At a dinner party some years ago, a fellow guest, an engineer who had learned that I am a professor of finance, wanted to know where he could buy Japanese yen. "Why do you want to buy Japanese yen?" I asked.
"Because its value is sure to zoom past the American dollar," he said, and he proceeded to list the American budget deficit, its trade deficit and other indicators of the advantage of the Japanese yen over the American dollar.
I wanted to tell my fellow guest quickly and gently that while his thinking is quite normal, it is not very smart. "Buying and selling Japanese yen, American stocks, French bonds and all other investments," I said, "is not like playing tennis against a practice wall, where you can watch the ball hit the wall and place yourself at just the right spot to hit it back when it bounces. It is like playing tennis against an opponent you've never met before. Are you faster than your opponent? Will your opponent fool you by pretending to hit the ball to the left side, only to hit it to the right?"
"Think for a moment," I said to my fellow guest. "You are on one side of the net, thinking that the yen will go up. Your opponent is on the other side, thinking that it will go down. One of you must be the slow one. Have you considered the possibility that the yen seller might be Goldman Sachs, Barclays, Bank of Tokyo, Mitsubishi UFJ, or another of many traders in the yen market who have offices in both Tokyo and New York and know more about both the Japanese and American economies than you can learn from your morning's Wall Street Journal?"
Yet there is more to investing and tennis than faulty thinking. My fellow guest wanted to make money on his yen trade, but he also wanted to feel the thrill of winning when the yen zooms. He wanted to express himself as a player in financial markets, not one who stands on the market's sideline. And he wanted to be a member of the investing community, the community of people who observe financial markets, trade in them and share their experiences with one another.
My recently published book, What Investors Really Want, is about what we want from our investments. It is about how we think about our investments, how we feel about them and how investment markets drive us crazy as we try to cajole them into giving us what we want. This book is about normal investors like you, me and my fellow guest. We are intelligent people, neither irrational nor insane. We are "normal smart" at times and "normal stupid" at other times. We do our best to increase the ratio of smart behavior to stupid behavior, but we do not have computers for brains and we want benefits computers cannot comprehend.
We want high returns from our investments, but we want much more. We want to nurture hope for riches and banish fear of poverty. We want to be Number 1 and beat the market. We want to feel pride when our investments bring gains and avoid the regret that comes with losses. We want the status and esteem of hedge funds, the warm glow and virtue of socially responsible funds, and the patriotism of investing in our own country. We want good advice from financial advisors, magazines and the Internet. We want to be free from government regulations yet be protected by regulators. We want financial markets to be fair but search for an edge that would let us win, sometimes fair and at other times not. We want to leave a legacy for our children when we are gone. And we want to leave nothing for the tax man. The sum of our wants and behaviors makes financial markets go up or down as we herd together or go our separate ways, sometimes inflating bubbles and at other times popping them.
What Do We Want? Utilitarian, Expressive And Emotional Benefits
Tennis is a job for the likes of the Williams sisters who play at Wimbledon and the United States Open. Professional players earn money from prizes and endorsements, but the benefits of their tennis jobs extend beyond money. Tennis makes up much of the expressive life of professional players, expressed in their identity as tennis players when they are cheered on the court and asked for autographs off the court. And tennis makes up much of the emotional life of professional players, hoping for the thrills of victory and dreading the agony of defeat.
Most of us have jobs, even if not professional tennis jobs. We want to earn money from our jobs, but we want much more. Our jobs encompass much of our expressive and emotional life. We want to express our identity, whether that of a professor, policeman, technician or physician. We want pride in a job well done, satisfaction in a contribution to society, and a sense of belonging to a community of colleagues and friends. When we lose a job we lose more than money, we lose part of our identities, pride in our accomplishments and membership in our communities. The benefits of a job come in packages and we face trade-offs as we choose among them. A lawyer who wants to earn money but is also passionate about public advocacy can choose a public advocacy package with little money and much passion or a corporate law package with more money but less passion. Moreover, the money we earn in our jobs is only a station on the way to the benefits of spending it on food, shelter and perhaps tennis. While professionals earn money from tennis, amateurs pay money for it-money for tennis rackets, balls and court fees. Amateurs pay because tennis is enjoyable exercise, because it affords us time with friends, because we hope for the thrill of victory and because we want to express our membership in the tennis community.
