Teachers die but books live on. This is why some of the most willing teachers pass on their wisdom through pages infused with experiences and wisdom gained over a period. This ‘Teachers’ Day’, let us list some of the most prominent books on personal finance that tell you what to do with your money.
Money comes with its own intrinsic value; men recognize it but do not know how to make it. Money-making decisions are purely psychological; personal finance is more personal than it is finance. This is especially true when some teachers recognize how their influence transcends boundaries as their wisdom leaves a permanent imprint on investors’ psychology. This explains why personal finance teachers recommend their students to read books that delve into the minds of investors to learn what goes on in their minds when they buy and sell stocks or invest in certain investment opportunities.
Writers are teachers of their own accord as they share their insights and experiences in books with readers inclined to learn from their pages. Some books have gained repute for their ability to garner attention on a subject like personal finance that is equally remote and deeply personal for one and all. They are:
Thinking, Fast and Slow by Daniel Kahneman
Fret not, just because this book has been penned by a psychologist. This book is highly pertinent within the context of personal finance as it delves into the two cognitive systems that shape our thought processes. System 1 operates swiftly, relying on intuition and emotions, while System 2 operates at a slower pace, engaging in deliberate and logical reasoning. Kahneman's argument revolves around the substantial influence of System 1 on our financial decision-making, often leading us down the path of irrational choices.
To illustrate, System 1 is susceptible to succumbing to loss aversion, which manifests as a propensity to prioritize evading losses over achieving equivalent gains. This predisposition can result in decisions that do not align with our optimal financial interests, such as retaining a declining stock, even when we hold the belief that it will eventually rebound.
Additionally, System 1 is prone to heuristics, which are cognitive shortcuts employed for swift decision-making. While these heuristics can offer advantages in certain situations, they also carry the risk of introducing errors. For instance, the availability heuristic nudges us toward forming judgments based on easily accessible examples, potentially leading to an overestimation of the probability of infrequent or unlikely events.
Moreover, the book explores prospect theory, which presents a model for decision-making in the presence of uncertainty. According to prospect theory, individuals tend to lean toward risk-taking when confronted with potential losses, as the emotional impact of losses is typically more pronounced than that of gains.
The insights gleaned from “Thinking, Fast and Slow” can aid us in making more informed financial decisions. By comprehending the inner workings of our minds, we can navigate the cognitive biases that lead to irrational choices.
Here are specific strategies for applying the principles from ‘Thinking, Fast and Slow’ to personal finance:
Recognize loss aversion: When making financial decisions, consciously consider potential gains alongside potential losses.
Assess what you have: Avoid excessive reliance on mental shortcuts when making financial choices. Take the time to carefully evaluate your options.
Grasp prospect theory: Understand that in situations involving risk, you may be more inclined to take risks when facing potential losses rather than potential gains.
Employ checklists: Utilize checklists to minimize errors when making financial decisions.
The Art of Thinking Clearly by Rolf Dobelli
‘The Art of Thinking Clearly,’ authored by Rolf Dobelli, delves into the exploration of 99 prevalent thinking errors, commonly referred to as cognitive biases. This book is thoughtfully structured into 10 chapters, with each chapter dedicated to dissecting a distinct category of cognitive bias. Within its pages, Dobelli illustrates each bias with vivid examples and illuminates how these cognitive pitfalls can distort our thinking. Furthermore, he extends a helping hand by offering practical advice on circumventing these biases to foster improved decision-making.
For those seeking to enhance their critical thinking abilities, this book proves to be a valuable resource. It furnishes a succinct and easily comprehensible summary of several prevalent cognitive biases. Moreover, it imparts actionable advice on sidestepping these biases to facilitate more astute decision-making.
Among the cognitive biases thoughtfully examined by Dobelli are:
Confirmation bias: The inclination to actively seek information that aligns with our preexisting beliefs while dismissing conflicting information.
Anchoring bias: The propensity to overly rely on the initial piece of information encountered when making decisions.
Availability heuristic: The proclivity to formulate judgments based on readily accessible examples.
