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We all have both an emotional and rational mind. Which one should you trust when it comes to making smart financial decisions? 

You can make a case for relying on either your emotional and rational mind. But the most profitable investment strategy is by combining both minds. 

In this episode, I reveal why combining both minds helps your money work for you. And how to merge these two competing minds so you can build a profitable portfolio. Listen to the episode now. 

Show Highlights Include:

  • What’s more profitable — making emotional or rational investment decisions? The answer may surprise you… (4:16) 
  • The weird “Gut-Based” investing strategy that gives you a lavish retirement (even if you don’t know what you’re doing) (4:35) 
  • How your emotions trick you into making bad financial decisions (4:39) 
  • The “Normandy Secret” for making irrational investments that wind up being some of your most profitable (7:46) 
  • How merging your logical brain with your lizard brain helps you make smarter investments (9:42) 
  • The “Culture Index Method” that helps you build a more profitable and well-designed portfolio (17:17) 

If you want to download the Summer 2021 Playbook mentioned during this show, head to https://onecapital.com/ and click on the “Idea Lab” tab to download the report for free. 

To schedule your complimentary retirement track review, head to https://onecapitalmanagement.com. You can also call us at 805-410-5454 or text the word ‘TRACK’ and we’ll reach out to you.

Read Full Transcript

Welcome to Make your Money Matter, the show that aims to change the way we think about financial advice. So, you can make better decisions.

Brad Barrett is a managing director and partner at One Capital Management, a wealth management firm serving nearly 1500 clients nationwide. With over $2.5 billion in assets, they’re a group of advisors dedicated to ensuring their clients achieve their investment and retirement goals. And now here's your host Brad Barrett. [00:26.1]

Brad: Welcome to Make your Money Matter, the show dedicated to helping you create a better relationship with your money. I'm your host, Brad Barrett, and it's my goal to help you distill the best ideas when it comes to your finances so you can make more confident money moves. Here at One Capital Management, our mission is simple to help our clients and you listeners take control of your finances and build the life you deserve. Friends, today the challenge is no longer the access to information, but rather it's finding the right information, and more importantly, how that information applies to you. And that's my commitment to you here today on the Make your Money Matter podcast, because after all your money matters and knowing how to plan your financial future is vital to your financial success. I'm excited about this week's episode, but before we get started, if you haven't already done so you can go to our website at onecapitalmanagement.com, you can download and subscribe the, Make your Money Matter podcast. You can also download a podcast anywhere else where you otherwise download a podcast, whether that's the Google app, the apple app on your phone, Spotify, SoundCloud, and leave us a review, leave us a comment, let us know how we're doing. And if you liked this show, share with someone you like, you don't like to show, I guess, share with someone you don't like, but today we're going to be talking about rational versus emotional investing. [01:51.0]

We all know at the outset of that statement, what that means are we investing or are we looking at things from our brain or from our stomach? Or as my five-year-old says his Tumtum. Okay, we are all adults, and we look at the investing world, but sometimes we need to understand that there is some communication between the two, both have reasons and reasoning, but which one is when we need to lead with and make our decisions upon. Blaise Pascal was a French mathematician and physicist. Now he, this guy lived in the 1600’s. So, he lived a rather short life, obviously back then, you weren't living much longer than 40 years old. He actually lived to 39 years old, but he left a meaningful thought impact that continued for centuries. And when I was researching this topic and I got really into the weeds on emotional and rational investing and behavioral finances, and this guy stuck out to me. From a young age, it was apparent that Pascal was a mathematical genius, a prodigy, if you will. [02:52.5]

And his mind was essentially a washed in the precision and certitude of numbers. He lived in a world of rules-based rigor, but Pascal was also a theologian who became interested in the social sciences and philosophy of things. Now, right there, mathematics and philosophy, one, a very exact science, the other and inexact study. But in the 1600’s both formed an intersection in the vast universe of Pascal's intellect. And more importantly, today, when we talk about investing, we talk about the numerical or the mathematical side of things, and then the philosophical, theologian aspect of the prospecting or imagining what could happen or forecasting as we've talked about many times here on this program. We talk about the conversion of these two, it's very interesting. And Blaise Pascal was one of these guys that I thought was so fascinating that hundreds and hundreds of years ago was going through this one at a time, those were not converging topics. [04:02.0]

