Discover why smart people lose money in the stock market. We explore a real office stock disaster and Daniel Kahneman’s behavioral economics to help you reach FIRE.
Introduction
Hello, this is CY. Welcome back to My FIRE Journey.
Hope you are having a great weekend. I am spending my weekend reading and writing. Thinking, Fast and Slow by Daniel Kahneman is one of the best books I have read recently. It is a thick book and not an easy read. However, I want to share the parts that deeply touched me. I hope you can at least remember these key lessons today.
Today, I want to share a very real story that happened in my own office about a year ago. It perfectly shows why even the smartest people lose money in the stock market. Kahneman proved that when it comes to money, humans are biologically wired to make bad decisions.
Let me tell you about the “Biotech Disaster” at my workplace, and how understanding your own brain can save your financial future.
The Office Stock Craze
About a year ago, a massive investment boom swept through our company. A senior colleague in the HR department, who was known for being interested in stocks, recommended a specific biotech company. This company had become famous during the COVID-19 pandemic, and the big news was that they were waiting for government approval for a new hair-loss treatment drug.
Following the senior colleague’s confident advice, several of my coworkers jumped in and bought the stock. For a short time, they looked like geniuses. The stock price actually went up quite a bit. Everyone was checking their stock apps with big smiles.
I did not buy it. Even back then, the company felt a bit unstable to me. More importantly, I did not trust the owner of the company.
But let me be completely honest with you: I was incredibly anxious. Seeing my coworkers making money every day, I thought, “What if this stock shoots to the moon? What if everyone gets rich and I am the only one left behind?” This intense feeling is called FOMO (Fear Of Missing Out). It is a psychological torture that makes you want to abandon all your logic and just follow the crowd.
The Disaster and The Only Winner
Then, the bubble burst. The hair-loss drug did not get approved. Even worse, a huge scandal broke out. The owner of the company handed over the management of a subsidiary to his child and secretly funneled the company’s major products to them. It was a classic case of bad management and greed.
Naturally, the stock crashed. Because everyone had been waiting for the price to go even higher, nobody sold their shares in time. They rode the stock all the way down to the bottom. Today, that stock is still crawling on the floor.
Do you know who the only person to make a profit was? Just one guy. He was getting married at the time. He desperately needed cash to pay for his wedding preparations, so he was forced to sell his shares while the price was still high. He did not sell because he was a financial genius; he sold because of a major life event. As we discussed in my previous post, needing money for a big life event is one of the only true reasons to sell a stock!
Two Brains: System 1 and System 2
Why did my smart, hard-working coworkers lose their money on a sketchy company? Daniel Kahneman’s book, Thinking, Fast and Slow, gives us the exact answer.
Kahneman explains that our minds are controlled by two different characters: System 1 and System 2.
- System 1 (Fast Thinking): This system operates automatically, intuitively, and extremely fast, with no effort. It is driven by emotion, fear, and greed. It loves to jump to conclusions based on very little information.
- System 2 (Slow Thinking): This system handles complex calculations and logic. It requires deep attention and effort. However, System 2 has a major flaw: it is inherently lazy.
When my coworkers heard the “hot tip” about the hair-loss drug, their System 1 took over. System 1 loves a simple, exciting story. It saw the rising stock price and felt greed. It saw other coworkers buying and felt the safety of the herd. System 2 was too lazy to open the company’s financial statements or investigate the owner’s background.
My System 1 was also screaming at me. The FOMO I felt—the fear of being left behind—was a pure, uncontrollable System 1 emotional reaction. But thankfully, my System 2 stepped in just in time. It forced me to look at the business logically and say, “Wait, this owner is untrustworthy.”
Conclusion: How to Protect Yourself from Your Own Brain
You cannot kill System 1. You cannot stop feeling FOMO or fear. We are humans, not robots. But as Kahneman suggests, if we understand how our brain makes systematic errors, we can prevent those errors from destroying our wealth.
This is exactly why we need a boring, automatic investment strategy. When you invest a fixed amount of money every month into a low-cost S&P 500 index fund, you are completely removing System 1 from the equation. You don’t have to guess, you don’t have to follow office rumors, and you don’t have to worry about untrustworthy CEOs.
Knowing your own psychological weakness is your ultimate margin of safety. In our next post, we will look at another dangerous trick your brain plays on you: why checking your stock app every day is making you poorer. Stay tuned!