Incentives Matter. Indeed, They’re Everything.

Show me the incentives and I will show you the outcome. – Charlie Munger

Munger, Warren Buffett’s wise partner, thinks incentives matter; indeed, he thinks they’re everything. I wish I’d understood this at an earlier age. If I had, then I probably would have understood better myself and others and been more effective at my endeavors. And life would have been just a bit easier to navigate.

Patrick O’Shaughnessy wrote about misguided incentives.

In Vietnam, under French colonial rule, there was a rat problem. To solve the rat infestation, the French offered a bounty on rats, which could be collected by delivering a rat’s tail as proof of murder. Many bounties were paid out, but the rat problem didn’t improve. Officials soon noticed rats running around without tails–people were cutting off the tails and releasing the rats to breed, so as to increase the pool of potential bounty revenue for themselves.

The same thing happened in Colonial India: a bounty was offered on cobras because they were attacking people, which caused people to breed cobras for more bounties, and ultimately resulted in a higher cobra population when the bounty system was abandoned and the breeders released their now worthless snakes.

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At the Mercy of Other People’s Judgment

Sunday, Senator Bob Corker, the Republican chairman of the Senate Foreign Relations Committee, claimed President Trump (a member of his own political party) was treating his office like “a reality show,” with reckless threats toward other countries that could set the nation “on the path to World War III.”

The Senator said he was alarmed about a president who acts “like he’s doing ‘The Apprentice’ or something.” “He concerns me,” the senator added. “He would have to concern anyone who cares about our nation.”

None of this is surprising. I knew it was a risk, which is why I thought the election of Donald Trump to the presidency was the most reckless act undertaken by the U.S. electorate in our history — by far.

That doesn’t mean the worst case scenario will unfold. Rather, it means the risks are higher than they need be and we’ve put other people’s lives and welfare at risk unnecessarily (as well as our own).

That’s on a grand scale (casualties could exceed those of WW II). Everyday, of course, others make decisions that harm or threaten others (physically or financially) without most of us giving much thought about the matter.

Policy makers make decisions about trade, spending and other matters that could (and often do) have a material effect on our futures.

CEOs and boards make decisions about investments that could affect our livelihood.

Plant managers and railroad personnel make decisions that could make the difference between life and death for many people within range of their plants or tracks.

Drivers make decisions (or fail to make decisions) that can forever alter the lives of fellow drivers and their families.

I could go on. The list is endless. The point is simple: we are at the mercy of other people’s judgment in countless ways. And some of them may be at the mercy of ours.

So what is one to do about it?

I don’t claim to know what anyone else should do about it — that’s their decision. But here are some guiding principles I have acquired for myself over the years.

First, I try no to fret about it; rather, I try to focus on that over which I have some control.

So if my fellow citizens decide electing someone like Mr. Trump is in our best interest, so be it. My lot is part of theirs. I shall benefit or be hurt with the broader community we call country. Some call it fate. Call it what you want. I simply say, “It is what it is.” I’m not going to allow it to destroy my happiness.

Part of this is trying to avoid any sense of entitlement. And nurturing a sense of gratitude. I may not have complete control over such feelings and emotions. But I can influence them for the better. It’s most certainly preferable to fretting and worrying about things over which I have no control.

Second, I try to limit my reliance and dependence upon other people’s judgment as best I can. Stated differently, I try to avoid servitude.

One way of doing this is to acquire financial independence as soon as possible. If I got to live life over, this would be a major early goal of mine. The sooner, the better. Retirement age is much too late.

Third, I endeavor to associate with people of sound judgment and good character. This isn’t always easy because often there is misalignment between economic opportunity and virtue. Again, if I got to live life over, I’d try to spend more time and deal more with virtuous people and try harder to keep distance between myself and the other kind of people.

Last but not least, I endeavor to improve my own decision-making processes and, by extension, the quality of my own decisions.

I’ve made some really poor decisions in my life. I wish I’d spent more time reflecting on my mistakes and endeavoring to instill the rigorous discipline to reduce the number of mistakes going forward. And I really wish I had involved more people in the process and been less dependent upon my own perspectives and biases. 

I also wish I’d been more rational and less emotional. More practical and less idealistic.

I’ve made some good decisions of course. But decision making is a lot like investing: the key is to eliminate or reduce the size of your losses. Avoiding big mistakes is a key to a good life.

Charlie Munger is right: he and Warren Buffett got tremendous advantage from simply trying not to be consistently stupid instead of trying to be very intelligent.

