Personal Finance for Googlers (Google, 2015)
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This is a version of my Personal Finance for Engineers talk given for Google's "Financial Fitness Week" on May 4th, 2015 at Google HQ.
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Personal Finance for Googlers (Google, 2015)
- 1. wealthfront.com Adam Nash CEO, Wealthfront @adamnash Personal Finance for GOOGLERS
- 2. ©2015 Wealthfront, Inc. 2 Caveats & Preface § I am not a financial planner § This presentation is not financial advice § You would be extremely foolish to make investment decisions based on the content of this presentation or discussion § The opinions in this deck are intended to provoke discussion & further education
- 3. ©2015 Wealthfront, Inc. 3 Why Personal Finance? § Poorly covered in traditional education, even top tier universities § Not technically difficult, but the signal:noise ratio is terrible § Massive impact on your life – Money is one of the top 3 reasons for marital problems
- 4. ©2015 Wealthfront, Inc. 4 Why “for Googlers?” § Tend to make higher incomes early in life, thus face questions sooner § Tend to have complicated instruments, like stock options, as part of their compensation § Believe they are rational, which is actually a problem when it comes to money
- 5. ©2015 Wealthfront, Inc. 5 Fast Five Finance Basics 1. Behavioral Finance Basics 2. Liquidity is Undervalued 3. Cash Flow Matters 4. The Magic of Compounding 5. Good Investing is Boring
- 6. (show of hands) BEHAVIORAL FINANCE BASICS: How many of you think you are rational with your money?
- 7. ©2015 Wealthfront, Inc. ANCHORING MENTAL ACCOUNTING CONFIRMATION & HINDSIGHT BIAS GAMBLER'S FALLACY OVERCONFIDENCE HERD BEHAVIOR OVERREACTION & AVAILABILITY BIAS LOSS AVERSION (PROSPECT THEORY) YOU ARE NOT RATIONAL
- 8. ©2015 Wealthfront, Inc. 8 Anchoring § People estimate answers to new / novel problems with a bias towards reference points § Example: 1974 Study § Most common examples: – Price you bought a stock at – High point for a stock
- 9. ©2015 Wealthfront, Inc. 9 Mental Accounting § Money is fungible, but people put it in separate “mental accounts” § Lost movie tickets example § “Found Money” problem § Vacation fund & credit card debt
- 10. ©2015 Wealthfront, Inc. 10 Confirmation & Hindsight Bias § We selectively seek information that supports pre-existing theories, and ignore / dispute information that disproves them § We overestimate our ability to predict the future based on the “obviousness” of the past (example: real estate)
- 11. ©2015 Wealthfront, Inc. 11 Gambler's Fallacy § We see patterns in independent, random chains of events § We believe that, based on series of previous events, an outcome is more likely than odds actually suggest § Coin flip example § It's because with human behavior, there are no “independent” events
- 12. ©2015 Wealthfront, Inc. 12 Herd Behavior § We have a tendency to mimic the actions of the larger group § Crowd psychology is a major contributor to bubbles (believed) § Easier to be “wrong with everyone” than “right and alone” § No one gets fired for buying IBM?
- 13. ©2015 Wealthfront, Inc. 13 Overconfidence § In one study, 74% of investment managers believe they deliver above average returns § Positively correlated with High IQ... § Learn humility early
- 14. ©2015 Wealthfront, Inc. 14 Overreaction & Availability Bias § Overreact to recent events § Overweight recent trends § Studies demonstrate that checking stock prices daily leads to more trading and worse results on average § Worse in high tech, because we are immersed in “game changers”
- 15. ©2015 Wealthfront, Inc. You have a 100% chance of gaining $500. B You have $1,000 and you must pick one of the following choices: You have a 50% chance of gaining $1,000, and a 50% chance of gaining $0. A OR
- 16. ©2015 Wealthfront, Inc. You have a 100% chance of losing $500. B Now, you have $2,000 and you must pick one of the following choices: You have a 50% chance of losing $1,000, and a 50% chance of losing $0. A OR
- 17. ©2015 Wealthfront, Inc. 17 Loss Aversion (aka Prospect Theory) § We hate losses more than we love winning § Average loss aversion is 3:1 (!) § Affects views on wide range of situations, including taxes, holding on to losing stocks, “sunk cost” mistakes
- 18. IT'S OK TO NOT BE RATIONAL
- 19. ©2015 Wealthfront, Inc. 19 It's OK to Not Be Rational § The key is that humans are predictably irrational § Know your own flaws, and you can set up systems to account for them § Self-awareness is key (yes, my Mom is a psychologist...)
