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Financial Literacy Impossible for the Masses
Old 04-06-2008, 12:48 PM   #1
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Financial Literacy Impossible for the Masses

Financial literacy | Getting it right on the money | Economist.com

Saw this article a couple of days ago. It seems common sense to provide financial education to everyone, since almost everyone will need to manage money sooner or later.

Interesting excerpt to highlight the dire need for financial education:

For instance, a survey in 2004 by Cambridge University and Prudential, a big insurer, found that some 9m Britons are “financially phobic”, meaning that “they shy away from anything to do with financial information, from bank statements to savings accounts to life assurance.” Research by the British regulator, the Financial Services Authority, found that one-quarter of adults did not realise that their pensions were invested in the stockmarket.

Also in the article, some expert said that financial literacy is impossible for the masses.

“The depressing truth is that financial literacy is impossible, at least for many of the big financial decisions all of us have to take,” says Richard Thaler, a behavioural economist at the University of Chicago. Aptly for someone who has built his career on the study of irrational financial behaviour, Mr Thaler admits that even he finds it hard to know the right thing to do. “If these things are perplexing to people with PhDs in economics, financial literacy is not the right road to go down.”

Whoa?? We're not talking about everyone knowing how derivatives work. They just need to understand how to read a prospectus and how to use a compound interest calculator online.

I suppose it's only a matter of time before someone points out that financial literacy is unpatriotic, since it may lead to responsible spending.
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Old 04-06-2008, 12:50 PM   #2
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Well, that is why we need highly paid professionals to sell us the right product for our needs.
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Old 04-06-2008, 01:00 PM   #3
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Originally Posted by GoodSense View Post
Financial literacy | Getting it right on the money | Economist.com

Also in the article, some expert said that financial literacy is impossible for the masses.

“The depressing truth is that financial literacy is impossible, at least for many of the big financial decisions all of us have to take,” says Richard Thaler, a behavioural economist at the University of Chicago. Aptly for someone who has built his career on the study of irrational financial behaviour, Mr Thaler admits that even he finds it hard to know the right thing to do. “If these things are perplexing to people with PhDs in economics, financial literacy is not the right road to go down.”
I think this is likely true. I remember some years ago trying to explain the time-value-of-money concept to my very high IQ then wife.

It just was not going to happen. Thaler is right, financial literacy is hopeless in many if not most cases. Likely even the floor IQ necessary would cut out 50% of the population.

That is why social security is so important, and glib statements about "don't expect it, etc.", are not realistic in a democracy.

Ha
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Old 04-06-2008, 01:36 PM   #4
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someone started a thread a while back on financial comprehension.

my iq has been tested a few times, if i remember right, in the mid 120s to mid 130s and i rate very high in my ability to recognize gestalt. i managed an "a" in the one college class i took in economics. but i struggle to understand finance especially as it concerns investing. to me it is such an artificial world with very few intrinsic qualities to grab onto, just a lot of hot air held within a thin balloon fabric which can be popped with a pin prick.
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Old 04-06-2008, 02:29 PM   #5
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I am not all that surprised. I think behavioral finance is a very useful tool in understanding howand why people act the ways they do when it comes to money and finance.

A lot of this seems to have little to do with "intelligence," at least once we are above a certain threshhold. I see lots of very smart people either paralyzed about money or just unable to fathom basic concepts (like Ha's example). My FIL is a classic example: the man has a PhD and teaches MBA program marketing classes, yet is paralyzed by anything to do with money. He has made countless poor financial choices that resemble textbook examples of behavioral finance traps. He wants nothing to do with managing his money, so part is done by a financial planner and part of it I do.

And I've seen plenty of counter-examples as well that suggest to me that this is a talent or brain composition thing rather than something to do with IQ or schooling. Lots of small businessmen couldn't explain the time value of money to you, yet manage to amass quite sizable assets. Heck, I'm not very good at math (can just about manage basic algebra on my own, if given plenty of time), yet I am in the financial industry.

As for policy conclusions, as is so often the case lately, I tend to agree with Ha that stuff like social security and medicare is pretty much a sine qua non. OTOH, I quite frankly expect to receivelittle or no SS personally ("don't expect it") because I assume it will be means tested or taxed away by the time I am old enough.
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Old 04-06-2008, 02:45 PM   #6
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Everybody here knows and loves William Bernstein, right? The father of DIY MPT.

