WEBVTT - Interview With Meir Statman: Masters in Business (Audio) 0:00:00.080 --> 0:00:02.920 What could your future hold more than you think, Because 0:00:02.920 --> 0:00:05.200 at Merrill Lynch, we work with you to create a 0:00:05.200 --> 0:00:08.880 strategy built around your priorities. Visit mL dot com and 0:00:08.960 --> 0:00:11.600 learn more about Merrill Lynch. An affiliate of Bank of America. 0:00:12.000 --> 0:00:15.320 Merrill Lynch makes available products and services offered by Merrill Lynch. Pierce, 0:00:15.320 --> 0:00:18.439 Fenner and Smith Incorporated, a Registered Broker Dealer member s 0:00:18.480 --> 0:00:24.560 I PC. This is Masters in Business with Barry Riddholts 0:00:24.680 --> 0:00:30.120 on Bloomberg Radio. This week. On the podcast, I have 0:00:30.200 --> 0:00:35.479 an extra special guest. He is Professor Meyer Stateman of 0:00:35.960 --> 0:00:41.519 Santa Clara University, and really he completes our cycle of 0:00:41.840 --> 0:00:46.519 behavioral economists, beginning with Professor Schiller, going on to Sailor 0:00:46.880 --> 0:00:51.400 Ekonoman and now Stotman. We've essentially hit for the whole cycle. UM. 0:00:51.479 --> 0:00:54.760 He's written a number of books on behavioral economics. He's 0:00:55.080 --> 0:01:00.720 advised a number of financial institutions UM, both in real 0:01:00.800 --> 0:01:06.840 life and online versions. Uh. He is extremely knowledgeable about 0:01:07.280 --> 0:01:12.840 not just behavioral economics, but contextualizing the development of this 0:01:13.000 --> 0:01:18.160 field relative to finance over the years. And I really 0:01:18.280 --> 0:01:22.959 enjoyed the way he described first generation, second generation and 0:01:23.000 --> 0:01:27.200 in the not too distant future third generation behavioral economics, 0:01:27.280 --> 0:01:33.280 because it shows how our understanding of homo economists, of 0:01:33.280 --> 0:01:39.240 of humans as perfectly efficient, rational profit maximizers, how that 0:01:39.360 --> 0:01:44.480 model was so far off, how we began to recognize 0:01:44.480 --> 0:01:47.280 it being often And you'll hear in the podcast portion 0:01:47.960 --> 0:01:52.760 the discussion of how one of his first papers back 0:01:52.760 --> 0:01:56.040 in generated so much pushback. It was one of the 0:01:56.040 --> 0:02:00.880 first behavioral economics papers published in a major nal of finance. 0:02:01.240 --> 0:02:04.560 People threatened to never submit a paper again. And it's 0:02:04.600 --> 0:02:09.120 really fascinating how the world has caught up. It only 0:02:09.200 --> 0:02:13.560 took so you go back to what is it thirty years, 0:02:13.639 --> 0:02:17.720 thirty plus years before the world of finance has gotten 0:02:18.040 --> 0:02:22.160 up to academia. I found him to be charming and delightful, 0:02:22.200 --> 0:02:24.840 and I think you will as well. So, with no 0:02:24.919 --> 0:02:32.200 further ado, my conversation with Professor Meyer Stateman. This is 0:02:32.360 --> 0:02:38.560 Master's in Business with Barry Ridholts on Bloomberg Radio. I'm 0:02:38.600 --> 0:02:42.680 Barry Ridholts. You're listening to Masters in Business on Bloomberg Radio. 0:02:43.120 --> 0:02:47.400 My extra special guest today is Professor Meyer Stateman. He 0:02:47.639 --> 0:02:52.000 is the Glenn Clinic Professor of Finance at Santa Clara University. 0:02:52.440 --> 0:02:55.760 If you follow behavioral finance. You should certainly be familiar 0:02:56.000 --> 0:02:58.120 with his work. His research has been published in the 0:02:58.200 --> 0:03:02.760 Journal of Finance, Review of Financial Studies. He's won numerous awards, 0:03:02.800 --> 0:03:07.640 Bill Sharp Best Paper Award, Bernstein Fabazzi, Jacob Leavy Outstanding 0:03:07.720 --> 0:03:12.440 Article Award, the Moscow It's Prize, the MacArthur Industry Pioneer Award, 0:03:12.560 --> 0:03:15.960 i am c A Journal Awards, and three Graham and 0:03:16.120 --> 0:03:21.200 Dot Awards. He is on the Wealth Front Investment Advisory Board, 0:03:21.560 --> 0:03:25.040 and he was named one of twenty five most influential 0:03:25.080 --> 0:03:31.519 people by Investment Advisor Meyer Stateman. Welcome to Bloomberg. Delighted 0:03:31.560 --> 0:03:34.400 to be with you, Barry So. By the way, that 0:03:34.520 --> 0:03:37.880 is really the short version of your curriculum, Vita. I 0:03:37.920 --> 0:03:40.920 could go on and on about um, lots and lots 0:03:40.960 --> 0:03:45.200 of stuff, but let's jump into it because you have 0:03:45.240 --> 0:03:48.880 such an interesting background and your work is so fascinating. Um, 0:03:48.960 --> 0:03:53.560 you were at the University of Jerusalem, and also at 0:03:53.560 --> 0:03:57.080 the University of Jerusalem were Danny Kahneman and Amos Tversky. 