Behavioural Finance

:thread:Twitter thread

Charlie Munger said “show me the incentive and I will show you the outcome.” A great way to learn this lessons: look at poorly-designed rules (AKA bad incentives) that had unintended consequences. Here are 10 examples

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:books:Best Book

The (Mis)Behaviour of Markets: A fractal view of risk, ruin and rewards
By Benoit B. Richard L. Mandelbrot Hudson

This international bestseller, which foreshadowed a market crash, explains why it could happen again if we don’t act now. Fractal geometry is the mathematics of roughness: how to reduce the outline of a jagged leaf or static in a computer connection to a few simple mathematical properties.


:arrow_forward: Best of YouTube

Core human motivations
By Kunal shah

Knowledge project 141


By Christian Busch

Most of us think that luck just happens (or doesn’t) but everyone can learn to look for the unexpected and find serendipity.

Key points – How to be lucky

  • ‘Smart luck’ or serendipity is about creating meaningful accidents – and making accidents meaningful!

  • Many of the world’s most successful and joyful people use a ‘serendipity mindset’ to create their own luck and live meaningful lives.

  • Cultivate your own serendipity mindset by challenging the biases in how you see and relate to the world

  • Adopt simple techniques and tools to further cultivate a serendipity mindset

  • Whether you’re an extravert or introvert, there are conversational skills you can learn to connect with others


How do smart people make smart decisions? | Gerd Gigerenzer

Gerd Gigerenzer is Director at the Max Planck Institute for Human Development and Director of the Harding Center for Risk Literacy in Berlin.

The Ben Franklin Book keeping method or Expected utility theory of listing pros & cons, performing calculations, and making decisions is an old one. Very few people who teach this method of rational choice, make decisions in this fashion. This method works in a world where risks, probabilities and consequences are known. In the world of uncertainty, calculations are not enough, you need heuristics & good intuition.

Decisions under uncertainty is not equal to Decisions under risk, he elaborates on four points- uncertainty, heuristics, simplicity & less is more.


Investing Advice from 1937, Still Relevant Today
Novel Investor

Just before the 1937 market crash, Fred C. Kelly wrote a well-timed column sharing behavioral investing advice that’s still relevant today.

Human nature is much the same wherever found. Hence it always responds to the same kind of stimuli. Some people require a little more prodding than others do before they will move. But in a general way if you knew all the different kinds of stimuli brought to bear on a certain average group, you could tell just what they would do.

If you re a normal, average person, then you are a member of the largest group on earth and are likely to buy and sell when the rest of this group does.

Market success depends partly on an ability to distrust one’s natural impulses and go contrary to them. We must be cautious and fearful at the very time we are inclined to feel most hopeful — and to show courage when scared. It is fatal to follow the crowd blindly, for the crowd is almost sure to be wrong.

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The OODA Loop: How Fighter Pilots Make Fast and Accurate Decisions
Farnam Street

The OODA Loop is a four-step process for making effective decisions in high-stakes situations. It involves collecting relevant information, recognizing potential biases, deciding, and acting, then repeating the process with new information.

Because they’re developed and tested in the relentless laboratory of conflict, military mental models have practical applications far beyond their original context. If they didn’t work, they would be quickly replaced by alternatives. Military leaders and strategists invest a great deal of time and resources into developing decision-making processes.

“OODA” stands for “Observe, Orient, Decide, and Act.” Don’t forget the “Loop” part. The process is intended to be repeated again and again until a conflict finishes. Each repetition provides more information to inform the next one, making it a feedback loop.

Observe- If you want to make good decisions, you need to master the art of observing your environment.

Orient- Orientation means connecting yourself with reality and seeing the world as it really is, as free as possible from the influence of cognitive biases and shortcuts.

Decide- Boyd cautioned against first-conclusion bias, explaining that we cannot keep making the same decision again and again. This part of the loop needs to be flexible and open to Bayesian updating.

Act- There’s a difference between making decisions and enacting decisions. Once you make up your mind, it’s time to take action.

If you are able to be nimble, assess the ever-changing environment, and adapt quickly, you’ll always carry the advantage over any opponents.

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Reality Catches Up
Collaborative Fund

An asset you don’t deserve can quickly become a liability. Maybe your portfolio surged during a bubble, your company hit a monster valuation, or you negotiated a salary that exceeds your ability. It feels great at the time. But reality eventually catches up, and demands repayment in equal proportion to your delusions – plus interest.

Charlie Munger tells a story about his dog – “a lovely, harmless dog. The one way to get that dog to bite you was to try and take something out of its mouth after it was already there.

Bill Gates had it right when he said success is a lousy teacher, because it makes you forget how the world works. That’s especially true when all you focus on is the “success” – the higher stock prices, the higher valuations, the more social media followers – and not the earned work that goes into building enduring success.

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What I learned from Prof. Sanjay Bakshi’s Behavioral Economics Course at FLAME University

I had the privilege to attend Prof. Sanjay Bakshi’s Behavioral Economics course at FLAME University. Being his student since 2011, I realized my dream by sitting in his class for 3.5 days.

Create a vivid image for each chunk you want to learn
Which of the two sentences is more vivid?

  1. Free cash flow from See’s Candies was used to acquire other businesses which in turn generated more free cash flows.
  2. Just as Adam and Eve kick-started an activity that led to 6 billion humans, See’s has given birth to multiple new streams of cash for us.

It’s much easier to visualize the 2nd sentence than the 1st. Do you know who wrote the 2nd sentence? Warren Buffett. Why is Warren Buffet’s sentence easier to visualize? His writing contains concrete nouns like Adam, Eve, and 6 billion humans. Concrete nouns turn on images in our mind’s eye. They make them come alive.

We each live with a “windshield” of people in front of us; one of the keys to igniting your motivation is to fill your windshield with vivid images of your future self, and to stare at them every day. Studies show that even a brief connection with a role model can vastly increase unconscious motivation…


How People Think
By Morgan Housel

  1. Everyone belongs to a tribe and underestimates how influential that tribe is on their thinking.
  2. What people present to the world is a tiny fraction of what’s going on inside their head.
  3. Prediction is about probability and putting the odds of success in your favor. But observers mostly judge you in binary terms, right or wrong.
  4. We are extrapolating machines in a world where nothing too good or too bad lasts indefinitely.
  5. There are limits to our sanity. Optimism and pessimism always overshoot because the only way to know the boundaries of either is to go a little bit past them.
  6. Ignoring that people who think about the world in unique ways you like also think about the world in unique ways you won’t like.
  7. We are pushed toward maximizing efficiency in a way that leaves no room for error, despite room for error being the most important factor of long-term success.
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