Feelings in the Decision Making Process: A Reminder About Rationality (EP.38)

Episode Summary

Executive Summary: The episode centers on how feelings, biases, and framing shape financial decisions, often overriding rational analysis. The hosts also revisit the safe savings rate idea and explain why it is hard to implement in practice, discuss upcoming ETF model portfolio resources, and highlight several striking investing facts that underscore market unpredictability and concentration of returns.

Main Topics: Feelings vs. rational decision-making (Priority: 5/5): The hosts argue that many investing and money decisions are driven by emotion first and rationalized afterward. They discuss how a decision can be rational yet still feel wrong, making implementation difficult and potentially leading to regret or second-guessing. Why the safe savings rate is hard to use (Priority: 5/5): They revisit prior excitement about safe savings rate research and explain why it is not practical: there is too little historical data, and bootstrap methods erase the mean-reversion feature that the strategy depends on. Model portfolios and listener resources (Priority: 3/5): They clarify that the new ETF model portfolios are educational tools for DIY investors who cannot access Dimensional funds, not portfolios they will use for clients. They also mention the paper and website updates coming soon. Market concentration and surprising investing facts (Priority: 4/5): A discussion of Michael Batnick’s investing facts emphasizes how extreme market outcomes can be, including the long duration of drawdowns, negative real returns for T-bills, and the tiny fraction of stocks responsible for most excess returns. Behavioral biases in financial advice (Priority: 5/5): The hosts explore confirmation bias, regret aversion, endowment bias, familiarity, and overconfidence, showing how these biases push people toward choices that feel right rather than those supported by evidence. Framing, intuition, and decision architecture (Priority: 4/5): Using Kahneman and the book Decisive, they explain that changing how choices are framed can materially change outcomes, especially for concentrated stock positions or risk conversations. They stress preparing to be wrong and widening options.

Key Arguments: People often make emotional decisions first and then justify them with logic after the fact, which is a flawed process for financial planning. A decision can be rational but still be a bad decision if the client cannot emotionally stick with it or if it leads to poor behavior later. The safe savings rate idea depends on mean reversion, but the available data are too sparse to support confident real-world implementation. Bootstrap methods are useful in financial research, but they remove serial correlation and therefore undermine the mechanism safe savings rate relies on. ETF model portfolios are intended as educational examples for DIY investors, not as client portfolios or a change in the hosts’ own investment approach. Market history shows that a very small number of stocks account for most excess returns, making stock picking and active management extremely difficult. Intuition is not a reliable guide to investment skill; strong conclusions should not be drawn from weak evidence such as a short outperformance streak. Framing matters because how a choice is presented can shift people toward different risk levels and different investment actions. For concentrated stock positions, asking whether the investor would buy the position today with cash helps reveal endowment bias and clarify opportunity cost. Good decision-making should include widening options, reality-testing assumptions, getting distance from emotions, and preparing to be wrong.

Data Points: Podcast episode: Episode 38 - The hosts introduce the episode number near the start of the transcript. Historical data window for safe savings rate: 60 years - They discuss modeling 30 years of saving plus 30 years of spending. Non-overlapping U.S. data periods: 2 - They explain that historical U.S. stock data going back to 1871 yields only two full non-overlapping 60-year periods. Non-overlapping global data periods: Barely 2 - They note that global data going back to 1900 still provides only about two non-overlapping 60-year periods. Expected return update frequency: Every 6 months - They say their financial planning expected return assumptions are updated semiannually. Dow drawdown statistic: More time 40% or more below highs than within 2% of highs - One of the ‘craziest investing facts’ discussed from Michael Batnick’s article. U.S. one-month T-bills: 68 years of negative real return - A historical inflation-adjusted return statistic mentioned from the article. Gold and Dow level in 1980: Both at 800 - A comparison used to show how asset prices can diverge massively over time. Lifetime return match to T-bills: 47% - Only 47% of stocks generated a lifetime return matching one-month T-bills. Stocks driving excess return: 4% - They note that about 4% of U.S. stocks from 1926 to 2016/17 accounted for all excess return over T-bills.

Pivotal Quotes: "Most people don't make rational decisions. Most people make emotional decisions, then justify it with rational thinking after the fact." — Benjamin Felix / Cameron Passmore: A core framing statement in the discussion about how investors actually behave. "The correlation between confidence and accuracy is not high." — Daniel Kahneman: Referenced from a Sam Harris discussion to support skepticism about intuition and certainty. "What if you're wrong?" — Benjamin Felix: Used to challenge a concentrated-position advocate and emphasize the importance of downside planning.

Implications: Listeners should expect emotion and bias to shape investment choices, so good advice must address psychology and framing, not just math. The episode also reinforces that many popular strategies lack robust evidence and that diversification plus humility remain essential.