Alt title : Using portfolio Theory to explain why you are unhappy
“If I get money, will that make me happy? If I get the prestigious job, will that make me happy? If I get a girlfriend, will that make me happy? If I get X will that make me happy?” – Every 20 something must have thought along these line sometime. In this blog I try to explore this “What will make me happy?” question using using generic financial investment advice. It is a bit absurd but I hope it makes a tiny bit sense as well.
Diversification in a financial portfolio
A common investment mistake most people make is that they are not diversified enough. Majority of their income and assets are tied to a single investment. Think of that uncle who always says “Real Estate me paisa daalo beta, shares wagre ye saab jugar hai”
And what’s wrong with not diversifying enough? You run a risk of ruin if your main investment doesn’t work out. Imagine you put all of your investment in a big plot of land expecting the price to rise. Now I start a fart flavoured perfume factory next to your plot. No one is gonna buy your plot of land now, right?. You’ve essentially lost most of your money. All you can do no is cry in your plot, enjoying my farts.
According to some smartypants billionaire hedge fund manager you should have about 15 uncorrelated investments to make most of any unreasonable upside while maintaining very low risk exposure.
Now, let’s talk about our emotional investment.
First, What is an emotional investment?
An emotional investment is anything that you put some effort into and expect some happiness/gratification/pleasure in return.
eg. Buying a tub of ice-cream(investment) → eating it at midnight(reward)
Going to a college club activity(investment) → meeting new people(reward)
So we make some emotional investments and get some return as a result. Whats next?
What does your emotional portfolio looks like. Here are some potential “investments” from my portfolio.
- Sitting by bonfire and talking with friends
- Earning money
- hanging out with friends
- meeting new people
- impressing the new people I meet
- watching a comedy special
- playing a video game
- playing football
- watching F1
- writing long lists in a blog
- doing something for my family
- making my parents proud
- That weird thing when after exercise all your muscles are aching but it also feels nice
This is probably less than 10% of the complete and exhaustive list. So there are at least 150 things on the complete list. Let’s call this my Pleasure list(Sounds kinky, doesn’t it?). Now compare this to the financial best practice advice which states that , you are over diversified.
When you are over diversified in a financial portfolio, the disadvantage is that your top performers are drowned in the sea of other mediocre stocks. basically its very hard to beat the index with an over diversified portfolio. In a portfolio of 100 investments making 6% on average, even if one blockbuster investment returns 200%, your overall return is just 8%, not that great and nowhere close to the 200% top performer.
Same is true for happiness I guess. With such an over diversified gratification portfolio it becomes virtually impossible to perform better than the index, the average, the mediocre.
This means whatever you do, achieving one thing isn’t going to make you happy? why? because you care about 149 other things as well.
What about negative returns?
This is where the analogy breaks a bit. In a financial over-diversified portfolio of one investment tanks, it doesn’t really affect the overall outcome.(unless you are shorting stocks) But for certain emotional investments like family will make you sad when they tank regardless of the diversification. If my mom is sick, no amount of ice cream is gonna make me happy.
A healthy man wants a thousand things, a sick man only wants one. – Confucius
One thing we can try is to give up on the bottom N items on the pleasure list. Make it less diversified. But then again how would you exactly go about doing it? I do not know.
There is this famous technique attributed to Warren Buffet. Here’s how it works. Step 1. Make a list of 25 things you want to achieve in life. Step 2. Get rid of 20 items on that list. Step 3 focus on the 5 things left on the list.
It’s almost poetic that the life advice given by one of the greatest investor of our time boils down to – fix over diversification in your life’s portfolio.