Daniel Kahneman Fathoms The Human Mind

Dr. Conman, it's very nice of you to join us today, and before we get into the implications of your work for people who believe they can do well in the stock market because of their own genius, tell the story of his first lesson in irrationality. in Paris, 1941, early '42, German occupation, you're Jewish, you wear the Star of David, tell us what happened when you were a kid, well I was a seven-year-old kid and there was a curfew for Jews and actually , I had my sweater. with a star of David on it um and I stayed too long with a friend and it was already past curfew so I put my sweater on inside out and walked home and very close to home.

I still remember where it is in the new you. I know it's a suburb of Paris. I saw a German soldier walking towards me and he was wearing the black uniform and black uniforms meant a lot, I mean they were the SS, they were the worst of the worst, so I knew one should. being afraid of them and then he motioned to me, he called me and I went up to him and he picked me up and I remember very vividly you know he was terrified that he would see inside my sweater that I was wearing the Star of David and then he hugged me and I He came down and took out his wallet and showed me a picture of a little boy and gave me some money, so that was a father and I re

mind

ed him of his son and I remember him. kind of amazement, the complexity of this, you know I was a seven-year-old kid, but that was telling you that life was very complicated if Killers could behave like this for the rest of your story, as you said, you have. had a relatively benign outcome, but moving to France and how your father was arrested and then it turned out well, my father, um, was the head of chemical research at a large French company, in fact, I mean, he was part of L'Oréal and Which is very well known these days and was protected during the war as far as possible.

They picked him up and sent him to D, the famous place where the Jews were sent and ultimately where very few people returned from, but he was freed and it turned out. we discover that we are through the intervention of a man called fer um very complicated story, I don't remember the detective, I never knew the details, but it involved a German officer and a woman who was in love with him and all kinds of things. and but many years later I found out that fuer uh whose daughter is famous she is the richest person in France actually uh schair had been the main undertaker of the fascists in France before the war and it was a virulently anti-Semitic movement but to him He liked my father and he protected us as much as possible, we received food parcels from them during the war, even after my father died.

It's amazing so you learned at a young age that the

human

mind

is not a simple thing, it's definitely now one of uh. Before we get to the implications of investing, one of your first tasks was in Israel, where you were born, what became Israel was to try to elect people who would be good officer material for the army and what did you do? I learned from that process, well, I learned a lot from that process, it was very influential in the work I did later. We gave field tests to officers, you know, people who wanted to be officers, there were candidates for officer training and there were camps. tests and where people you know would be given a task, a difficult task, a physical task like picking up a log and using it to get over an obstacle and you know we would see them in action, we are in groups of eight and the awesome The thing is that when you see something like that you see personalities, it's very, very compelling, and when we saw them in action, you get the feeling that you have a real direct access to how good the person is as a leader, every single one of them.

There are some leaders and some weaklings and some, you know, you see all the characters, but then about once a month we would have Stats Friday, I mean, that was the last day of the week and they would come and tell us how well we were doing it. when predicting success in training officers and the fact was that we were consistently doing nothing, I mean, we were just guessing that what we were seeing had nothing to do with reality, but it was surprising and it influenced my work a lot is that even after you. They tell you statistically that it's nothing that you can't do this.

You can't predict how well they will do next Sunday. There is a group of people. You take them to the obstacle course. You observe them and see them with the same clarity. As always, this disconnect between knowing there's something you can't do and feeling like you personally can do it, it's been with me my whole life and I think there's a lot of that on Wall Street, well, it gets to you. you want a Nobel Laureate who understands the

human

mind, you've pointed out that maybe it's because there are so many smart people in finance that individual managers of stock pickers can't consistently beat the market, well you know that's not a point I I said, uh, the point, uh, uh.

I'm not a financial expert, so you clearly know that they aren't either, yeah, well, I mean, no one you know when it comes to stock picking, you know, maybe no one is. That was certainly Malel Mel's point, so I was, you know? I'm a consumer of these things, what I find very interesting is that although I think everyone recognizes that in principle you can't do this because if you could pick stocks very well, other people would also pick those stocks, so the advantage would disappear. then everyone realizes that in principle it is impossible, but everyone personally thinks they can do it like their officers, yes, and that is exactly the same as the officer's story which I find fascinating.