The Probability of Success

To invest competently, you need four faculties:
  • An interest in investing. It’s no different from cooking, gardening, or parenting. If you don’t enjoy it, you’ll do a lousy job. Most people enjoy finance about as much as Carmela Soprano enjoys her husband’s concept of marital fidelity.
  • The horsepower to do the math. As Scott Burns explained to me years ago, fractions are a stretch for 90% of the population. The Discounted Dividend Model, or at least the Gordon Equation? Geometric versus arithmetic return? Standard deviation? Correlation, for God’s sake? Fuggedaboudit!
  • The knowledge base—Fama, French, Malkiel, Thaler, Bogle, Shiller—all seven decades of evidence-based finance back to Cowles. Plus, the "database" itself—a working knowledge of financial history, from the South Sea Bubble to Yahoo!
  • The emotional discipline to execute faithfully, come hell, high water, or Bob Prechter. Mr. Bogle makes it sound almost easy: "Stay the course." Alas, it is not.
I expect no more than 10% of the population passes muster on each of the above points. The devastating part is, to succeed you need to string all four together. Thus, in a state of nature, just 0.01% of investors have what it takes. An optimist might guess a 30% success rate on each count, in which case one percent of the population can make all four.
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Old 04-06-2008, 03:14 PM   #7
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I agree it's not a matter of intelligence or conventional education, or even ability to do math. My FIL has a Ph.D. in psychology yet he is clueless about retirement planning. (We almost gave him a retirement planning book for Xmas, but thought it might hurt his feelings) DH, on the other hand, has a really good sense about money. Genetic wiring aside, the general fear of numbers plays a big role. Hopefully financial education can alleviate that fear to an extent; although there will always be financially clueless people, the number could be much smaller.

In East Asia where I lived, very few people are afraid of numbers. I think it may had to do with top-down, super iron-fist math education. Some of my relatives in their 60s in China just began to invest in the stock market last year. Even though the concepts of stocks/mutual funds are relatively new to the general public, it did not take long for many people in the 50s and 60s to educate themselves. (OTOH, the equivalent of the DJIA has dropped nearly 50% since last October )

Edit: Just read Twaddle's post. #1 to #3 can be cultivated, but #4 is harder. I think a lot of people would be more interested in personal finance had they known how powerful it can be.
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Old 04-06-2008, 03:14 PM   #8
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a lot of hot air held within a thin balloon fabric which can be popped with a pin prick.
Ahhh Lazy.. you understand more than you know!

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I suppose it's only a matter of time before someone points out that financial literacy is unpatriotic, since it may lead to responsible spending.
This is so true.. especially NOW. My high IQ but right-wing sis (with an MBA!!) would rather blame illegal immigrants (!) for the housing bubble than look at the unsustainable numbers and trends in front of her face. She calls it a "shock" and likens it to an irrational bank run.. more precisely she thinks it was "eVerify" causing the vast numbers (my sarcasm) of home-owning-yet-illegal immigrants to yell "fire!" and head for the exits in the crowded housing theater.

What's even more startling, and beyond politics.. is the mass delusion that LED to the housing crisis: the belief that you can get double-digit returns out of "safe" mortgage investments. Not only, but that people can afford homes that cost 10x their yearly income. Investment banks not only sold this Kool-Aid.. they drank it themselves.
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Old 04-06-2008, 03:56 PM   #9
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Personal finance isn't a matter of IQ. It is a matter of desire. I think most of us on this forum has had the Scarlett O'Hara moment when they decided "they would never be poor again." It happened to me in 1982 and I haven't been since. Personal finance isn't beyont the reach of someone with a 70 IQ. It does require the interest and desire to move beyond living for today to living for the future possibilities. Anyone that can't successfully manage a "couch potato" portfolio needs serious oversight for beyond what our current system supports. Anyone that won't save for retirement or resolve to live below their means has issues other than their IQ. Its a matter of focus and commitment.
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Old 04-06-2008, 08:36 PM   #10
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I believe it's IQ and desire. Not that there's a direct correlation between IQ and financial savvy, but if an individual has just above average IQ and desire, he/she can grasp what they need to know. Quite a few of my co-workers don't have the IQ and most don't have the desire, they are all looking for quick/easy. They will spend days/weeks researching what car to buy, what HDTV to buy, etc. - but they make investment decisions involving their entire portfolio almost on a whim. "I read in Money magazine at the dentist office..." or "my BIL told me to buy..." or "I heard some guy in a restaurant (that I don't know BTW) tell his friend to buy..." I know some very smart people who ask me for investment advice and when I try to 'teach them to fish' even on the most basic level, they just say 'yeah, yeah, just tell me what fund/stock I should buy...'
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Old 04-06-2008, 08:47 PM   #11
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Originally Posted by GoodSense View Post
Financial literacy | Getting it right on the money | Economist.com