0:03:57.360 --> 0:03:59.880 Did your time their overlap at all with theirs? Death 0:04:00.120 --> 0:04:02.760 is a very interesting question. Yeah, it is the Hebrew 0:04:02.840 --> 0:04:06.880 University of Jerusalem and and and the Economics building where 0:04:06.920 --> 0:04:11.080 I studied is right next to the psychology building, and 0:04:11.080 --> 0:04:14.920 and during my studies I earned pocket money by walking 0:04:15.000 --> 0:04:19.960 over to the psychology department and serving as a guinea 0:04:20.040 --> 0:04:23.080 pig for experiments. It turns out that these were not 0:04:23.360 --> 0:04:26.559 by Karman and Trusting themselves. When I talked to them 0:04:26.600 --> 0:04:31.120 and identify them, it was others. But I had no 0:04:31.200 --> 0:04:34.599 idea of who they are, and I had no idea 0:04:34.960 --> 0:04:38.080 of their work. And and it can tell you that 0:04:38.080 --> 0:04:41.800 that while there were just feet separating the two buildings, 0:04:42.600 --> 0:04:48.839 the world that separated psychology and economics and finance was 0:04:49.000 --> 0:04:52.400 really very very tall, like some other wall I will 0:04:52.440 --> 0:04:57.159 not mention well. In the Undoing Project, which Michael Lewis 0:04:57.200 --> 0:05:00.160 just published last year, he said he spent a lot 0:05:00.160 --> 0:05:04.400 of times speaking to people at the university, and I 0:05:04.440 --> 0:05:08.320 guess later in their careers there were some really fascinating 0:05:08.360 --> 0:05:11.640 tales about about the two of them. I think your 0:05:11.680 --> 0:05:15.200 age difference you might have been sort of in between 0:05:16.360 --> 0:05:21.120 that just before they they became quite famous. Death is right. Yeah, 0:05:21.120 --> 0:05:25.680 I became aware of their work really at the very 0:05:25.839 --> 0:05:29.200 beginning of nine, when I came to Santa Clarian University 0:05:29.279 --> 0:05:32.520 and I met her cheffering and her cheffering now of 0:05:32.680 --> 0:05:37.360 his work, of their work through a Dick Taylor when 0:05:37.400 --> 0:05:40.680 they were both at Rochester, and from that it was 0:05:40.880 --> 0:05:43.279 off to the races, to say the least. So, so 0:05:43.360 --> 0:05:48.039 let's get into a little bit about um finance and psychology. 0:05:48.400 --> 0:05:51.320 You have an m b A. But you also have 0:05:51.400 --> 0:05:53.760 spent a lot of time in the world of psychology. 0:05:53.800 --> 0:05:57.159 How do you go from studying finance, how do you 0:05:57.279 --> 0:06:00.920 morph towards towards the psychology side of it? Well, I've 0:06:00.960 --> 0:06:05.120 always been interested in human behavior any any time when 0:06:05.160 --> 0:06:09.839 I think about my childhood, and then I thought that 0:06:10.600 --> 0:06:14.080 learning about economic behavior would tell me a whole lot. 0:06:14.240 --> 0:06:16.800 It did, And I always felt that there was something 0:06:16.839 --> 0:06:21.560 missing in those models, but I could not identify precisely what. 0:06:22.480 --> 0:06:25.880 And it was only kind of thing in hindsight that 0:06:25.960 --> 0:06:30.080 I can see how things come together. Uh. And it 0:06:30.120 --> 0:06:32.800 was of course the work of khanmon In firs Key 0:06:33.640 --> 0:06:38.200 that creative structure, and I could see the connection between 0:06:38.720 --> 0:06:42.640 what they were doing and what it is that I 0:06:42.760 --> 0:06:45.880 had in mind. So, so let's talk a little bit 0:06:46.000 --> 0:06:52.760 bit about where economics misses the human behavioral side. How 0:06:52.800 --> 0:06:56.520 did we ever begin with the assumption that humans or 0:06:56.720 --> 0:07:01.360 rational profit maximizing actors. If you spend any time with humans, 0:07:01.760 --> 0:07:06.120 it's pretty clear they're not especially rational. Well, that too 0:07:06.200 --> 0:07:09.200 is a very interesting question, because I wrote a paper 0:07:09.880 --> 0:07:14.320 that led me to go back to all the issues 0:07:14.360 --> 0:07:16.960 of the genre finance and the financial analysts, you know, 0:07:17.480 --> 0:07:19.440 And if you look at stuff that was written in 0:07:20.840 --> 0:07:24.440 it's very clear that people in finance knew about human behavior. 