And Pascal once wrote, ‘the heart has reasons that reason knows nothing about.’ The heart has reasons that reason knows nothing about. I think that's so succinctly stated the emotional mind versus the rational mind. You know, in psychology, it's believed that 80% of human decision-making is based upon emotion and only 20% is based upon logic or rational thought. Oftentimes our gut tells us more than our brain. Does that sound like you sometimes? And rationally all know that there are certain things we should be doing. We all know that, but our emotions lead us to do something else. For example, at the height of the COVID-19 shutdowns, a period of time, when all of us here in California, in particular, when gyms were closed, we all knew we should be getting out of bed and starting our day, maybe with a little exercise, some crunches and pushups, whatever we can do. I know I was in this camp, but instead we might wake up yet another day of isolation, pull the covers over our head and retreat, further into our collective quarantine before going to work, we probably should have worked out, but we didn't our emotions overruled our rational thought. I think it was Plato who wants, wrote, ‘the mind is polled by an emotional elephant and a rational pony.’ [05:28.9]

Remember in psychology as I mentioned before, it's believed that 80% of decision-making is based upon emotion. And although it's true that at times our emotions can lead us to make irrational illogical decisions, sometimes our emotions, our gut, our tumtum can also lead us to the correct decision. And in thinking about this, I want to provide a more in-depth example. Now, quick aside about myself, I have always been really interested and fascinated, I should say about World War II and a good example when I was thinking about this episode this week is World War II’s D Day invasion of Normandy, which as we all know was June 6th, 1944, 77 years ago. Now since 1942, a couple of years prior to that Nazis forces were entrenched in the French seaside town of Calais. The most Western point on the French coast. I told you, I was kind of a nerd about this World War II, I was fascinated by it as a kid. [06:32.5]

Now Calais, which is just 21 miles, by the way, across the English Channel from Dover, England. So geographically, you look at this on a map, Calais is the closest point between France and England. And the Nazis were convinced that Calais because of its proximity to England was the most logical rational choice for an allied invasion of France. It was reasoned, it was practical, ot was a reasonable and practical conclusion for them. And so, the Nazis heavily fortified Calais making the town basically militarily impregnable, but they left many other areas of the French coast, less fortified, including Normandy. And Normandy, which is a seaside town known for its choppy water conditions and really difficult to maneuver cliffs, Normandy would be a very illogical nonsensical choice for an allied invasion, if you really looked at it. And the Nazis concluded too, that if the allies invaded France, the invasion wouldn't happen during nasty, severe English Channel weather. They logically believed an allied invasion was only possible under certain favorable weather conditions, yet, despite all of the Nazi’s logic, allied forces, as we all know, invaded Normandy, not Calais. [07:53.5]

And the invasion began during a fierce storm when there was a momentary very momentary, if you look at this break in the weather, creating a limited window of opportunity for our allied forces. You see in their gut allied leaders, men like President Roosevelt, Winston Churchill, and their trusted generals knew that the Nazis were being logical. And so, Roosevelt and Churchill planned probably the most illogical invasion and thereby changed the course of World War II. You know, when you hear stories like this, and when I was researching this and kind of writing this for today's episode, I wonder in our own lives, when you look back on important pivotal decisions, the ones that may change the course of your life, were they mostly logical or were they based upon your gut, perhaps just perhaps we could call it a hunch or a feeling you had about, which was the correct route to pursue. And I think Pascal our boy Pascal would tell you that your gut feeling is an essential aspect of your ability to reason. [09:02.5]

So, in this moment of COVID-19, that is still around, we're being bombarded, as we all know with data about this virus. How many tests have been given how many vaccines are administered and sadly, how many people have died? It's all pretty grim factual data, wouldn't you agree? But COVID-19 is a novel coronavirus as we know, meaning that it's a new strain and there's a lot that's unknown. So, we combine the known pieces, the factual data, the information that our brain can logically process, but we rely on our gut to guide us through the unknowns of the virus and how best to deal with it ourselves personally. It's our brain's ability to reason coupled with our brain’s emotional capacity. And from there, we make decisions about what to do. And only in hindsight, only in hindsight, will we know whether we were right or wrong. [09:58.1]