I suppose it's only a matter of time before someone points out that financial literacy is unpatriotic, since it may lead to responsible spending.
If financial literacy is unpatriotic and may lead to responsible spending, then most politicians must be patriotic.
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Old 04-06-2008, 08:53 PM   #12
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If financial literacy is unpatriotic and may lead to responsible spending, most politicians must be patriotic.
I'm hoping for low cost heath insurance with the next dem administration. Raise my tax rate and give me heath insurance and I'm retired. My tax rate will fall and my big concern with ER will be covered by the feds.
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Old 04-06-2008, 09:02 PM   #13
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I'm hoping for low cost heath insurance with the next dem administration. Raise my tax rate and give me heath insurance and I'm retired. My tax rate will fall and my big concern with ER will be covered by the feds.
Along with several million others, but I'm not holding my breath. And there's no free lunch anyway...
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Old 04-06-2008, 09:05 PM   #14
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I had a few finance classes as part of the MBA curriculum. One of the classes was totally useless. It was totally mathematical. Here is an example of a similar (not the same) book that was used: Stochastic Calculus and Financial ... - Google Book Search
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Old 04-06-2008, 10:50 PM   #15
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I had a few finance classes as part of the MBA curriculum. One of the classes was totally useless. It was totally mathematical. Here is an example of a similar (not the same) book that was used: Stochastic Calculus and Financial ... - Google Book Search
Looks terrible. There are some things that are hard to be explained by mathematical models, and even if a formula is established, there are so many assumptions and exceptions. Many things in social science, for example. It just becomes useless when it's that complicated.
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Old 04-06-2008, 11:17 PM   #16
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Originally Posted by twaddle View Post
Everybody here knows and loves William Bernstein, right? The father of DIY MPT.

The Probability of Success

To invest competently, you need four faculties:
  • An interest in investing. It’s no different from cooking, gardening, or parenting. If you don’t enjoy it, you’ll do a lousy job. Most people enjoy finance about as much as Carmela Soprano enjoys her husband’s concept of marital fidelity.
  • The horsepower to do the math. As Scott Burns explained to me years ago, fractions are a stretch for 90% of the population. The Discounted Dividend Model, or at least the Gordon Equation? Geometric versus arithmetic return? Standard deviation? Correlation, for God’s sake? Fuggedaboudit!
  • The knowledge base—Fama, French, Malkiel, Thaler, Bogle, Shiller—all seven decades of evidence-based finance back to Cowles. Plus, the "database" itself—a working knowledge of financial history, from the South Sea Bubble to Yahoo!
  • The emotional discipline to execute faithfully, come hell, high water, or Bob Prechter. Mr. Bogle makes it sound almost easy: "Stay the course." Alas, it is not.
I expect no more than 10% of the population passes muster on each of the above points. The devastating part is, to succeed you need to string all four together. Thus, in a state of nature, just 0.01% of investors have what it takes. An optimist might guess a 30% success rate on each count, in which case one percent of the population can make all four.
What a depressing thread. I really can't even argue with the examples, because of all my high IQ friend certainly less than 1/2 are competent with money, and of my average-high IQ friends perhaps 1 in 10.

I think the obvious solution is for each of us to manage the finances of a 100 of our friends, of course that sounds like a w*rk and not very appealing.
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Old 04-07-2008, 12:06 AM   #17
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I really don't think it is as bleak as you portray. Honestly, if someone can read "The Wealthy Barber", they're about 80% there.

You don't need any more math than what's required to tip at a restaurant. Every payday, have 20% of your money put into a savings account. When that gets to be more than 6 months living expenses, start putting it into a few Vanguard mutual funds. Which ones? Who cares, just pick a couple that sound good. Total Market Index? Perfect. Reit something or other? Cool. International thingamajig? Awesome.

When the statements come, just throw them in a big filing cabinet without opening them. What ever you do, do not turn on CNBC.

Ten years later, the person following this plan is going to be in pretty good shape.

We spend an awful lot of time on this board discussing the optimal investing strategy. We talk about asset classes, rebalancing, buckets, expense ratios, etc., but just starting is 80% of the issue. All of those things are important, but unless they are handled terribly, they will work out ok. It's not ideal if people end up in mutual funds with a 2% expense ratio, but they'll still end up great compared to doing nothing.