0:07:24.680 --> 0:07:29.520 For example, I saw an article that wrote about the 0:07:29.600 --> 0:07:33.480 reluctance of people to realize losses and how they they 0:07:33.560 --> 0:07:36.560 just hope against hope that it will come back, and 0:07:36.560 --> 0:07:40.680 and and that author tried to persuade them that tax 0:07:40.760 --> 0:07:45.440 considerations should drive them to realize their losses. Well, that 0:07:45.600 --> 0:07:50.280 was really lost once we got to Miller and Modigliani 0:07:50.840 --> 0:07:55.720 and the rational view of finance that fit in simple 0:07:56.200 --> 0:08:01.480 mathematical models. And then it became the models became sort 0:08:01.480 --> 0:08:06.800 of the jail of people, and and people were cut 0:08:07.160 --> 0:08:10.160 and quartered to fit into the models rather than the 0:08:10.200 --> 0:08:14.239 models expanding to fit what people really are. So that 0:08:14.480 --> 0:08:20.040 naturally leads to the question, um our markets really efficient? 0:08:20.240 --> 0:08:26.000 And is the efficient market hypothesis is it truly valid? Well, 0:08:26.440 --> 0:08:30.480 there's great confusion about this issue of market efficiency. Uh, 0:08:31.080 --> 0:08:35.400 there's a claim that behavior finance great contribution is to 0:08:35.400 --> 0:08:38.400 show that markets are not efficient. That I think is 0:08:38.600 --> 0:08:43.880 not so. There are two concepts, two notions of market 0:08:43.920 --> 0:08:48.800 efficiency there are that are regularly confused. One is the 0:08:48.840 --> 0:08:53.040 notion that efficient markets and markets were price equals value, 0:08:54.000 --> 0:08:58.000 and the other is the notion that markets are hard 0:08:58.080 --> 0:09:03.440 to beat. Now. Price equal value markets, for example, do 0:09:03.480 --> 0:09:08.880 not allow for bubbles because bubbles imply divergence of price 0:09:09.280 --> 0:09:15.240 from value. But knowing that you will have bubbles does 0:09:15.280 --> 0:09:18.960 not mean that you know when they occur when it 0:09:19.160 --> 0:09:22.800 is time to actually take advantage of them. Coming up, 0:09:22.800 --> 0:09:27.199 we continue our conversation with Professor Meyer Stateman discussing Finance 0:09:27.640 --> 0:09:31.800 for Normal People. I'm Barry Ritolts. You're listening to Masters 0:09:31.800 --> 0:09:35.400 in Business on Bloomberg Radio. My special guest today is 0:09:35.480 --> 0:09:41.119 Professor Meyer Stateman. He teaches at Santa Clara University, focusing 0:09:41.280 --> 0:09:45.600 on finance and behavioral economics. UM, so let's talk about 0:09:45.640 --> 0:09:49.120 your most recent book, Finance for Normal People. I have 0:09:49.200 --> 0:09:53.959 to ask you about the title. How did that come about? Well, 0:09:54.160 --> 0:09:58.480 I've been speaking for a long time about people as normal. 0:09:58.840 --> 0:10:03.400 People like me, people like you, people like your listeners. 0:10:04.280 --> 0:10:08.480 The The history of the field is that we start 0:10:09.120 --> 0:10:14.760 with the standard rational people, people who are immune to 0:10:14.920 --> 0:10:18.720 cognitive errors, people who look only for risk and return 0:10:18.840 --> 0:10:24.600 when they choose products, financial products, financial services. Then we 0:10:24.679 --> 0:10:27.960 moved to the first generation of behavioral finance, where we 0:10:28.040 --> 0:10:34.000 declared people irrational. Uh, subject to all kinds of cognitive errors. 