I used to tell students that my primary objective in teaching was to help them become better decision makers, that is, to hone their judgment. Schools don’t talk about judgment. They should. It’s far more important than most of the other stuff that commands their attention.

I don’t know if the country will escape the Trump years without a major disaster. I do know we’re playing with fire and, when that happens, someone often gets burned.

In any case, don’t ever allow yourself to be overwhelmed by that which you can’t control, Vera. There is much you can control, including, to an extent, your thoughts and outlook.

Choose wisely. Become the very best decision-maker you can possibly become. Nothing will serve you as well as sound judgment.

Marrying the Right Person

I don’t know if you’ll marry anyone, Vera. But if you do, think about it.

One of the keys to a happy life is avoiding big mistakes. Marrying the wrong person can be one of the biggest mistakes you could possibly make. So, naturally, try not to get it wrong.

I was lucky. I stumbled into a great marriage. Well, perhaps it wasn’t entirely a stumble. I wasn’t nearly as smart when I was 16 (when I started dating your grandmother) as I thought I was — or at 21 when I married your grandmother — but I was smart enough to marry up. That’s my first suggestion: marry up.

Your grandmother was and is smarter than me. And a better person in almost — no, in every — respect. That’s what I mean by marrying up.

Your great grandmother probably also would tell you to marry into a good family. I used to scoff as such advice, but, frankly, experience has proved my mother right more often than not. You’ll be marrying not only a spouse but marrying into a family. Never underestimate the power of genetics. Or engrained familial dysfunctionality. In short, be sure the family passes muster.

That’s about all I could come up with, so now I’m turning to two guys from the investment world who are two of the wisest people I’ve encountered (by reading and listening, not personally): Warren Buffett and Charlie Munger. Here is some of what they’ve said about the keys to a good marriage:

“If you really want a marriage that will last, look for someone with low expectations.”

“Make sure your spouse has the same thoughts on the same big things.” I’m not totally sold on this one, mainly because James Carville (ardent Democrat) and Mary Matalin (Republican operative turned Libertarian) seem so happy together. But it’s probably best to err on the side of caution. I have to admit, I don’t think I could live with anyone who thought Donald Trump was a decent human being or remotely fit to be president. Or who thought Roberto Clemente wasn’t God’s gift to Pittsburgh (hell, to all of humanity) and one of the greatest ballplayers to ever play the game.

“Don’t marry someone to change them.” I’ve seen people try to change their spouses over the years. I can’t recall it ever working out well.

“Don’t keep score.” (Thank goodness your grandmother heeded this advice.)

“Look for someone who will love you unconditionally.” Come to think of it, I’m not sure that anything else is truly love.

“Marry someone who is a better person than you are.” (I did!) Warren takes it even further: “Always associate with people who are better than you.”

“Choose a spouse who believes in you.” And why would you be tempted to marry anyone who doesn’t? I don’t know, but it happens.

I could go one, but you get the point: it’s an important decision. Perhaps the most important of your life. Treat it as such.

Oh, I left out one important criterion: choose someone your pap-pap likes.


Speaking from Ignorance

One thing I’ve learned over the years, Vera, is that we think we know far more than we actually know. And we’re not shy about speaking out of ignorance.

I suppose it’s always been the case. But it seems worse now, coming on the heels of decades of unrelenting partisan propaganda. I also suspect that, as much good as the Internet has facilitated in the world, it has contributed greatly to the spread of ignorance. It’s certainly has made it easier to reach a receptive audience. Continue reading

We Live In an Irrational World

I like to think I’m rational. To a degree, I am; to a larger degree, I’m not. Neither is anyone else.

It took me a long time to realize this. It’s scary how slow I am to learn certain things. It makes me think I’m stupider than I like to think. I suppose no one likes to think they’re stupid. Indeed, studies reveal the vast majority of us think we’re above average. The fact of the matter is, for most of us our brains don’t have to work overtime to fool us. We are much better at rationalizing our decisions than making rational decisions.

When I worked at Bridgewater College, I had a vice president tell me I was the most rational person that person had known. I didn’t say it, but I thought to myself, how ironic? My decision to accept the offer of the board to become their president was one of the most irrational decisions I’d ever made. Perhaps I seemed rational because college campuses are some of the most irrational places in our culture. There, sentimentality reigns.

My list of irrational decisions would be long. I’m not proud of it; in fact, it’s embarrassing. They expose me for what I am: a bundle of emotions, biases, preconceptions, and self-delusions.