- 20. ©2015 Wealthfront, Inc. 20 Liquidity is Undervalued § Strictly defined: it's the quanti- fication of how much money you can get, and how fast § Liquidity is the power to take advantage of great investment opportunities § Liquidity is also, in the end, the only thing that matters when you need to pay for something
- 21. ©2015 Wealthfront, Inc. 21 Liquidity & Returns § In almost all cases, liquidity is inversely correlated with returns § Examples: – Cash = very liquid – Private equity = very illiquid § Common mistake: Safety! = Liquidity
- 22. ©2015 Wealthfront, Inc. 22 Practical Outcome: Emergency Funds § Standard recommendation is that you have 3-6 months of living expenses in cash / cash- equivalents § That number increases if you are in highly volatile industry / career § Worth considering length of time for potential job search
- 23. ©2015 Wealthfront, Inc. 23 Cash Flow Matters § The ultimate secret to personal finance is quite simple: – Spend less than you make (on an ongoing basis) § Very easy to measure, but few people do. Annual budget is a great idea. § Don't forget to model in annual expenses & “personal spending”
- 24. ©2015 Wealthfront, Inc. 24 Savings Targets § What's the right number? – There is no question - the more you save, the more secure you are. Income comes & goes, but expenses / lifestyle are sticky! § A lot of models assume working 40 years, and producing savings to generate 80% of working income. – These models don't actually match anyone's real world experience. – There are a lot of models out there, and rules of thumb, but it's important to run the numbers yourself.
- 25. ©2015 Wealthfront, Inc. 25 The Magic of Compounding § Not convinced that Albert Einstein said it was the greatest force in the universe. § It's the key to almost all long term financial planning. § Exponentials are bad in algorithmic cost, good in savings returns.
- 26. ©2015 Wealthfront, Inc. 26 Simple Model § Rule of 72 § In Sheets, for each year, just use =POWER(1+rate, year) § 4% over 20 years is 2.19x § 8% over 20 years is 4.66x § Careful: it works on debt just as well as savings... in reverse!
- 27. ©2015 Wealthfront, Inc. 27 The Benefits of An Early Start § Compounding really takes off over long time periods § In most retirement planning models, money saved between ages 25 - 35 produces more money than all savings between 35 – 65! Years Return at 8% 10 2.16x 20 4.66x 30 10.06x 40 21.72x 50 46.9x
- 28. ©2015 Wealthfront, Inc. 28 The Dangers of Debt § Bankruptcy is literally when you can't pay your debts. You can't go bankrupt if you don't have debt § You will never find an investment that pays 8% guaranteed, let alone 20%+ § You will find *tons* of credit offers out there that will charge you that § “Bad” debt is toxic, your best return is to pay it off. But emergency fund takes precedence
- 29. ©2015 Wealthfront, Inc. 29 Good Investing is Boring § No one wants to be average, but with investing, average is actually well above average. § You will beat most mutual funds, and a large majority of your peers with simple, low- cost index funds. § Asset allocation explains ~90% of the variance between fund performance
- 30. ©2015 Wealthfront, Inc. 30 Basic Asset Allocation § Different types of assets (cash, bonds, stocks, etc) have different volatility & return characteristics § Combinations can lower volatility significantly, with moderate impact to returns § Complication: historical performance does not predict future performance
- 31. ©2015 Wealthfront, Inc. 31 Simple Operating Model § 2 hours of work per year § Pick an asset allocation that is appropriate for your emotional character & time frame & goals § For each asset class, pick cheap index fund to represent § Rebalance every 1-2 years § http://blog.adamnash.com/2010/12/31/ personal-finance-how-to-rebalance-your- portfolio/
- 32. ©2015 Wealthfront, Inc. 32 Recommended Books § WSJ Guide to Understanding Money & Investing § The Millionaire Next Door § A Random Walk Down Wall Street § The Essays of Warren Buffett § Common Stocks & Uncommon Profits § The Intelligent Investor § Devil Take the Hindmost § When Genius Failed § Against the Gods: The Remarkable Story of Risk § http://blog.adamnash.com/2007/02/14/personal-finance-education- series-2-recommended-books/
- 33. ©2015 Wealthfront, Inc. 33 Caveats & Preface (last time!) § I am not a financial planner § This presentation is not financial advice § You would be extremely foolish to make investment decisions based on the content of this presentation or discussion § The opinions in this deck are intended to provoke discussion & further education