Arguing can be a powerful tool. I find that many people try to avoid arguments, or they start arguments for the wrong reason. However, arguments can be valuable. Part of the misconception may have to do with the word itself. Arguing has many negative connotations. Maybe a better word for what I am referring to is debating. Either way, it is important to understand the usefulness of such an act.
Nassim Taleb wrote in Additional Aphorisms, Rules, and Heuristics, "Business wars are typically lost by both parties, academic wars are won by both sides." Likewise, arguments of conflict are lost by both parties, but arguments of an academic nature are won by both sides. This is because, assuming each party is approaching it with good intent, each walks away more intelligent than before. It is an important capability to question one's own opinions and ideology and to expose oneself to people with different ideas.
The cognitive bias belief perseverance consists of two main parts: 1) a reluctance to seek out information that contradicts one's belief and 2) skepticism when finding contradictory information. Arguing, when done with integrity, can be a powerful way to combat against belief perseverance. It is an extremely serviceable and valuable skill to be able to change one's opinion.
This does not mean embrace a herd mentatiliy. Rather, it is about having an open mind, considering different information when appropriate. As Aristotle wrote, "It is the mark of an educated mind to be able to entertain a thought without accepting it." Be able to consider new information, different opinions, and argue with others in an honest way in order to avoid belief perseverance and benefit from the knowledge of others whom you may not initially agree with.
- Joe
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Sunday, September 14, 2014
Saturday, September 6, 2014
Passive Versus Active Investing: An Introduction to Major Challenges
In my co-author's last post, he introduced some characteristics of passive and active investing. Both have challenges.
For passive investing, cognitive biases that affect decision making are a major challenge. This is also true for active investing, but it might be particularly prevalent in passive investing. It is somewhat common to see a self-prolaimed passive investor changing to an active strategy due to cognitive biases, but it is much less frequent that cognitive biases result in an active investor investing with a passive strategy. Since there are several dozen cognitive biases, this is a real and significant challenge.
For active investing, fees and expenses are a major challenge. Active investing is more expensive than passive investing. Furthermore, passive investing is now being offered for free. This is a major challenge to active investing because fees are one of the most impactful factors in investing.
While the passive versus active debate will likely never be resolved in the minds of everyone, there are major challenges to be faced no mater what ideology one chooses.
- Joe
For passive investing, cognitive biases that affect decision making are a major challenge. This is also true for active investing, but it might be particularly prevalent in passive investing. It is somewhat common to see a self-prolaimed passive investor changing to an active strategy due to cognitive biases, but it is much less frequent that cognitive biases result in an active investor investing with a passive strategy. Since there are several dozen cognitive biases, this is a real and significant challenge.
For active investing, fees and expenses are a major challenge. Active investing is more expensive than passive investing. Furthermore, passive investing is now being offered for free. This is a major challenge to active investing because fees are one of the most impactful factors in investing.
While the passive versus active debate will likely never be resolved in the minds of everyone, there are major challenges to be faced no mater what ideology one chooses.
- Joe
Thursday, September 4, 2014
We Were Born to Win: Passive vs. Active
It's human nature; we were born to win at all costs. Not only are we survival machines, but our fierce competitiveness introduces many different emotional biases that can cloud our judgment in an advanced world when it comes to decision making.
Sports or investing, people have an urge to win.
Specific to investing, investors seek outperformance; we
seek superior returns and in effect, more money. While the lottery could be
described as a tax on people that are bad at math, one might describe the stock
market as an ever changing fertile crescent for confirmation bias: confirmation
bias being the tendency to search for or interpret information in a way that
confirms one’s beliefs or hypotheses. Humans are very talented at coming up with facts to back hypothesizes, while
it should be hypothesizes as a result of facts.
I would like to introduce two financial strategies to you: passive and active.
Passive management aims to replicate the performance of the
“market” as a whole. When I say market I am referring to the aggregation of
buyers and sellers, the average of what every other investor is doing. The
passive investor does not attempt to “time” the market; this could be selling
their positions right before the election or the passing of a bill in
anticipation of some type of mass pessimism. The passive investor is the stoic
of investors: one who can endure pain or hardship without showing their
feelings or complaining.
Why is this done? The passive investor has an understanding
that their lack of total comprehension of why the market goes up and down will
prevent them from making educated investing decisions. However, they believe in
“reversion to the mean.” The market will go up, the market will go down, but
given a long time period the market will consistently rise. The passive
investor controls their fear.
Active investors see themselves as the superior investors.
Due to various methods and research techniques, the belief is that there is the
possibility of outperforming a given index or market through individual stock
selection and market timing. The essence of their approach is to capitalize
(outperform) based on pricing
inefficiencies in the marketplace.
Individuals utilize the active approach (hire an active
manager) to increaser their perceived chances of outperforming the market.
Through the relationship they gain researched and informed investment
decisions. They also have the possibility of maximizing gains and minimizing
losses. It is important to remember that an active investor is different than a
financial planner, which covers not just
investing, but all aspects of financial planning.
