“No one enjoys being wrong,” Daniel Kahneman told Adam Grant, who recounted their conversation during a recent interview, “but I do enjoy having been wrong, because it means I am now less wrong than I was before.”
Grant describes Kahneman, the psychologist seen as the originator of and greatest contributor to the field of behavioral economics, as “a living legend,” a lofty label that Grant himself is sure to earn any day now. So when these two sages, known for having gotten so much right, talk about their enjoyment in having been wrong, it provides a special comfort to those of us who find ourselves acknowledging our errors more often.
Being wrong sucks.
First, I love that they admit to their humanity—not just that they are occasionally wrong, but that it kinda sucks when the realization initially strikes. Helpful humbling is often initiated through a little hurting. And one of the best ways to salve that sting is to recognize the benefits to be gained from being more right into the future.
One of the biggest humblings of my career was also one of my most important lessons. I grew up professionally in financial firms that believed the primary justification for their existence was picking the right stocks, bonds and mutual funds at the right times for their clients. I genuinely believed this was the best use of our time and energy, until I was exposed to the evidence—that the vast majority of stock pickers don’t actually beat their benchmarks long-term and that allocating and reallocating active funds likely only increases the costs investors are virtually guaranteed to incur in pursuit of “alpha” that’s very difficult to sustain over the long-term!
Daniel Kahneman and Amos Tversky legitimized behavioral economics—the study of how people really behave around money, as opposed to how economists say a rational person ought to behave.
Then Richard Thaler and Cass Sunstein applied the lessons of behavioral economics to everyday life with their book Nudge. The duo nudged so successfully that in recent years, their prescriptions have been put to work in corporate retirement plans—and even public policy—on a global scale.
When I spoke to Thaler to discuss his newest book, Misbehaving, a series of stories documenting the rise of behavioral economics, he told me that he has a message for those who seek to employ his methods:
The most compelling findings regarding financial decision-making are found not in spreadsheets, but in science. A blend of psychology, biology and economics, much of the research on this topic has been around for years. Its application in mainstream personal finance, however, is barely evident. Perhaps a simple analogy will help you begin employing this wisdom in money and life: The Rider and the Elephant.
First, a little background.
Systems 1 and 2
Daniel Kahneman’s tour de force, Thinking, Fast and Slow, leveraged his decades of research with Amos Tversky into practical insight. Most notably, it introduced the broader world to “System 1” and “System 2,” two processors within our brains that send and receive information quite differently.
System 1 is “fast, intuitive, and emotional” while System 2 is “slower, more deliberative, and more logical.” The big punch line is that even though we’d prefer to make important financial decisions with the more rational System 2, System 1 is more often the proverbial decider.
Many other authors have built compelling insights on this scientific foundation. They offer alternative angles and analogies, but I believe the most comprehendible comes from Jonathan Haidt.