0:10:34.000 --> 0:10:39.480 They are overconfident, they are suffering from hindsight bias, and 0:10:39.559 --> 0:10:44.480 so on. Almost people are stupid. Uh. What I say 0:10:44.760 --> 0:10:49.640 is that I'm not stupid. You're not stupid. Your listeners 0:10:49.640 --> 0:10:52.880 are not stupid. We are normal. Sometimes we behave in 0:10:52.960 --> 0:10:58.680 foolish ways, but normal people have normal wants. And you 0:10:58.720 --> 0:11:03.320 can see that in ads or financial services companies. You 0:11:03.440 --> 0:11:08.560 see a grandfather and and and a grandchild. Uh, they 0:11:08.600 --> 0:11:13.240 are fishing together. Uh. This tells you what is the 0:11:13.280 --> 0:11:16.160 money for? You know, we we we talked about how 0:11:16.240 --> 0:11:19.040 you make the most money, But what is the money for. 0:11:19.600 --> 0:11:23.200 It is for the financial security of the grandfather. It 0:11:23.360 --> 0:11:26.760 is for the ability of that grandfather to help his 0:11:27.000 --> 0:11:30.280 grandchild and so on. So one of the things that 0:11:30.320 --> 0:11:34.880 people care about is financial security. Another thing they care 0:11:34.920 --> 0:11:40.200 about is family. And once you begin with what people want, 0:11:40.400 --> 0:11:44.000 then you can ask yourself. What kind of mistakes do 0:11:44.120 --> 0:11:47.880 people make on the way to what they want? And 0:11:47.920 --> 0:11:51.560 this is really where cognitive and emotional errors come in. 0:11:51.840 --> 0:11:56.079 So so what I'm hearing from you is that investors 0:11:56.080 --> 0:12:00.640 should be goal oriented, not merely money oriented. It and 0:12:00.679 --> 0:12:04.560 the money itself should serve a certain purpose. And that's 0:12:04.600 --> 0:12:08.439 what you're working towards, not just how could I maximize 0:12:08.480 --> 0:12:12.800 what my stock participation on my precisely precisely that the 0:12:13.040 --> 0:12:16.720 question is what is the peney for? Uh? And people 0:12:16.760 --> 0:12:19.520 don't stop and ask this question, you know. I I 0:12:19.600 --> 0:12:23.000 kind of joke about about an investor who comes to 0:12:23.040 --> 0:12:27.560 his advisor, UH in early two tho nine, and the 0:12:27.800 --> 0:12:31.600 advisor all shaking, of course, and the advisor says, what 0:12:31.640 --> 0:12:35.560 they're complaining about? I put you on the efficient frontier. Well, 0:12:35.720 --> 0:12:39.000 of course we know exactly what he is complaining about. 0:12:39.080 --> 0:12:41.840 He is complaining because he is no longer sure that 0:12:41.960 --> 0:12:44.360 he will be able to retire, He is not sure 0:12:44.400 --> 0:12:47.400 that he'll be able to help his grandkids as he 0:12:47.720 --> 0:12:52.959 promised himself to do. Uh. So we have to be 0:12:52.960 --> 0:12:57.240 begin with what it is that people want, what it 0:12:57.440 --> 0:13:00.240 is that normal people want? And this is why call 0:13:00.360 --> 0:13:03.240 the book Findance for normal people. So in the book 0:13:03.320 --> 0:13:05.480 you have a box and you have a list of 0:13:05.559 --> 0:13:09.880 common wants and desires. But that raises a question, can 0:13:09.920 --> 0:13:16.199 investors really get everything that they want? No, investors, we 0:13:16.360 --> 0:13:20.280 cannot get everything we want. We have of course trade offs. 0:13:21.280 --> 0:13:26.360 We can. We can give money to charity, uh, and 0:13:26.480 --> 0:13:29.200 that is going to feel good, and that is going 0:13:29.240 --> 0:13:32.559 to be consistent with our values, but it might if 0:13:32.600 --> 0:13:36.800 we give too much. Imperial our financial security and that 0:13:37.080 --> 0:13:39.760 is one thing that we want as well. And so 0:13:39.840 --> 0:13:45.040 you can see that there are many competing ones. And 0:13:45.080 --> 0:13:47.080 one of the things that we do in life, of 0:13:47.080 --> 0:13:51.839 course is balance them and ask ourselves what is most important. 