 Good day, fellow investors. Today we're going to discuss the recent Nobel Prize winner Richard Taller and his contribution to investing through his work in behavioral finance. Behavioral finance looks for irrationalities and says we are all humans, thus irrational. Therefore, all the economic theory cannot be applied to what's going on in the economy, what we do, what are our actions and especially in financial markets. We're going to go through Taller's concepts and I'm going to ask you seven questions that are supposed to make you think about how much are you influenced by behavioral finance as I think you're all human. Perhaps there is a computer watching but I don't know if I can communicate with him. So if you're human, if you're watching, look at the subjects, write down your answers, it would be great if you could write down your answers in the comments so that we can see how we think differently, how we approach things differently because after all, I think we are all humans and we are all different. Thus, we differently perceive whatever is going on in the financial markets. So Taller's work based on behavioral finance really dissolves the economic assumption that we are all rational, that we are all selfish and that whatever we do, we do with the goal of maximizing our future return. That has been shown wrong by behavioral finance because there are a lot of things that affect us that shift us from the rationality. Let's go through the concepts of behavioral finance and through the questions that I hope you'll find interesting to answer. All right, the first interesting concept is the endowment effect. We tend to attach more value to something we own than to something we don't own. So for investing that's related to, we tend to attach much more value to a stock that we own than to a stock that we don't own. Similarly, an out-of-the-pocket loss. So if you take $100 out of the ATM and you lose 20, that's a disaster. However, when you look it's just 20 bucks, what's that? A lunch. So losing 20 is very painful. However, an opportunity cost when you lost thousands of dollars is not even close to as painful as losing $20 out of your pocket. So what we own, what we have, we tend to protect it and value it extremely high. The question is, is there something that you own that you think is extremely valuable or you know it's not valuable but somewhere inside you think it's valuable and you are not maximizing your profit. The same repercussions can also be in the stock market where you hold to something that you know it's not that valuable but you think it's better to hold on because everybody else is doing so. Second Stuller's concept is mental accounting. We are wired to simplify things. We always try to find the simplest way to reach a solution and that's something that we have been learning how to do over the past two million years due to evolution. However, when you're investing, if you start simplifying, you are omitting the risks and looking just at what you want to see. For example, those who invest in the SAP 500 thinking that stocks could only go up are really simplifying everything. They are not looking beyond the last eight years. They are just looking at the last few years it goes up, it will go up. So that's a very important question to think about whether you are also doing that. Secondly, we all have budgets in life in our financial lives and do you have different portfolios for different things? That's also mental accounting. So you have a safe portfolio, a value portfolio, a low risk, a high risk, a highly speculative portfolio. So if you have such baskets, that's also part of mental accounting because if I lose the money in the speculative portfolio, it's okay. However, when things go wrong in the safe portfolio, high dividend or secure dividend portfolio, then you get to trouble and all those baskets get destroyed and people tend to make irrational decisions then. So also a question is, do you have portfolio baskets with different risk reward attachments to them? A rational investor would calculate exactly the risk and reward over his whole portfolio and find a diversified balance, not have diversified baskets of risk reward. The third principle in mental accounting is loss aversion. So we, as I said, don't like losses and a loss is the most painful thing in investing. So if you buy a stock, it goes down, you are tempted not to sell it because then you have to swallow the loss and that hurts. So usually people are inclined to selling the winners easy, taking the gain, but they have really problems in selling the losses. Usually what they do, they accumulate more and more of those losses and at the end you have a portfolio of just three losses that have accumulated in time, which is not that good. So the question is, are you a victim of mental accounting and do you hold on to the losers more than you hold on to the winners? That's very normal in human nature. I'm a victim of that. So I have to say that the second concept is hyperbolic discounting. We tend to prefer immediate gratification to long-term gratification, even if the benefit to our lives would be much larger if we wait for the longer gratification. For example, somebody is completely focused on dividends and is chasing the 2-3% dividend no matter what, just if I get the dividend, I'm happy, 2-3%. However, he's losing, he's not interested in investing in companies that will do 10-15% over the very long-term. A simple company that we discussed here was Shenier Energy, owned by Seth Klarman, where I have calculated a long-term return of 12-15% in the next 10 years. So Seth Klarman buys the value, he gets the return he wants, but people are hugely discounting Shenier when compared to the market. The market will lead to 4% returns, Shenier to 12-15% probably, I think the same risk. So Klarman is buying Shenier because he thinks in the long-term, the majority, 