Note-- this is about the plan I put my wife on in 2004 when we first started dating. She was frozen by all the choices in her 401k, so I just picked four Vanguard index funds and told her to put her money in those ( 40% S&P500 index, 20% small-cap index, 20% mid-cap index, 20% REIT index). Four years later and it's become a decent amount of money. In twenty years it will be a massive amount of money. It's not perfect, but it is good enough.

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Originally Posted by twaddle View Post
Everybody here knows and loves William Bernstein, right? The father of DIY MPT.

The Probability of Success

To invest competently, you need four faculties:
  • An interest in investing. It’s no different from cooking, gardening, or parenting. If you don’t enjoy it, you’ll do a lousy job. Most people enjoy finance about as much as Carmela Soprano enjoys her husband’s concept of marital fidelity.
  • The horsepower to do the math. As Scott Burns explained to me years ago, fractions are a stretch for 90% of the population. The Discounted Dividend Model, or at least the Gordon Equation? Geometric versus arithmetic return? Standard deviation? Correlation, for God’s sake? Fuggedaboudit!
  • The knowledge base—Fama, French, Malkiel, Thaler, Bogle, Shiller—all seven decades of evidence-based finance back to Cowles. Plus, the "database" itself—a working knowledge of financial history, from the South Sea Bubble to Yahoo!
  • The emotional discipline to execute faithfully, come hell, high water, or Bob Prechter. Mr. Bogle makes it sound almost easy: "Stay the course." Alas, it is not.
I expect no more than 10% of the population passes muster on each of the above points. The devastating part is, to succeed you need to string all four together. Thus, in a state of nature, just 0.01% of investors have what it takes. An optimist might guess a 30% success rate on each count, in which case one percent of the population can make all four.
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Old 04-07-2008, 08:11 AM   #18
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One of the most depressing factors that figures into this problem is math phobia, leading to lack of interest in math and lack of confidence when approaching anything even remotely mathematical.

People who could understand simplified, verbal presentations of correlation and basic financial concepts, simply will not attempt to do so. "I can't do math!!" resounds within their minds as they slam the most simplified of books shut, even books including little to no actual math.

This could be considered a special case within Bernstein's "An interest in investing" category.

It appears to me that math phobia has intellectually crippled a significant fraction of women, in particular.
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Old 04-07-2008, 08:27 AM   #19
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Until financial literacy has a draw at least as compelling as satellite TV and plasma sets, good luck.

Probably 80% of my time is spent "educating"..........
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Old 04-07-2008, 09:08 AM   #20
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You don't need any more math than what's required to tip at a restaurant. Every payday, have 20% of your money put into a savings account. When that gets to be more than 6 months living expenses, start putting it into a few Vanguard mutual funds. Which ones? Who cares, just pick a couple that sound good. Total Market Index? Perfect. Reit something or other? Cool. International thingamajig? Awesome.

When the statements come, just throw them in a big filing cabinet without opening them. What ever you do, do not turn on CNBC.

Ten years later, the person following this plan is going to be in pretty good shape.

We spend an awful lot of time on this board discussing the optimal investing strategy. We talk about asset classes, rebalancing, buckets, expense ratios, etc., but just starting is 80% of the issue. All of those things are important, but unless they are handled terribly, they will work out ok. It's not ideal if people end up in mutual funds with a 2% expense ratio, but they'll still end up great compared to doing nothing.
I totally agree with the above. My brain freezes up when I hear about things like "moving averages" and "puts" and even "long" and "short" and "margin" since I have no idea what those things are. I don't think ordinary people had anything to do with the stock market in the olden days so financial savvy was easy--save your money in the bank or credit union, buy a house you likely would never sell, eat spaghetti once or twice a week and cheap fish on Fridays, have a ton of kids (oh wait, that was us Catholics) who would have chores.

But I think financial savvy is still easy--just do it. You don't have to be a rocket scientist to ride in an airplane or a telecommunications engineer to use (most) cellphones. I obviously will never be buying individual stocks since I am not a monkey and I don't understand finance that well, but I can use index funds. I can take a little quiz to determine my risk tolerance to help me choose those funds. And then I can sock whatever money I can get my hands on and put it into them. Voila, a nest egg, and little financial literacy not required.

People who grew up with a financial future assured via pensions did not need to learn about saving for retirement. My grown children and their friends are much more financially literate than I will ever be, not that they want to be but because it is part of their lives, and have earmarked retirement nest eggs already started. I venture that everyone in that generation who works for a company with a 401K at least knows they should be contributing to it and why. So that's a big start.
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