And let's be honest, we all know this COVID-19 has had a huge impact on the U.S economy, as well as economies around the world. We've all seen the headlines, jobless claims filed stock market volatility, GDP contracted in 2020, and some economists are concerned about an economic future with artificial support from the government, something we've talked about heavily on this podcast, as well as those clients listening and those prospective clients who have called in, you've heard us mention this from a portfolio manager’s, point of view on how we mitigate some of those risks. And, you know, say what you will, but government's response thus far has been really more of a reasoned approach, a page out of the 2008, 2009 playbook, if y'all remember that. You know, it's an approach that fits well on the 20% of your brain, that processes reason thinking, but what about the other 80% of your brain, the more emotional intuitive side? What's your gut telling you about our economies, artificial financial supports? Here's where the rubber meets the road when it comes to your mind, your logical rational mindset, and your gut, your emotional, more of a gut feeling or a hunch approach. How do we combine those two? [11:14.0]

Here's the answer I want to say today on this podcast and for this reason, when it comes to these examples, I've been giving around investing. Seeking counsel, finding an experienced advisor, who's been, there has a lot to do with helping bridge the communication gap, if you will, that good old led Zepplin communication breakdowns between our rational mind and our emotional mind. You know, in Pascal’s day, in the 1600’s in France, in seaside towns like Normandy and Calais, people relied more heavily on the 80% of their brain that was intuitive was commonsensical. For example, in severe stormy weather, like the allied forces encountered on that night of June 5th, 1944, the eve of D-Day Mariners would never have ventured out to sea in the 1600’s. They were even bans on voyages during these winter months or venturing out when storm clouds were seen. Every precaution was made to avoid a catastrophe to, you know, avert misfortune. After all, in the unforgiving waters of the English Channel. It is a matter of life or death. And centuries ago, sophisticated technology was lacking. So, people relied heavily on common sense, which by the way, we all should still rely on this, but that's all they had. [12:34.6]

If the weather looked bad, ship stayed in port safe and protected, no questions, asked. But over time as trade progressed, you can see where technology progressed. And as I said before, and you've heard me say this before technology is a disruptor, so now we have common sense and a lot more facts and figures and technology working for us to help us guide us, to make a more rational decision that might seem irrational to some or to others or to our generations past. So, connecting these two, the rational mind and the emotional mind is really important. And we do that by being able to sit kneecap to kneecap with someone or nowadays via zoom, but be able to go through, Hey, I was thinking about this, or my friend mentioned this, or my parents talked about this. What does that mean for me? [13:30.3]

I know this isn't some AHA moment, I just provided to you where it's like, oh, okay, here you go, Brad, again, talking about an advisor and its relationship with clients. But when you talk about, especially nowadays the emotional investing, the water cooler investment idea that I call, it's that random idea that your buddy just randomly threw at you and said, Hey, I'm looking at this and I'm, oh, I'm killing it here. And I'm doing this really make sure that that's right for you. Understand the risks because you're emotional, your gut is going to tell you, oh, that sounds good, that's exciting, that's sexy, that's cool. Let's do that. And we forget to go through some of the more fundamental things to build a well-designed portfolio that allows for that kind of a growth or that kind of alpha seeking investment inside of there. But we also need to make sure we have our singles and our doubles. We want to be careful of always just shooting for that grand slam. We want to make sure that we have the fundamentals down in there. And I know that may sound boring trust me, I don't want it to be, but it's one of those things that when you really look at the rational mind and how we process things from a psychological, or in this case, a behavioral finance trait, we really need to make sure that we know the two forms of behavioral finances. [14:45.6]

The two main forms that I've researched and studied. The first one is I'll call it the God-given. It was innate in you. It's who you are. Now some of you may be thinking, okay, well, wait a minute, I was always, since I can remember, I've always been frugal or since I can remember, I've always just not known how to save. Some of that is a part of the DNA. The other part, the second part of behavioral finance and this is where this is a debatable topic when it comes to nature versus nurture as well. But the other part, the second part of behavioral finance is circumstantial. Meaning, what you've lived through good or bad will shape you. Now, which one wins out in your life is to be seen. And that's important to be able to talk out when it comes to something as important as your investing, because we're not just investing for growth. That's what all the media talks about, and we know that we want sustained growth. We want protection over the long haul. Having these investments work for you continuously, knowing when to move off investments that have already gained for you, knowing how to fully process new investments. And the best way to do that is to have a foundation or a blueprint of what your goals and objectives really are. [16:01.7]