If you want to understand the psychological explanations for all this irrationality, I suggest you begin by reading Thinking, Fast and Slow by Daniel Kahneman. There is a lot of other research on the subject. Suffice it to say that, the more you read, the less confident you will be in your own rational capabilities. And the more concerned we’d be with people who claim to make decisions from their gut or by intuition.

Irrationality is a major impediment to being a good investor. In the current phase of my life, I spend quite a bit of time studying investments and making related decisions. Warren Buffett’s partner, Charlie Munger (like me, a lawyer by trade), has said his goal is to become the most rational person possible. Since taking over responsibility for my own investments, I can understand his point more fully. It’s not easy being completely rational. We bring so many preconceptions and biases to the table that get in the way.

Of course, there is no way to become completely rational. Humans aren’t constructed for total rationality. Inside our thought processes are embedded all kinds of experiences that, for better or for worse, we extrapolate and generalize. And inside our DNA is embedded millennial of survival biases and mental shortcuts. Unfortunately, some of these are more pertinent to years long gone; they don’t necessarily translate well to 21st-century living.

I also wonder if irrationality is a defense against what might otherwise seem to be a sense of purposeless and insignificance. Most of us desire to find meaning in life. Most of us don’t like to think of ourselves as being insignificant. Yet perhaps that’s where rationality would take us. Perhaps it’s too disquieting a place to live for most of us.

But perhaps we expect too much.

Sometimes I think the main contribution of religion is the concept that none of us is the center. Despite what we might say we believe, we do in fact view the world from our center. But how rational is that? Not so much I suspect.

I wonder what the world would look like if rationality reigned. Not that it’s ever gone to happen. It won’t. Or at least not in my lifetime.

As Kahneman’s work and its progeny have persuasively shown, we make irrational decisions even when we’re aware of the internal biases and predispositions that pull us from rational thought. So, knowledge and self-awareness are not antidotes for what ails us. I wonder how the academics who think education is the be-all and end-all of everything wrap their heads around that.

Yet I can’t help but think knowledge and self-awareness help. But is such thinking grounded in reality or my own self-delusional tendencies?

Accepting the fact I’ll never be completely rational yields at least three byproducts, I suppose. First, it undermines one’s confidence, which, if I’m honest with myself, is probably a good thing.

I tend to be overconfident — too smug about the soundness of my judgment and decisions. A little less confidence is probably a good thing.

Second, a realization of my own irrationality engenders a healthy dose of humility. I could use more humility.

Finally, it makes one less impulsive and more contemplative, slower to make decisions. Decisions made in haste tend to be flawed. Some have to be made quickly. Others don’t. Taking one’s time is probably a good thing.

I don’t know what my life would have been if I’d been as rational as I thought I was. It would have been different, that much is sure. Better or more interesting? That is far from certain.

What I do know is that I would have tried harder to see problems from a different perspective. I’d given more consideration to the perspectives and opinions of others. I’d been slower to reach conclusions. And I’d been less dismissive of others. I’d also be a better investor.

What else would I have realized at an earlier age?

  • The power of propaganda – I minimized the power of propaganda earlier in my life. I had the misguided impression that humans were more rational than we are. The past 15 years have demonstrated the power of propaganda beyond anything I could have imaged during my naive young years. It’s one of the things that scares me. Where it could take us is anyone’s guess, but it’s not likely to be a good place. It rarely is.
  • The threat posed by arrogance – People who don’t understand the limitations of the human mind are particularly dangerous. Their arrogance can lead people astray under the guise of decisiveness and strength. That’s one of the paradoxical aspects of humanity: our perceived strengths can sometimes be our greatest weaknesses.
  • The power of rationalization – Rationalization usually appears as rationality. But they’re very different things. I realize that today. When younger, I would have said I knew it. But I truly didn’t. Perhaps I still don’t perceive the differences to the degree I should.
  • The art of persuasion – My misconception about the power of rational thought limited my effectiveness in certain roles. If I’d better understood better the art of persuasion and the means to get people to think and act as you want them to, I’d been more effective and accomplished more. Every college student should read the books by Robert B. Cialdini. Unfortunately, most don’t. Why? Because most academics think the world is a more rational place than it really is.

So here I am, at the ripe age of 61, with the relatively new-found awareness of the depth of my own irrationality, determined to embrace Charlie Munger’s goal of becoming a rational person. Is it achievable? Not entirely. More completely? I don’t know. That’s the strange thing about the human mind: its power of deception is vast.

But I do think I’d have been a better decision maker. And a better CEO. And husband. And father.

If you want to be a good decision maker, Vera, be mindful of the illusion of understanding. Don’t fall for the idea that the world is more rational than it truly is.