I call it an illusion of skill. You know it's wrong, but you know you feel something else. and uh, why does that persist? Well, it persists because you have the immediate feeling that you understand something that is much more convincing than the knowledge of Statistics that tells you that you know nothing and you know that again it is the officer's story, but you know that it is very big, you really see it in work, in many domains in the financial sphere, where people feel that they can do things that, in fact, we know and should know that they cannot do now in some sense.

That would lead an investor to throw up his hands in despair. Does that mean they should turn to index funds? But you make it clear that no, just don't be passive. Well, I actually believe in index funds. You know, I think all of behavioral economics, all behavioral economists say that if you don't have very specific information, in a sense you can't have it. You better not fool yourself into thinking you can pick individual stocks. There are many niches in finance. I mean this is not a general conclusion about Finance because obviously there are many domains in finance where there is information that you can get quite legally that will allow you to do better than other people, but that doesn't seem to be true.

You know, in the stock market proper, you made the point clear, so when it comes to investing, instead of asking how much do I need or should I earn or can I ask your first question, you ask how much can I lose, yeah. I think one of the main results of the psychology of decision making is that people's attitudes and feelings about losses and gains are actually not symmetrical, so we actually feel more pain when we lose $10,000 and feel pleasure. when we get $10,000 and that asymmetry. It's just a reality, it affects professionals much less now than it does individuals because professionals play a repeated game, so you know you win some, you lose some, once you have that attitude you're fine, but you're better off. but individual investors feel losses very deeply and should be aware of that and what happens is that if you are not aware of that, when things go wrong you will want to change what you are doing and that is the disaster in investing, I think. which is pretty obvious here that vision loss can kill you, well, Burton Malio, who you referred to a few minutes ago, points out that if you are consistent, you will do well, the market will rescue you.

Emotions are your enemy. Emotions are indeed your enemy. I mean, the worst thing that can happen to you, of course, is to get out of trouble. You know you have to make a decision and then stick to it, so you get out of trouble when things go wrong and sell low and buy high. That's not a recipe for doing very well in the stock market or anywhere, whip sword, so what can financial advisors do for people? I think they have a lot of experience that is relevant, but we have to know what they can do and what they can't do.

I think they know about taxes a lot better than most people do. I think they have, they have some, and taxes are very important. They know about rates much better than other people, so I think they are worth it. When you go there, there's a lot of things they know you can use, but when they start telling you I heard something wonderful about this stock, you might seriously consider another financial advisor. I think you also make a distinction between these. Are my words not yours between money, serious money, like for retirement, and what you might call crazy money or money that you can take a loss on and not destroy your lifestyle?

Well, you know, that would be it. I was consulting in Stam, with a financial firm gugenheim partners and there it is a doctrine now uh when you deal with very rich investors the question is of your wealth how much are you willing to put at risk how much are you willing to lose in fact because this is money it must be prepared to lose and how much you really want to protect now when this is something that people find that distinction very natural and then it seems very natural to them to be quite conservative with how much they want to protect and be fair.

In bold, with the amount they're willing to lose, it's not optimal for maximizing wealth and in some ways it's completely artificial because ultimately you know it's their wealth, it's a pocketbook, but psychologically people have accounts. mental and want to feel safe in one. a large sum and they are willing to bet on another is, you know, you point out that if someone finds a way to do it well, it attracts imitators, we see it with hedge funds, Equity Funds, we did a story a year ago and Mitt Romney, that? what he did at Bane in the early years was unique, they ate their own food, they just didn't take over a company where they won and ran the company, others realized that so their advantage was lost, that It is true for most investment strategies.

I'm serious. This is almost certainly true of investment strategies. I mean, one of the things that's really very notable about your program about this program is how many optimists there are that come and tell you a way to get rich, you know they should do it. rich people, they shouldn't tell other people, is there something to the idea of ​​people who have done well over time and you make it clear that five years is not a good measure, that, when a smart manager has a cold hand ? It's that the time to get in, well, a long time when you talk well to managers, first of all, 5 years is really nothing.

