How Behavioral Finance Shapes Your Financial Success (and Failure)

In this week’s episode of Retire in Texas, Darryl Lyons, CEO and Co-Founder of PAX Financial Group, opens up about the powerful world of behavioral finance by sharing his own personal investment mistakes. Darryl discusses four key missteps he made throughout his financial journey, ranging from herd mentality to overconfidence, and how each error offers valuable lessons for investors. 

Through these stories, Darryl emphasizes the importance of self-awareness and learning from mistakes, rather than being hindered by them. Whether you’re a seasoned investor or just starting out, Darryl’s insights provide a valuable roadmap for avoiding common behavioral traps. 

Key show highlights include: 

Transcript:

Hey, this is Darryl Lyons, CEO and co-founder of PAX Financial Group, and you’re listening to Retire in Texas. This information is general in nature only. It’s not intended to provide specific investment, tax or legal advice. Visit PAXFinancialGroup.com for more information. 

And also, I want to encourage you to visit PAXFinancialGroup.com. If you want to meet with an advisor, there’s a Contact Us button and you can meet with an advisor. They have hearts of a teacher. It’ll be a 15-minute consult. It will not cost you anything. What we’re trying to do is determine if it’s a good fit. Sometimes it’s just not the right fit for various reasons.

And so, in that 15-minute consult, you can get an idea of our process and our people, and then part ways if it makes sense or move forward if it makes sense. So, I want to encourage you to do that. Okay, so today I’m going to go back to the concept of behavioral finance, and I’m actually going to be, in the words of Brené Brown, courageously vulnerable.

I’m actually going to talk about some of my mistakes that I’ve made. And, you know, there’s a couple types of mistakes that we make in investments. There’s really, in life in general, but there’s mistakes of commission and mistakes of omission. I’m not going to talk about the mistakes of omission. That would be like, I should have bought Apple, right, way back when. I should have bought Facebook. I should have even bought Bitcoin when it was really low. You know, those are omissions.

But acts of commissions, things that I actually did and executed and really messed up, I’m going to talk about some of those things. I’m going to talk about four of my own personal acts of commission, and I’m going to help you understand what I learned from those, because I don’t believe that you ever lose. I believe you learn.

And I, you know, you learn that in sports, and I teach my kids that you don’t lose. You know, you didn’t fail that test, or you didn’t, you know, you didn’t lose the game. What did you learn? And that’s really important for me, is whenever mistakes are made and really, in all facets of our lives, is just taking inventory and saying, what did I learn?

And so, I want to share with you what I learned from these mistakes. Now, behavioral finance, for those that haven’t heard or maybe don’t remember me talking about this, is this area of study that is generally new, I would say, and it’s a collision of neuroscience, psychology, and traditional finance. The work really was rooted in Daniel Kahneman’s research, “Thinking, Fast and Slow.”

And I mean, he’s like the grandfather of this area of study, of behavioral finance, but it’s recognizing that the vast majority of our wealth that we have or don’t have, is a direct result not of the math, necessarily, but the decisions that we make. And then, knowing this is fairly obvious to all of us, but asking ourselves the question, were there specific things that happened in our lives that caused us to make these decisions?

And the reason that’s important to study is because then we can course correct. And so, this area, behavioral finance, has been very important to PAX and to all of our employees to study, to lean into and to try to not necessarily master, because that would be nearly impossible, but just to have an appreciation of mistakes and how we can learn from them.

And some of these mistakes we make, frankly, you’ve heard me talk about this before, rooted in our childhood, but I’m going to share with you four mistakes that I’ve made and what I’ve learned from them. And this is not in a chronological order, but just, kind of a scattering of time plots in my life.

So, the first one I’d like to talk about happened in 2011. Now, 2011 was an interesting year because 2008 was really, you know, that was the great market crash. Gosh, it seems like forever ago. But if you look at 2011, the reason 2011 was interesting, because I was looking at a lot of clients’ money, and because we were 2011, and you look back ten years, we go to 2001. 

So, we have during that ten-year time span, we’ve got 9/11 and this 2008 crash, and it’s the first time in our history, first time in our entire history that the stock market, actually, over a ten-year period, showed a negative return. First time ever. And so, I’m really discouraged because I’m in a business where I feel like I’m not going to be able to provide value to anybody because I believe in the markets and helping people grow their wealth, but I’m looking at a ten-year period saying, “People, there’s no hope in this.” 

The idea of buying and holding is, I’m asking myself if this even makes sense. So, it was very frustrating. So, what happened is I fell into something called herd mentality. Herd mentality is when you follow the crowd. You know this intuitively, I mean, but let me explain it from a behavioral finance point of view.

It’s following the crowd instead of doing your own analysis, you’re influenced by the crowd. You lean more on emotion, more on instinct. You really pay attention to what others are doing rather than that rational, deep analysis. That’s what I did. So, 2011, rooted in this idea of being discouraged, I start looking at, okay, what are other advisory firms that are bigger than me and maybe more successful than me, what are they doing? 