The sunk cost fallacy: The persistence in investing further in something, even if it's proven unwise, due to the substantial prior investments in terms of time or money.
Groupthink: The inclination for individuals within a group to make decisions contrary to the group's best interests, driven by the fear of dissenting from the majority.
If you have a curiosity about delving deeper into cognitive biases and their impact on your thought processes, this book can unquestionably provide valuable insights.
Influence, The Psychology of Persuasion by Robert Cialdini
'Influence: The Psychology of Persuasion' is a work authored by Robert B. Cialdini, which delves into an exploration of six pivotal principles of persuasion: reciprocity, commitment and consistency, social proof, liking, authority, and scarcity.
These principles hold the power to influence individuals in diverse scenarios, including those pertaining to personal finance. As an illustration, a financial advisor could employ the principle of reciprocity by extending a complimentary consultation to a prospective client. Additionally, they may utilize the principle of commitment and consistency by requesting the client's signature on a contract before initiating their collaboration. Furthermore, they could leverage the principle of social proof by showcasing statistics regarding the success of their financial planning services, thereby bolstering their credibility.
The six principles encompassing the art of persuasion include:
Reciprocity: This is our natural inclination to reciprocate when someone has been generous or considerate towards us. For instance, if someone offers us a gift, we tend to feel compelled to return their kindness in some way.
Commitment and consistency: This principle underscores our inclination to maintain consistency with our previous actions and choices. For instance, when we make an agreement or commitment, we tend to be more inclined to honour it and follow through on our promises.
Social proof: This principle highlights our proclivity to emulate the behaviours of others. For instance, when we observe a significant number of people purchasing a product, we are more inclined to make the same choice.
Liking: This principle underscores our susceptibility to being more influenced by individuals we find appealing. For example, we are more prone to making a purchase from a salesperson whom we personally find attractive or likeable.
Authority: This principle underscores our inclination to be more swayed by individuals we regard as possessing authoritative expertise or status. For instance, we are more apt to heed the counsel of a doctor over that of a friend.
Scarcity: This principle emphasizes our heightened desire for something when it is perceived as rare or limited in availability. For example, we are more inclined to make a purchase if we are informed that a product is only accessible for a limited duration.
This proves to be an invaluable asset for individuals seeking a deeper understanding of the psychology of persuasion and its practical application, with particular relevance and strong recommendations for personal finance advisors.
Think Again by Adam Grant
‘Think Again’ by Adam Grant is a self-help book that asserts the critical importance of the capacity to reevaluate and unlearn in order to thrive in the swiftly evolving contemporary landscape.
The world around us is constantly changing, thus, prompting us to shift our perspective on everything including how we view our finances. This book holds particular relevance in our modern era, marked by relentless change where adaptability is paramount. It stands out as a skilfully crafted and intellectually stimulating work, offering a valuable framework for comprehending the significance of reconsideration and the art of unlearning.
The book is structured into three distinct sections:
The certainty dilemma: Grant posits that we are all vulnerable to the illusion of certainty, a perilous trap that can steer us towards unwise choices. He explores the various mechanisms through which our minds can be deceived into perceiving greater knowledge than we genuinely possess.
Harnessing the potential of re-evaluation: Grant offers a structured approach to reconsidering our convictions and preconceptions. He delves into the significance of curiosity, humility, and open-mindedness in this process.
Mastering the skill of unlearning: Grant imparts guidance on the process of shedding old beliefs and embracing fresh perspectives. He emphasizes the significance of being willing to release our attachments to our own ideas.
These and other psychology books focused on personal finance assist individuals in gaining insight into the cognitive biases that influence their financial choices. Success in managing finances is influenced less by one's intelligence and more by their behaviour. Teaching effective financial behaviour can be challenging, even when dealing with highly intelligent individuals.
As reiterated by Morgan Housel in his famous book “The Psychology of Money”, “Physics isn’t controversial. It’s guided by laws. Finance is different. It’s guided by people’s behaviours. And how I behave might make sense to me but look crazy to you.”