I mean people who go by the five-year record just don't understand the statistics, they don't know how many. funds there are, you know, there are so many things out there that just by chance you get five good years that don't tell you anything, there are some very long streaks, so no one that I know in behavioral economics and this is not about behavioral finance, This is not my field, you know, I am not a financial expert, but no one is willing to swear that there are not some people who have some advantage, but certainly the majority of people who deal in stocks. and when making decisions they are no better than chance they are throwing points and they don't know it and that is because the market in the sense is efficient it is good it is efficient in that sense it is not necessarily efficient in the sense that it predicts the future but it is efficient in the weak, can't-do-better-than-that sense reminds me of the story of a money manager in Connecticut who years ago said that you should invest the same way you should play tennis. said: get over the fact that you're not going to play as a player at Wimbleton concentrate on just getting the ball over the net don't try to be fancy just get the ball over the net he said investing should be the same take the Vista narrow, I mean, it's obvious, again, you know if you have money to bet and if you feel confident enough with what you're going to have at the end of the day, then you can play and playing is fun. and that should count for something, I mean, what should count for something is emotion, you know, that's how we live, so you want to live a life that you enjoy, you want to feel safe, you want to sleep well at night, no I don't want to. regret, so my main advice to investors is to know yourself in terms of what you might regret, because what you might regret if you are prone to regret, there are certain things you just shouldn't do.

The implications of his work in economics are overlooked. human nature considered us rational,whatever that means, what are the implications of your work, your findings in terms of economic modeling, well, you know, this is a complicated story and, again, one that I have no expertise in, I mean, I'm psychologist. so I don't do economical models, you know, I heard about it, but I don't, there you are, you're saving your time, well, you know, I'm doing what I know. do, uh, mostly, but there have been models and I think the only area of ​​progress is behavioral finance.

I mean, otherwise, behavioral economics is widely acknowledged to be important in m in. Microeconomics is important in some policies, but you know we're not using behavioral economics successfully to predict what the market will do. You know this hasn't happened yet and it may never happen, but there is certainly in behavioral finance where the fate of about the decision making of individuals in interaction with those in the organization is known, there is a lot that we know and I think that There are many successful models, but in terms of the economy as a whole, that goes further, it has not happened yet.

I'm no expert, but it clearly hasn't happened yet. What implications do your findings have for economic policymaking? Is it good again? Is it a fool's game to think that if we do this, we understand why, we may not understand why? do it right I think in some ways the implications are largely negative. I will give you an example. I mean, it's clear that in economic theory there was an assumption that institutions act as rational agents, well, institutions are not agents, they have executives in them. So, you know, that's famous. Alan Green said his frame was wrong.

What this framework had been was that banks could be trusted to protect themselves well. Banks are run by executives and the executives protect themselves and that's not always the case. This means that banks are going to behave rationally, so we understand that this is standard economics, the agency problem and the difficulty of aligning incentives, but behavioral economics is there and can be useful in finding out what the true incentives are. and what types. of mistakes that people are most likely to make, as you have pointed out, investing five years is not a good period. No, when judging the effectiveness of a CEO, a short period of time is very misleading.

It can be very misleading. I mean, you know we usually find it very difficult to separate, you know, with us separate our impression of the CEO from our impression of how well the company is doing and you know the exact same behavior will seem firm in context and opinionated. in another and, uh, there is We can't do anything about it, this is really the way the mind works, but we have to be aware of it and we have to be aware of the fact that hindsight is very important and you know what we call the halo effect, forming an overall impression. that is very important, assign an important role, now you point out in your work that we actually have two parts of the Mind in essence, the fast visual one helps us survive and the more rational one, can you briefly describe it?

Yeah, I mean, you know. We have, we have Machinery, you know, I call them system one and system two, fast thinking and slow thinking, but it's really a way of pointing out that, just, in the way we perceive the world, you know, we don't have to decide. I don't have to decide to see you you know I see you the way I see you you see me that happens to us and many ideas happen to us we have intuitions we have feelings we have emotions all that happens we don't decide to do it we don't control it, so there are periods in which we reason in which we think more slowly and more deliberately and then, and this is crucial, we think we reason more than we actually do, that's a lot of what we think thinking is is actually finding justifications and rationalizations for things or quick thinking tells us what do.

So, that's the really dangerous part. We don't know our own minds. We think that each of us is much more rational than we are and think. that we make our decisions because we have good reasons to make them, even when it is the other way around, we believe in the reasons because we already made the decision. Can you give us a couple of examples that have impacted you over the years? confuse fast thinking and what you call slow, deliberate thinking, well you know there is one really remarkable thing and everyone is very aware of it. Why doesn't anyone chain their mind to political issues?