And they had switched gears from this buy and hold mentality to something called, at the time there was a program, this is not one we use, but it was called Virtual Portfolio Management. And in essence, it was an early adopter of algorithm investing. So, if it’s a green light, you buy, and if it’s a red light, you sell. And it used these algorithms to try to time the market.

And there was enough credibility to say, you know, this kind of makes sense. You know, when you’re buying holds not working, and you need a new strategy on these new markets with computers, and you don’t want to be left behind. So, I put some of my money in these strategies. And then in 2011, when you think things are going well, it was the summer, I remember because Greece was about to collapse.

I mean, it was, I know a lot of you guys don’t remember this, but it was really scary. And the EU got together and actually funded Greece so they wouldn’t collapse and cause what we know now as systemic risk, globally. But up until that point, it looked like we were going to have an entire country default. And prior to that, we had something called a volatile whipsawed market.

So, when you were buying green lights, you were like, “I’m going to buy something good.” And then it’d whipsaw, meaning the market would go back down and you’d sell it because it went off red lights. And you were doing this so often because the market was so volatile that you were buying and selling, and you were basically generating losses, you weren’t getting gains, you were just generating total losses.

So, I was losing money for me personally, and it was a train wreck and extremely nerve wracking. And it’s because I followed the crowd, because of this herd mentality. And I just, I’m not going to do that again. And I, and it’s not that I don’t hate it, but it really troubles me when, and I try to guide clients, you know, clients will often follow the same herd mentality.

And it feels like, “No, I’m not following the herd. I’m forging my own path.” But a lot of times, it’s herd mentality. We’re not doing our own research. We’re just leaning into my brother-in-law, he worked for the FBI. I was actually in an Uber the other day, and the guy was telling me that, that his, his last rider was a four-star general and talking about the market crashing. 

You know, he was very much leaning into this, and I, and I thought, okay, this, first of all, this guy is like, really, really old and completely disconnected from today’s economic system. But it felt very much like this person was going to follow the herd. And so, I see this a lot- following the herd, following the herd. I’ve got to be careful I don’t follow the herd, but so do you. And so, that was lesson number one.

Lesson number two was not as much money, but it still was a lesson. And this was gosh, I guess this was probably 2002, I’m guessing. And we were completely broke. I mean, granted, I got out of college in 1999 and I’m trying to get into this business and it’s really hard to be a broke financial advisor. I mean, it’s like a shop teacher with no fingers. That’s what Dave Ramsey often says and that’s how I felt. No money, and trying to find clients, and I honestly appreciate all those clients that gave me a shot back then, because they knew that I was just trying to make ends meet and doing everything I could.

And I just hit a wall where I didn’t have any money. None, except an old 401(k), because I worked at a bank in college. I worked at Bank of America in college, so I’d squirreled money away in college. I was richer in college than I was after college. And I was like, “Man, I need that money.” And it was like, I guess it was probably $20,000. And I cash the thing out just to survive. You know, that was 2002. You could do the math. And I tell you, that would be worth, I mean, that was 20 years ago. And if you could double money, I mean, I know this doesn’t always work, every seven years or every ten years, however you look at, I mean, that’s $80,000 today.

That was an 80 or $100,000 mistake that I made. At the time, it felt like the only hope. Of course, cash out of 401(k)- what happens? Taxes, penalty. So, it cost me 30%, but it cost me a lot more. And so, you know, I was just nervous. If I hadn’t had the 401(k), I probably would have figured out a way.

But it was like, I just needed a painkiller. So, if you’re in that situation, and it’s, a lot of you guys are like, “Man, what an idiot.” Or some of you, you guys are like, “Man, I’ve been there, I know how that feels.” And you feel like that’s your only hope. And I want to encourage you if you’re around individuals that are kind of thinking about that, look for other alternatives. There’s got to be another way.

And I wouldn’t encourage that because again, today, that little 401k that, you know, is what I mean, that’s all I had, would be honestly worth a couple, maybe $100,000 today. Okay, I know you think I’m an idiot, but let’s keep going. Oh, what was the behavioral finance lesson there? I told you the first one was herd mentality. The second behavioral finance lesson there that, this is a technical term, this is called stupidity. That’s all I have to, that’s the only way I could describe taking out that 401(k) money, that’s just stupidity.

Okay, let’s go to a third one here. This one was, I was a little younger as well. This is overconfidence. And again, this is intuitive, but from a behavioral finance perspective, this is a cognitive bias that can negatively affect investment returns by leading people to overestimate their skills and knowledge, to overestimate their ability. Oftentimes they, people have overconfidence, and they’ll trade more, and they’ll trade their stocks more. They’ll trade their portfolio more and earn less money. 

And so, I had overconfidence, as you would imagine, a college graduate, you know, you’ve seen these college graduates. They think they know everything. I was one of them. I did this investment class, professor said whoever makes the most money at the end of the semester gets a good grade. I made the most money for the class. I got a good grade. I was pretty confident in my ability.