0:13:51.880 --> 0:13:56.920 And that really matters also to people who are older 0:13:57.960 --> 0:14:01.720 people who ask themselves, of now what am I going 0:14:01.760 --> 0:14:08.240 to do with that money? We have used become used 0:14:08.360 --> 0:14:11.200 to saving. We are good at saving if we already 0:14:11.520 --> 0:14:14.880 have saved a good amount, but now we find that 0:14:15.000 --> 0:14:18.640 terrific difficult to spend. So what they're going to spend 0:14:19.120 --> 0:14:24.360 the money on? And and some people live as if 0:14:24.400 --> 0:14:27.040 they are poor when they have a ton of money 0:14:27.120 --> 0:14:30.560 because they've learned to save, but they've never learned to send. 0:14:30.680 --> 0:14:34.440 That raises an interesting question. We see this all the 0:14:34.560 --> 0:14:40.320 time in that people who who start out very risk 0:14:40.360 --> 0:14:44.960 embracing very aggressive they start businesses, they're entrepreneurs, they start companies, 0:14:45.360 --> 0:14:47.960 and they're used to taking a lot of risk, and 0:14:48.000 --> 0:14:51.400 suddenly they're sixty years old, they've sold their business, they're 0:14:51.400 --> 0:14:57.760 thinking about philanthropy, retirement, wealth, generational transfers, and you it's 0:14:57.920 --> 0:15:02.000 very challenging to get them to wreck nies. They shouldn't 0:15:02.040 --> 0:15:04.320 be taking as much risk. They should become a little 0:15:04.320 --> 0:15:08.200 more conservative because they've already they've already hit the jackpot. 0:15:08.200 --> 0:15:11.840 They don't need to to embrace more risk. And that's 0:15:11.840 --> 0:15:14.480 a really challenging transition. How do you get people to 0:15:14.600 --> 0:15:20.320 recognize that their needs and wants change over time. Well, 0:15:20.480 --> 0:15:24.120 I think that people need to be reflective, and people 0:15:24.680 --> 0:15:29.200 need to be helped in becoming reflectives. An advisor can 0:15:29.600 --> 0:15:34.040 help them do that. I mean, here, here's a personal story. Uh, 0:15:34.160 --> 0:15:37.160 my wife and I flew to Israel a few months ago. 0:15:38.080 --> 0:15:42.680 We bought coach tickets and we were on the weightlist 0:15:42.960 --> 0:15:45.920 for upgrade. It would have cost us six hundred dollars 0:15:46.240 --> 0:15:51.720 a piece each way to get us too from California 0:15:51.800 --> 0:15:55.600 to You should have spent the money so so we 0:15:55.680 --> 0:15:59.760 were not upgraded. Uh so we decided that we are 0:16:00.080 --> 0:16:05.400 old enough and well off enough to buy regular business 0:16:05.400 --> 0:16:10.120 class tickets, even though you know, I feel a bit 0:16:10.200 --> 0:16:12.600 like like a fold because it costs four or four 0:16:12.800 --> 0:16:17.880 five times flight. Who needs exactly? If you can afford 0:16:17.960 --> 0:16:20.760 it and your kids are taking care of and so on, 0:16:21.080 --> 0:16:23.560 what will you do with that money? So you have 0:16:23.640 --> 0:16:27.880 to figure out what matters to you. This is one example. 0:16:28.160 --> 0:16:31.600 In another example, we decided to buy a regular car 0:16:32.120 --> 0:16:36.480 and donate the savings relative to a prestige car to 0:16:36.640 --> 0:16:39.640 charity because it gives us more pleasure and they're going 0:16:39.680 --> 0:16:43.400 to feel awkward in one of those luxury cars. That's interesting. 0:16:43.440 --> 0:16:47.560 So really you're raising the point, how should investors and 0:16:47.880 --> 0:16:51.680 indeed families who are putting together a household budget, how 0:16:51.720 --> 0:16:55.080 should they prioritize their wants and needs exactly? And that 0:16:55.240 --> 0:16:58.920 is true for the saving stage, the working life, as 0:16:58.960 --> 0:17:02.640 well as the retires stage. Coming up, we continue our 0:17:02.680 --> 0:17:08.680 conversation with Professor Meyer Stateman of Santa Clara University discussing 0:17:08.840 --> 0:17:13.679 what investors really want. I'm Barry Ridhults. You're listening to 0:17:13.840 --> 0:17:17.399 Masters in Business on Bloomberg Radio. My special guest today 0:17:17.600 --> 0:17:20.679 is Meyer Stateman. He is the Glenn Clinic Professor of 0:17:20.760 --> 0:17:25.440 Finance at Santa Clara University. He is also the author 0:17:25.560 --> 0:17:30.160 of Finance for Normal People. His previous book, What Investors 0:17:30.240 --> 0:17:33.840 Really Want Know What Drives Investor behavior and makes Smarter 0:17:34.000 --> 0:17:39.000 financial Decisions is highly regarded and available on Amazon or 0:17:39.040 --> 0:17:44.639 your favorite book bookseller. Let's talk about what investors really want? 0:17:45.119 --> 0:17:49.960 You know. We briefly touched upon economic rationality um before, 0:17:50.640 --> 0:17:55.600 but that kind of demands that investors seek utilitarian benefits 0:17:56.040 --> 0:18:01.000 from investing. That doesn't really seem to be how people operate. 