Investments are like jobs, and their benefits extend beyond money. Investments express parts of our identity, whether that of a trader, a gold accumulator or a fan of hedge funds. Investments are a game to many of us, like tennis. We may not admit it, and we may not even know it, but our actions show that we are willing to pay money for the investment game. This is money we pay in trading commissions, mutual fund fees and software that promises to tell us where the stock market is headed. And investments are about what we would do with the money we make and how it makes us feel. Investments are about a sense of security in retirement, the hope of riches, joy and pride in raising our children and paying for the college education of our grandchildren.
Investments, jobs, products and services have benefits that enhance wealth, well-being or both. These include utilitarian benefits, expressive benefits and emotional benefits. Utilitarian benefits are the answer to the question, what does it do for me and my pocketbook? The utilitarian benefits of watches include time telling, the utilitarian benefits of restaurants include nutritious calories and the utilitarian benefits of investments are mostly wealth, enhanced by high-investment returns. Expressive benefits convey to us and to others our values, tastes and status. They answer the question, What does it say about me to others and to myself? Private banking expresses status and esteem. One private bank advertised its services along with a chauffeured vintage Rolls-Royce and the tagline, "Once you've earned exclusive service, there's no turning back."
A stock picker says, "I am smart, able to pick winning stocks." An options trader says, "I'm sophisticated and willing to take risk and I know how to control it." Emotional benefits are the answer to the question, how does it make me feel? The best tables at prestigious restaurants make us feel proud, insurance policies make us feel safe, lottery tickets and speculative stocks give us hope, and stock trading is exciting.
Gerald Tsai Jr. was a fund manager who pioneered the go-go performance funds in the 1960s. "He loved doing transactions," says Christopher Tsai, recalling his father's enthusiasm about the stock market. "He loved the excitement of it."
Our Wants, Thoughts, Cognitive Errors And Emotions
Have you noticed that most movies are fiction? Of course you have. You know that the people you see on the movie screen are actors, only pretending to be who they are not. You know that the movements you see on the screen are cognitive errors, optical illusions caused by fast projection of still images. And sometimes you wear funny glasses that fool you into seeing 3-D images on a flat screen.
So why are we willing to pay money for movie tickets, sacrificing wealth for fiction and truth for the exploitation of cognitive errors? The answer is obvious. Movies touch our emotions and add to our well-being. They make us laugh and cry and help us enjoy the company of dates, spouses, children and friends. Indeed, we enjoy movies more when we share expressions and emotions with our companions.
The world of investments is different from the world of the movies because it offers no clear boundary between fact and fiction. Lights are rarely turned on in the world of investments, so it is hard to distinguish fact from fiction and truth from cognitive errors.
But the world of investments is also similar to the world of the movies because movies offer benefits that go beyond the utilitarian benefits of facts, and investments offer benefits that go beyond the utilitarian benefits of wealth. We know that most investors who trade frequently sacrifice wealth. But frequent traders might be receiving good value for the wealth they sacrifice, enjoying hope for enormous wealth as lottery buyers enjoy hope for giant prizes. Traders also add to their well-being as they play the trading game, tracking the stocks displayed on their computer screens as video game players track heroes and villains. And traders enjoy the community of fellow traders, meeting at investment clubs, sipping coffee or beer, and swapping stories.
Investment professionals are often uncomfortable with the commingling of utilitarian, expressive and emotional benefits. Many financial advisors are puzzled by the desire of some investors to exclude from their portfolios stocks of tobacco companies. Why not invest in stocks of tobacco companies if they produce the highest returns and then use these returns for anti-smoking campaigns? As Rob Moody, a financial advisor at Compass Advisors in Atlanta, says, "Those investors who are interested in social or ethical investing would be ahead if they invested in anything else, including 'unethical' companies, and then donate their profits to the charities of their choice."
Moody's suggestion makes as much sense to socially responsible investors as a suggestion to Orthodox Jews that they forgo kosher beef for cheaper and perhaps tastier pork and donate the savings to their synagogues. A member of the Church of the Brethren says, "I occasionally see articles by investment columnists on the sin funds that invest primarily in tobacco and alcohol, etc., advising people to take their profits from these funds and do good with them. That argument seems completely backwards to me, because the money is already out there supporting bad things."
Advising socially responsible investors to separate their social goals from their financial goals is symptomatic of a more general tendency among investment professionals to separate the utilitarian benefits of investments from their expressive and emotional benefits. Reathel Geary, a financial advisor with IMHO Investments, understands that the benefits of socially responsible investments extend beyond utilitarian returns. He says: "We like to call it 'opinionated investing'-helping our clients to invest in firms that share their views on what's important."