98% of people, are buying the average market index. Huge difference, hyperbolic discounting. Long-term, huge discounting, short-term, give me immediate gratification. So are you also victim of hyperbolic discounting? Do you prefer the short-term in comparison to the long-term? Continuing on Tyler's work, it focuses on two fields in the financial market, that is asset pricing and investor psychology, how psychology affects prices, and general mispricing and the law of one price. Rational markets, something should be always valued at the same price everywhere, however that's not usually the case. Starting with investor psychology and asset pricing, Tyler's theory and what he proved scientifically, he wouldn't get the Nobel Prize for nothing, is that investors tend to overreact especially to bad news and especially in the small cap world. And that's why he owns two investment funds where he uses these behavioral activities to find value and over and under reactions in the small cap world. Nevertheless, also in the large cap, you can always find overreactions. One overreaction that was illogical was the recent video I made on El Dorado Gold, where I calculated the sum of parts, then there was some bad news on one mine, which my value was maximum $1 for that mine per share, negative news lower the price for off $1 immediately. So they completely discounted everything that there was valuable in that mine. So that was very, very interesting to see how the markets I think overreacted in this case, we'll see who's right. So the fifth question is, how do you react to news? Do you overreact? Do you tend to immediately sell? Or do you really analyze the situation? Look if it's overreacting the market or underreacting. The second thing Taller research in financial markets is mispricing. So for example, closed end fund is usually discounted in relation to the assets it owns. Spinoffs are also valued much less than they were when they were in the huge company. And also liquidity is also heavily discounted. So those are irrationalities that are pretty common in financial markets and that we can take advantage of. The question is, do you prefer buying at a discount? Then what's the real intrinsic value? Or do you prefer chasing companies that are trendy, that are in a strong trend and that are well perceived by the market? When something is at a discount is usually not perceived well by the market. Let me just apply Taller's work on a current example. Amazon jumped 13% on the earnings release data and that's because Amazon really beat estimates. However, going back to Taller, analysts like every other human person likes to anchor their future projections to past projections. And Amazon is definitely not a company where you can expect future earnings per share to be linked to past earnings per share because the environment is that disruptive, that fastly changing, that that's impossible to do. And that's why Amazon is constantly beating estimates and we have a price like here shown on this chart. So it's very important to understand that anchoring past numbers lead us to skewed forecasts of the future. Very interesting and very tempting to learn more about it because the more you know, the more you can take advantage of what's going on in the market or not make behavioral mistakes. Another example of behavioral finance is anchoring to someone you like, somewhere that's very positive, very energetic, happy and gives you a good feeling. The same thing investors and many other retail investors did with Snapchat. Even Spiegel said about himself, I'm young, white, educated male. I got really, really lucky and life isn't fair. He's very charismatic. We cannot say nothing about that. And he managed to bring Snapchat public and everybody was so excited about the company and even really pushed up the IPO price. However, the CEO of Snapchat sold a lot of stocks. He got an 800 million bonus for bringing the company public and here we can see the result. I don't know if Snapchat will ever recover as Facebook did, but another forcing on the subject of anchoring, if a Victoria secret model that looks like this chooses even Spiegel, then also the company and the investment must be a great investment. Unfortunately for those who believe that back in the Snapchat IPO, that didn't turn out that well yet. Also many Snapchat investors anchor themselves now to what happened to Facebook in the past. We also had a decline with Facebook stocks and then a shoot up later. Will it happen? I don't know. Snapchat is a completely different company. To finish on the anchoring, Taylor is against setting a target price for purchase. So you're buying a stock and most of us set a target price. And as an analyst, I always have to set a target price. If I want to publish an article or report, I need to have a target price on that report. If not, it's not a good report. Nevertheless, if you set a target price, you're anchoring whatever happens in the future, all the information overreaction, underreaction to that target price. As you're anchoring yourself to the value, what the prices you paid. So you're really limiting yourself into two prices. We should really train to avoid having targets or avoid thinking about the price you paid, or avoid thinking about the price the stock was seven days ago. Should I buy now or not because the change is 1% higher. So the seventh question is, do you have price targets? And do you really look at the stock price before buying? Or are you looking at fundamentals, rational and irrational activity? These questions really give a lot of food for thought. I'm looking forward to your comments. I'm learning from your comments a lot. So please share them. Let's learn together in order to create a community of low risk, high reward, irrational, rational investor doesn't matter as long as we are very profitable. Thank you and I'll see you in the next video.