0:18:01.080 --> 0:18:04.399 We're not just measuring risk and putting it up against 0:18:04.400 --> 0:18:08.280 potential reward, are we? That is right. We we do 0:18:08.359 --> 0:18:12.320 look for utilitarian benefits. We do look to increase our 0:18:12.359 --> 0:18:15.440 wealth at the level of risk that is right for us. 0:18:16.160 --> 0:18:20.760 But we also look for expressive and emotional benefits. You know. 0:18:20.840 --> 0:18:23.080 I like to tell the story of a man who 0:18:23.160 --> 0:18:27.480 is considering whether to give his beloving a red rose 0:18:27.680 --> 0:18:30.120 or ten dollars, which is the price of that row. 0:18:30.160 --> 0:18:34.120 As well, A rational man would say, why not give 0:18:34.119 --> 0:18:36.960 her ten dollars? This way she can choose what she wants. 0:18:36.800 --> 0:18:40.720 A rational single man, a rational single married man knows 0:18:40.760 --> 0:18:45.399 better those who are still married. Yeah. So, so the 0:18:45.480 --> 0:18:49.480 idea is, and let's bring this back to investing. There 0:18:49.480 --> 0:18:53.720 are expressive and emotional benefits to what we do with 0:18:53.760 --> 0:18:58.879 our money that go over and above the mere utilitarian 0:18:59.560 --> 0:19:02.080 function of it. Is that a fair way to absolutely 0:19:02.320 --> 0:19:07.320 and so and so I think think about about donations 0:19:07.320 --> 0:19:11.120 to charity. When you donate to a charity, you give 0:19:11.200 --> 0:19:16.120 up utilitarian benefits of money that you just donated. But 0:19:16.280 --> 0:19:19.439 hopefully you get a sense that you are true to 0:19:19.520 --> 0:19:22.680 your value, that you have done good for people who 0:19:22.720 --> 0:19:27.000 don't have as much as you do, and that is 0:19:27.200 --> 0:19:32.639 sufficient compensation in expressive and emotional benefits for the utilitarian 0:19:32.720 --> 0:19:36.080 benefits that you lose. So let's let's again let's talk 0:19:36.119 --> 0:19:43.119 about some things. Um, the sort of emotional benefits investors get. 0:19:44.080 --> 0:19:48.000 A positive one you mentioned previously was security and the 0:19:48.040 --> 0:19:51.919 ability to help the next generation in their family as 0:19:51.960 --> 0:19:55.120 well as as well as philanthropy. But but I want 0:19:55.119 --> 0:19:56.679 to talk a little bit about what I like to 0:19:56.720 --> 0:20:01.320 call the cocktail party factor. And we see less of 0:20:01.359 --> 0:20:04.439 this today than perhaps we used to. If you remember 0:20:04.440 --> 0:20:07.520 in the ninety nineties, you couldn't go to a cocktail 0:20:07.560 --> 0:20:11.080 party or a barbecue or a dinner party where all 0:20:11.119 --> 0:20:14.800 the people outside of the industry, the finance industry, all 0:20:14.840 --> 0:20:17.040 they could talk about was their favorite stock, what they 0:20:17.080 --> 0:20:19.320 were buying, how much money they were going to make. 0:20:19.720 --> 0:20:22.840 We saw something similar in the two thousands with at 0:20:22.920 --> 0:20:25.800 least the first half with houses and this and that. So, 0:20:26.200 --> 0:20:30.840 what is the emotional benefit of being able to chat 0:20:30.880 --> 0:20:34.720 about your stock picking prowess, how great your hedge fund 0:20:34.800 --> 0:20:38.120 manager is, etcetera. What what is the value of that 0:20:38.560 --> 0:20:43.240 irrational or not to investors? Well, what is the value 0:20:43.280 --> 0:20:46.920 of solving puzzles? Uh? You know if if you fun 0:20:47.200 --> 0:20:50.600 entertainment exactly, and and so for for lots of people, 0:20:51.040 --> 0:20:55.480 it is fun entertainment and also demonstration of their ability 0:20:55.640 --> 0:20:59.040 off their smarts, and so I can pick stocks that 0:20:59.320 --> 0:21:02.760 are going to beat the markets. TIChE is that it is. 0:21:02.840 --> 0:21:06.600 It is a self satisfaction. It is an image of 0:21:06.640 --> 