You know you have people talking to each other. time and the exchange of arguments and both sides in any argument feel that their arguments are completely convincing and should lead the other side to give in and they don't, and that really tells you that neither side believes what they believe because of The arguments. that they put forward, they believe in the arguments because they have those beliefs, it's really the other way around and you know, we find that everywhere, in many places, it is not Universal, I mean, you know when I decide whether to take a taxi or go by Subway I don't have feelings profound about it.

I do a rational calculation of cost and time, etc., but a lot of other decisions are really emotion-driven and driven by impressions that we have no control over, so when you do it. political decisions are made, a new consensus emerges, it's more out of emotion than someone saying aha, I'm reconsidering my position because one, two, three, four, you know, it's a lot more emotion than, you know, there are some people who are convinced by facts and you know, on the sidelines, those of us who pretend to be rational when we argue and that's a good pretense to maintain, I mean, and sometimes we communicate, but much less than we think that we will choose actions again, eh, there are a place for Graham DOD in the world I mean, is there a right way to do things?

Well, you know, my guess is this. There must be some. There are experts. Know. Everyone talks about Warren Buffett and that's why he comes. Every time I have a conversation about this, every time I have a conversation about this, but Warren Buffett is very, very smart and you know that there are a lot of things that he can do and furthermore, you know that beyond a certain point he starts to move the markets, so you know he's self-taught. Fulfill, he's self-fulfilling and you know that one has to be very lucky to get this far, but beyond that point, the fact that you continue to succeed is less impressive in terms of what no one can say well.

I'm going to be successful doing the kind of things Warren Buffett does. I think a lot of people have tried it and there aren't many Warren buffets, it's like The Green Thumb in the Garden, yeah, and in terms of closing a career. There are a lot of smart people in finance and what the implications of what he found seem to be. You won't get much of an advantage. Drive for a long time. Maybe you should go to an area where you don't have those small increments. profits, you can really use a Chinese phrase Great Leap Forward, well, you know, the strange thing is that there is a very large industry and it is possibly less useful than it claims to be, but a lot of people believe in it and and a lot of it is self-fulfilling and so I would advise people not to go into finance because you know people in finance generally do a lot better than people in a lot of other places, so I wouldn't.

I would simply say reality. is that there are many people who think they have very intelligent ideas and they are paid to think that not necessarily to have intelligent ideas, but they are paid to have ideas that convince other people and, therefore, some of it is an illusion and what It's interesting, I think it's an honest illusion. I mean, I don't have that theory at all that you know people are devious about this, people fool themselves and they're the people who fool themselves the best to have the best chance. to fool others innocently enough, that's my take on what happens in the end, going back to your experience in trying to elect officers or people who would be successful officers.

Have you come to the conclusion that there is no systemic way to do it? Well no, I mean it would be unwise, there are certainly some people who do it better than others or it's more just seeing who you know isn't going to be successful. There are people who clearly it helps a lot to know who is not going to be successful. Based on past performance, the main thing is that people who you think will do very well on average will do worse than you think, that's a fact you have to accept, so you do the best you can and it's not that you don't. there is nothing. we can do we know something about people, so we have the opportunity to choose some people, we certainly have the opportunity to reject those who will not do well and we have the opportunity to choose some people who have good chances, you know a chance to get it right, but in general, you know, the people who we think will statistically let us down, this is a reality and I guess a good example in the US is we're discussing that before Hman Rickover created the nuclear submarine.

He floats to the US against all odds and in some ways he was not a good commander of men and ships, but he did amazing things for the Navy. Well, that's what happens, it's that occasional adjustment between an individual's characteristics and characteristics. of the situation and that was his story, I think he was ideally prepared to force, you know, the force and the idea was stubborn, he was stubborn, he was also very intelligent and, in a way that people could tell that he was intelligent , he knew things that other people didn't do and that allowed him to do things that other people couldn't have done.

You wouldn't have imagined that it would have been very bad if he had been excluded at an early stage in a way that I know if the system had been sensible he would have been excluded and that would have been a great shame. I guess you see that in business, Steve Jobs biography, he has an absolutely difficult personality and some early setbacks, but he emerged as a formidable leader and I know, and anyone who thinks they can duplicate what he did, most of the People think they can duplicate or even come close, they will never succeed.

You know there was an element of luck and there was a very large element of uniqueness. personality doctor, thank you and uh, the book thinks eat fast and slow, it is worth reading, thank you, thank you very much.