All Brad, my goals and objectives is to grow my account. I want this $1000 to go to $10,000. Everyone does, but how do we get there and what's the timeframe? And what are our fundamentals we're putting in place to make sure that we have some areas in that that has our steady eddie growth, our rounding first rounding, second base here. And then what are the ones inside there and what allocation or waiting are we going to put towards the riskier side of things to really shoot for the fence? It does work when it goes hand-in-hand together. But the behavioral finance traits, again, of what we've lived through and where we're willing to stick our neck out for or risk for, we have to really look at that and say, is that more of our circumstantial nature? Or is it more of our natural behavior? I'll give you an example for me. [16:49.1]

Ever since I can remember and being in the financial services industry for now nearly 20 years, I have found when I'm talking with clients and in my own life investing, I'm naturally a risk taker. That's just being completely disclosed and honest. I'm naturally a risk taker. So, I have to really tamper down what I'm willing to do because I know my general nature, my God-given nature is to take risks. And it's very interesting to me as I've studied that and as I've learned that in fact, our firm last year did something called a culture index for all of our employees. And it was a really great study for all of us to know who our colleagues are, who we are in our positions, all of this is in the light of better serving our clients. Everything we do at One Capital Management is in light of serving our clients better and it was a really fascinating study and mine came back pretty much what I thought, what I just described as a risk taker. So, my job is to seek with my advisor here in the firm, my portfolio manager here, the firm to mention that to them say, Hey, look, naturally, I'm a risk taker so, when I come up with these ideas, you know, slow me down, talk me through it and it works. [17:59.1]

So, my challenge to you today, my question for all of you listening today is who are you as an investor? Are you naturally a risk taker or are you naturally on the other side, which happens commonly as well, naturally more conservative? Or more, Ooh, I'm scared that I'm fearful of that? Advisors and someone experienced to help you walk through that process of truly understanding who you are as an investor, that behavioral finance trait that you have, and then doing into and dissecting some of the more, Hey, what have you gone through? Some of that's natural as I mentioned, but what are some of the things that have shaped you in your adult life? Have you been in times where you haven't had money and concerned about it so, it makes you more frugal? Or have you had some wins early on and it's moving you up the spectrum say, okay, I'm okay with this risk, we need to go through a good advisor. We'll go through and understand both sides of the behavioral finance traits, both sides of the rational and the emotional mind. [19:00.5]

So, the onset, the title of his podcast this week, I labeled for reasoning - emotional versus rational, which one is right when it comes to investing. Here's my answer, and this is just my answer right now. Neither one is right or wrong. It's understanding how they communicate with each other and making sure they both have equal voices in your investment decisions. And then those voices should be discussed out with your advisor to help make sense of what they're communicating. Cause I don't know about you, but sometimes especially nowadays well as data and information and he said, she said, all this stuff going on in the world of politics and everything else, geopolitical stuff right now, we're look at the investing world, which has a lot to do with both those categories I just mentioned, we can get confused. Both voices can be speaking super loud at different times, and one starts to outweigh the other. And we've gotta be careful as that impacts our investing in some of the things we're doing on a daily basis. Back to what I've always said is if you run through those voices, seek counsel, and find that advisor that works with you to be able to understand your risk tolerances and in particular, but then fit all of that into an overall plan, a cohesive plan one that is encompassing of all the aspects of your life and using that as your blueprint. [20:19.8]

Changing it over time, as things change, maybe you're younger and now you're married, maybe you're married and don't have kids, but now you have kids. There's a lot of changes or a new career or an advancement in your current career, whether from a numerical salary standpoint, there's always changes to be made in a plan. But if you keep the foundation set, you will have much more success, when you talk about things as little as, but as important as investing and the investment to which you are investing in. I've said this before, it's not always what you're investing in, but how you own it. There's a lot of planning that should go involved with the decisions around investing and making sure that the voices of your emotional and your rational minds are having their equal share at the table. Because if it is unequal, then we get back to the Plato's quote of, ‘the mind can be pulled by an emotional elephant and a rational pony.’ Something to think about in all aspects of life and definitely in your investing life. [21:21.8]

Thank you for listening to Make your Money Matter. And before acting on anything discussed today, remember speak with a financial advisor near you. And if you're not sure where to turn and you'd like our help, you can visit us at onecapitalmanagement.com or give us a call (805) 409-8150. And until next week always remember make your money matter. [21:46.1]

The information in this podcast is educational and general in nature and does not take into consideration the listener's personal circumstances. Therefore, it is not intended to be a substitute for specific individualized, financial, legal, or tax advice.

To determine which strategies or investments may be suitable for you consult the appropriate qualified professional prior to making a final decision. [22:09.2]

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