0:21:10.720 myself as a competent person and a demonstration to other 0:21:10.760 --> 0:21:14.720 people that I'm a competent person. And so I invest 0:21:14.800 --> 0:21:17.560 sometimes in individual stocks which I don't. But but but 0:21:17.640 --> 0:21:22.159 if that typical person you're talking about, uh, most likely 0:21:22.240 --> 0:21:25.480 tells others only of those stocks that went up, uh, 0:21:25.600 --> 0:21:28.960 not those that went down because he's trying to demonstrate 0:21:29.000 --> 0:21:32.360 competence to himself but also to other people. That selection 0:21:32.680 --> 0:21:36.520 selective retention. Uh, people only remember their winners, they don't 0:21:36.560 --> 0:21:38.840 remember their losers. Do that. Yeah, well they have not 0:21:38.920 --> 0:21:41.920 really lost anything because they have not realized that loss yet. 0:21:42.880 --> 0:21:45.479 So so let's talk a little bit about um some 0:21:45.520 --> 0:21:49.280 other ways this manifests itself. We see index funds gaining 0:21:49.280 --> 0:21:53.520 in popularity. Uh, that doesn't really give people much to 0:21:53.520 --> 0:21:57.960 talk about at at dinner parties. How does the rise 0:21:58.000 --> 0:22:03.679 of indexing chan enge investor behavior? Well, I think I 0:22:03.720 --> 0:22:07.480 think that finally people are getting the point that if 0:22:08.160 --> 0:22:13.720 you are a typical individual investor, markets are difficult to beat. 0:22:13.760 --> 0:22:17.760 Their hard to beat. Yes, hedge fund managers do beat them, 0:22:17.800 --> 0:22:22.440 but you do not. And so people are moving towards 0:22:22.680 --> 0:22:26.399 index funds and in in an odd way, Uh, they're 0:22:26.440 --> 0:22:31.320 getting the same kind of satisfaction of feeling clever, feeling 0:22:31.440 --> 0:22:35.719 smart by buying index funse. That is what I do. 0:22:36.040 --> 0:22:38.440 That is, I look at people who try to play 0:22:38.520 --> 0:22:42.040 the market, and I think about them as idiots, and 0:22:42.200 --> 0:22:45.480 I take pleasure and being smart enough not to waste 0:22:45.560 --> 0:22:49.080 my money on attempts to beat the market. Coming up, 0:22:49.080 --> 0:22:52.480 we continue our conversation with Professor Meyer Stateman of Santa 0:22:52.520 --> 0:22:58.800 Clara University discussing the details of behavioral finance. I'm Barry Ridholts. 0:22:58.800 --> 0:23:01.919 You're listening to Mass Teas in Business on Bloomberg Radio. 0:23:02.359 --> 0:23:06.880 My guest today is Professor Meyer Stateman of Santa Clara University, 0:23:07.359 --> 0:23:11.880 who is an expert in both finance and behavioral economics. Uh. 0:23:12.000 --> 0:23:14.840 Let's let's talk a little bit about something you alluded 0:23:14.880 --> 0:23:21.639 to earlier. First generation behavioral economics, second generation, third generation. 0:23:22.080 --> 0:23:26.000 So you started out saying first generation was the recognition 0:23:26.040 --> 0:23:31.600 that people aren't rational, and the second generation was, well, 0:23:31.680 --> 0:23:35.160 people make bad decisions, they make mistakes, but that doesn't 0:23:35.280 --> 0:23:39.359 mean they're stupid. That's just humans being humans. What is 0:23:39.440 --> 0:23:43.040 third generational? What I'm still I'm still in the second generation. 0:23:44.040 --> 0:23:47.440 In the first generation, Yeah, people are are irrational, people 0:23:47.480 --> 0:23:51.600 are idiots. Uh, but of course we are not idiots. 0:23:51.920 --> 0:23:55.760 There are things we want so so consider for example, trading. 0:23:59.000 --> 0:24:01.760 Trading has been attributed to a cognitive era. Why is 0:24:01.800 --> 0:24:04.679 it that people trade so much because they're overconfident in 0:24:04.720 --> 0:24:10.359 their abilities? Yes, that is true, but as we mentioned, 0:24:10.600 --> 0:24:12.879 it is also a matter of entertainment. Why is it 0:24:12.960 --> 0:24:17.399 that people play video games? For some people, trading is 0:24:17.440 --> 0:24:21.320 the equivalent of video games. But with money, there's there's 0:24:21.480 --> 0:24:24.320 I used to call it atari for money. You basically 0:24:24.760 --> 0:24:28.680 would sit at a screen lightswood flash, things