think AI can
be a helpful angel for us in this
way with the big caveat
that
it can be wrong.
So in your own opinion,
do you think that behavioral investing is a
(29:40):
learnable skill?
Very much a learnable skill if you're aware
of what it is, aware of the different
biases we've talked about here, Wendy,
aware of what they are, what our tendencies
are. And we
part of the learning is that we can
ask ourselves those questions. What am I missing?
Why does this seem to make so much
(30:01):
sense?
To give us that extra layer of due
diligence
in this in this way to help us
see that maybe we shouldn't be as confident.
We might still be confident, but there's a
difference between a 65%.
So we we arm ourselves in the 35%
of less confidence
as we talked before
(30:22):
by putting in protections,
planning,
contingency
planning as we talked about,
being prepared
if it doesn't go the way we thought
it was to pull ourselves back and to
be willing to lose less than losing too
much.
To realize that we don't know everything, and
we have to admit that. Right? Yes. Indeed.
(30:43):
Okay.
Well, Kirk, this has been, very enlightening. I
appreciate it.
Thank you for being here. Happy to help,
Wendy. Alright. And thank you for listening today.
Please like, follow, and share this podcast with
your friends. Until next time. I'm Wendy McConnell.
(31:05):
This is Jeff Hakim again. Thank you for
listening to this episode
of our MCM Wealth podcast.
Please click the follow button to be notified
of new episodes
as they become available.
Also,
please visit our website
at www.mcmwealth.com
(31:28):
or call me on my direct line
at (415)
299-6574
so you and I can have an initial
discussion.
We look forward to learning about you.
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