We had studied these things called, you know, junk bonds, and I understood those pretty well. I understood options and all that stuff. And so, this was ‘99 and, like I said, I had some money in my 401(k), which eventually I pulled out. But at the time I had saved up working at Bank of America. So, Y2K was happening. So, it’s about to turn, and I don’t know if you remember Y2K, but this was the time where flipping over from the double digits in ‘97, ‘98, ‘99 and the computers were now going to have to say 2000 on it. And so, everyone was worried that computers weren’t set up to give four digits.

And once, if you just used two digits, so you went from 97, 98, 99, 00, all the computers around the world were going to freak out because they weren’t sure if it was 1900 or 2000. And so, this was going to cause the whole system to crash, and it was going to be chaos. So, I thought this was going to happen.

And so, I was overconfident in my ability to, to predict what the market was going to do. So, I had shifted all of my money. I’ll never forget, I moved it to a Lord Abbett Bond Debenture Fund, and it was a fund that was a municipal, not a municipal bond, it was a various eclectic bond fund. It’s actually pretty good fund, but it, Y2K never happened and I shouldn’t have been in bond funds at 22. That’s not where you go, you, equity markets. But I was confident, it was like 100% sure that the market was going to crash. And I had moved all my money to what I considered a safer alternative.

And, I certainly was not, seeking counsel of advisors. In fact, I remember I went to Edward Jones, and I was telling the Edward Jones person what was going to happen. And, and I guess my overconfidence probably was hard to overcome because they didn’t argue at all. They’re like, okay, yeah, makes sense. And they put me in municipal bond funds or corporate bonds at age 22 or something like that. But I definitely had overconfidence. And as you know, well, Y2K never happened.

Okay, fourth one, last one. This one actually happened relatively recently. And I’m like, gosh, how do I not learn? And so, this is confirmation bias. This is when you pay close attention to information that confirms your existing beliefs, and you ignore the facts that contradict your beliefs. So, I owned Bitcoin. Okay, and I felt like, okay, there’s, I think there’s enough room here for this thing to work. But then it went down. I don’t know if y’all remember. It kind of went down quite a bit. I don’t remember the exact numbers, but it hit a bottom where the confidence was waning for all of us, and I, I was one of those people that lost confidence. And I was like, why do I own this? Anyways, people were telling me that you need to own Bitcoin because it’s a hedge against the market.

Well, the market was going down, crypto was going down. It wasn’t a hedge. People were telling me it’s an inflation hedge. Well, inflation was up. This was going down. It’s not an inflation hedge. So, a dollar alternative. Okay, I’m not seeing that either. I’m like, why the heck am I owning this? Everything that Silicon Valley told me about why you should own this, I was looking in real time on data that was invalidating the reason that I should own it to begin with. 

And so, in my mind, I was like, this is Silicon Valley snake oil. Like, I don’t even know why I own this. And so, I pulled out and then and then a week later, this whole thing shot up. And I think about it, and I go, ‘Why did I do that?” Like what happened in my mind? And again, this is just recently, what happened in my mind that caused me to behave that way. And it was, and it was just a confirmation bias.

I was just, the confirmation bias is when you pay attention to just information that confirms an existing belief, and you ignore anything that contradicts that belief. And I had anchored to this idea that it was Silicon Valley snake oil, and that I did not have any really rational reason to own it. And the reality is, I was substantiating it because it was down a lot, and it was confirmation bias at its best. I didn’t have a lot of money in it. Frankly, it was enough money if I put money in crypto that I could have lost it all, and it really wouldn’t have mattered. But it was a, it was a reminder for me not to be overconfident and to remember confirmation bias is a real behavioral finance issue for a lot of us.

So, there’s your four behavioral finance issues in real time through my mistakes in life. Like I said, there’s a lot of them out there. But herd mentality being one of them, stupidity being the other. Overconfidence. Confirmation bias. Very humbling lessons. And, hopefully that I, you know, I learned, and I remember those and going forward, I won’t make them again. And I hope that as advisors, this is one of the most important roles as an advisor, that when we see these things happening in your life as well, we can course correct so that way we don’t end up making dumb decisions and regretting it. 

And I think that’s pretty much from an advisor’s point of view. One of the most valuable roles we can play in people’s lives is helping them kind of unwind some of these mistakes and these cognitive biases that exist in all of our lives. And it’s hard to overcome it, even despite how smart we are, we’re still subject to it.

So, thank you for listening today. Hope it was helpful. Hope it is fruitful. Hopefully, hopefully you don’t think less of me. And, again, I want to remind you, as always, you think different when you think long term. Have a great day.

Tune in to learn how to recognize and correct these biases in your financial life, and gain insights into how these lessons can help you achieve a more secure financial future. For more resources, visit http://www.paxfinancialgroup.com. If you enjoyed today’s episode, share it with a friend!

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