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Pop Quiz, Hotshot!

You have a bat and a ball.  Together they cost $1.10.  The bat costs $1 more than the ball.  What does the ball cost?

If it takes five machines five minutes to make five widgets, how long does it take 100 machines to make 100 widgets?

In a lake there is a patch of lily pads.  Every day the patch doubles in size.  It takes 48 days to cover the entire lake.  How long does it take for the patch to cover half the lake?

Were your answers $.10, 100 minutes and 24 days?  Congrats!  You just used your fast brain…and were completely wrong.  This is a cognitive reflection test and helps to illustrate what part of your brain you are using and whether you are reflecting on your answer.  So, now that you have had time to think about it, is this your final answer?

I was listening to a book recently via my Overdrive account (if you don’t have one get one from your local library) talking about the two parts of our brain.  The two parts are our automatic brain and our reflective brain.  The automatic brain is exactly what it sounds like.  This is the part of our brain we rely on in an instant to make a decision.  It is what kept us safe years ago when we had to determine in an instant if something was a threat.  This part of our brain is also trainable so it can provide the correct decisions very quickly.  Doctors and nurses are perfect examples of this.  They have trained their brains over the years through education and experience to know what to do instantly in a medical emergency.

The other side of our brain is the reflective side.  This is our “slow” side and where we turn to think through things.  Economists often work with their reflective side to think through questions.  In the case of the questions above you may have taken the time to turn to the slow side of your brain to be more reflective and hopefully your answers after tapping this side of your brain weren’t listed above.

When it comes to investing much of the information shared is aimed directly at our automatic brains.  Messages are constantly being shot across our bows telling us the next hot stock pick, what to do with oil or gold, why the market is going to move up and/or down, how this guy on YouTube became a multi-millionaire through no effort, and on and on and on.  These messages all aim directly at the part of our brain which is highly emotional.  The fortunate thing is we have learned over the years how to respond to all this propaganda.  The tough part is it involves stepping away from the emotion.

The best way to deal with this constant stream of marketing is to turn to our reflective brain.  The slower side of our brain helps us process all this information we were just exposed to.  Unfortunately, the solution is usually very boring.  It involves developing an investment strategy based on our individual goals.  Once the plan is developed it is then up to us to stick with it.  Sticking with the plan during periods like the Great Recession really tests which side of the brain will win, the automatic or reflective.  The empirical evidence shows us the market always goes up over the long term.  However, our emotions tell us the pain of watching the market go down and down may be too much to bear.  Remember my article from a few months back with the Worst Timing Ever and Bad Luck Brian?  I cannot imagine anyone who was a worse investor from a timing perspective and by following his plan he was able to retire and achieve his goal.

I am not recommending to develop a plan and then ignore it forever, although the evidence shows this approach has pretty successful results.  Plans need to be reviewed on a regular basis.  You may have had a goal to put kids through college.  Once this is done you can check this goal off your list.  The more important thing is to stand firm with your goal.  To use a boxing analogy, most opponents of Mike Tyson failed because once they realized how powerful his punch was their plan fell apart.  Buster Douglas was able to prevail because he followed his plan and did what most people thought wasn’t possible.

Now, don’t feel too bad if you did not correctly answer the questions the first time through.  I posed a couple of them to my wife, who teaches nursing, and my friend, who is a cardiologist.  My wife refused to acknowledge her answers weren’t right and when I told my friend his answers were wrong he just looked at me as though I was going to say “Just kidding.”  In the meantime, feel free to rely on your slow brain in those times where you really need to be reflective.  By the way, the correct answers are $.05, 5 Minutes and 47 days.

About Dan Johnson, CFP

I am the President and CCO of Forward Thinking Wealth Management, LLC, which is the flat-fee financial planning firm located in Akron, OH, and set up to work virtually with clients across the country. I charge clients a flat fee of $4,800 regardless of asset size. My firm is a solution to what I feel is a broken system where clients pay advisors based on something out of their control - the performance of the market.
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