Now let us look at your situation. You are 24, you just
landed a job, maybe your first, and you are thinking about investing. Do you
need a financial planner? I would say no, but you do need a financial plan.
And part of this plan involves deciding how you are going to invest your funds.
Once you start saving it can be easy to be deterred, one bad mistake could set
you back several years and your optimism about saving may be ruined. My advice
to you is to step back from idiosyncratic risk, (risk associated with one
company or a small group of them) and buy the market as a whole. Once a solid base is built up, a time or even a
need may come for an active manager; however given the extreme value of time,
especially in your 20s, the best thing in most situations is to step back from
risk, choose a cheap fund, forget about your money and do not pay attention to the markets.
-Luke
-Luke
Tuesday, September 2, 2014
Quotes to remember from Letters from a Stoic; by Seneca
“When one has lost a friend one’s eyes should be neither dry nor streaming. Tears, yes, there should be, but not lamentation.”
“You can only acquire
it successfully if you cease to feel any sense of shame.”
“You cannot, I repeat,
successfully acquire it and preserve your modesty at the same time.”
”You have to persevere
and fortify your pertinacity until the will to good becomes a disposition to
good.”
“You want to live-but
do you know how to live? You are scared of dying-and, tell me, is the kind of
life you lead really any different from being dead?”
“Success is going from
failure to failure without loss of enthusiasm.”
”Every journey has an
end.”
“Everything hangs on
one’s thinking.”
“For men in a state of
freedom had thatch for their shelter, while slavery dwells beneath marble and
gold.”
“How can a thing
possibly govern others when it cannot be governed itself?”
“How much better to
pursue a straight course and eventually reach that destination where the things
that are pleasant are the things that are honorable finally become, for you,
the same”
“I am telling you to
be a slow-speaking person.”
-Luke
How to have more money than you will know what to do with
It is rare I see young adults that have a heightened sense of urgency to prepare for the next level. I will not lie, as a 21 year old I often have the mindset that I have all the time in the world. I have more than enough time to “figure it out” and “get what I want”. What I find important to keep in the front of my mind is that young adults have something even Warren Buffett cannot buy: time. Time is the only treasure most of us start out with in abundance, and let me tell you, they are not making any more of it. Let’s make the most of the opportunities we have today, because there will soon come a day when time is not quite as ubiquitous.
Want to be wealthy by the end of your life?
Learn early in life how to defer gratification. The
ability to resist temptation for an immediate reward, such as blowing an entire
paycheck on one night out, is a challenge. Self-control is like a muscle, the
more one uses it, the stronger it gets. However, if one never practices
self-control, it becomes weaker and weaker.
The “Marshmallow Theory,” based on a widely publicized
Stanford University experiment, has been a landmark in the ability to
demonstrate the power of self-control in individual’s financial and personal
lives. The experiment followed the actions of children who were left alone with
a marshmallow and told that if they did not eat it they would get another one
in 15 minutes. Some children waited the full 15 minutes, some ate the
marshmallow immediately, and others ate it somewhere in-between. Years later,
researchers tracked down the same children and found that those with the
willpower to wait the full 15 minutes (one in three), grew up to be more
successful adults than those who ate the marshmallow immediately, including
higher SAT scores and higher-paying professions. Do not eat the marshmallow.
We need to learn to take as much pride in not owning
something as owning something. What is even more of a challenge is seeing the
aforementioned funds having any ability to make you wealthy; it will. A
one-time investment of only $5,000 when you are 25 will grow (@8%) to well over $75,000 by the time you are 60. To
put that in contrast, to have the same amount when you are 60 you would have to
invest over $24,000 at the age of 45. We
have the advantage; (Pre-tax basis, assuming 3% inflation).
We cannot wait for luck to make us rich. Wealth does not
come to us, it does not look for us, we need to go get it. How? By living
below our means. Be proud of a simple lifestyle, wear it on your shoulder;
pay yourself first and build up your wealth. The first step to fully embracing
a frugal lifestyle is to ascertain what areas of your life you need to cut back
on. The easiest way to do this is to keep
a budget. Break it up on a weekly, monthly and annual basis; that $2.50 a
day on coffee may not seem like a lot, but $2.50 a day invested on a pre-tax
annual basis would return over $180,000 35 years later (assuming 8% rate of
return). It is also important to keep in mind that the best things to spend
time and money on at a young age are experiences; you’ll sure remember that
camping trip you took with your best friends a heck of a lot longer than that
night you blew $200 at a bar.
Those who plan for retirement will succeed in prospering in
it. Writing down your goals or your plans has no magic in its own, but those
who document what is important to them at an early age are more likely to identify
where they are, where they want to go, and how to get there. This will help hold
you accountable.
The happiest people out there are not those who are sitting
back on a beach doing nothing productive with their lives. They are those who
have determined for certain, at a young age what is important to them, and have
done those things throughout their lives. Those who succeed know that all the
“tomorrow” may not be guaranteed, and for that reason excitement cannot be
completely pushed off. Let’s do everything we can to identify our passions,
dreams, and goals, and then find ways to make those dreams a reality today.
-Luke
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