would move, 0:24:29.240 --> 0:24:31.760 and you were trying to shoot the bad guys in 0:24:31.840 --> 0:24:35.639 order to make money. And it was absolutely an addictive 0:24:35.840 --> 0:24:39.520 adrenaline rush, as intense as any video game. Yeah, and 0:24:39.840 --> 0:24:44.240 if you do it, you know, with with a measure, 0:24:44.920 --> 0:24:48.800 just a little, you'll be fine. Think about buying a 0:24:48.920 --> 0:24:52.119 lottery ticket. You know, people who buy lottery tickets are 0:24:52.160 --> 0:24:56.399 derided as people who don't know math. But but you know, 0:24:56.560 --> 0:24:59.600 a lottery ticket costs a dollar or five and it 0:24:59.760 --> 0:25:03.160 gives as hope for the entire week before we find 0:25:03.200 --> 0:25:07.640 out that we lost again, and hope. Now, think about movies, 0:25:07.840 --> 0:25:10.920 you know, movies of fiction, and yet we pay real 0:25:11.000 --> 0:25:13.840 money for them. You're entertained for two hours. Buy a 0:25:13.920 --> 0:25:16.560 lottery ticket, you get to talk about here's what I 0:25:16.560 --> 0:25:20.280 would do with the hundred million dollars exactly, and and 0:25:20.280 --> 0:25:23.679 and so and so. The question really is not uh 0:25:24.040 --> 0:25:27.280 but mistakes. You have to begin with what it is 0:25:27.320 --> 0:25:31.560 that people want, and then ask yourself, how should you 0:25:31.920 --> 0:25:35.399 go towards what you want without making mistakes. And so 0:25:35.520 --> 0:25:39.879 buying one lottery ticket a week that's fine. Spending half 0:25:39.960 --> 0:25:43.440 your pay on lottery ticket, that's an error. That's a problem. 0:25:43.480 --> 0:25:46.800 That's a real problem. So you're drawing an interesting dividing 0:25:46.840 --> 0:25:55.520 line between the both emotional and utilitarian uses of either 0:25:55.600 --> 0:25:59.480 investing or money or what have you. And it sounds 0:25:59.520 --> 0:26:02.600 like you leave we run into trouble when we don't 0:26:02.640 --> 0:26:07.520 acknowledge or recognize the legitimate, expressive and emotional side of 0:26:07.600 --> 0:26:12.520 investing and not contain it. Don't try and completely shut 0:26:12.560 --> 0:26:14.960 it out, but you have to contain it in a 0:26:15.080 --> 0:26:17.919 dollar a week for a lottery ticket isn't the end 0:26:17.920 --> 0:26:23.879 of the world, precisely. And so think about socially responsible investing. 0:26:24.800 --> 0:26:28.920 If you if you invest in a way that's socially responsible, 0:26:30.040 --> 0:26:33.440 you may say, lose one percentage point of your return, 0:26:34.640 --> 0:26:37.480 it will give you expressive and emotional benefits. You have 0:26:37.520 --> 0:26:42.040 to ask yourself whether that one percent laws in utilitarian 0:26:42.160 --> 0:26:46.880 benefit UH is not too large relative to the benefits 0:26:47.000 --> 0:26:50.199 that you derive from it UH. And so all of 0:26:50.240 --> 0:26:55.080 those things have to be done in proportion, in in 0:26:55.119 --> 0:26:59.760 a in a good sense. The same applies to things 0:27:00.119 --> 0:27:04.760 hedge funds. You know, hedge funds are prestigious because not 0:27:04.960 --> 0:27:08.359 everyone is allowed to buy a hedge funds, so you 0:27:08.400 --> 0:27:12.800 can signal your wealth by doing so. But buying hedge 0:27:12.800 --> 0:27:18.399 funds for prestige and ending up losing money that is 0:27:18.440 --> 0:27:22.920 not really a very good way off achieving prestige. I'm 0:27:22.920 --> 0:27:25.880 gonna I'm gonna share a personal anecdote. There was a 0:27:25.920 --> 0:27:28.720 friend of the family who asked my opinion of a 0:27:28.760 --> 0:27:34.040 specific hedge fund manager who I personally um suggested he 0:27:34.119 --> 0:27:38.560 stay away from famous guy regard well regarded early in 0:27:38.560 --> 0:27:42.800 his career, not so much lately, And this person ignored 0:27:42.840 --> 0:27:48.159 the advice and spent the next five years gleefully. I 0:27:48.240 --> 0:27:51.760 can't describe it any way other way than bragging about 0:27:51.800 --> 0:27:54.480 how much money this fund manager was losing for him. 0:27:54.560 --> 0:27:57.200 And it took me a while to realize, Oh, he's 0:27:57.240 --> 0:28:00.960