Chances Are This is What Your Financial Advisor Believes

Another day another introduction to the world of Finance. Overall it was pretty good, but one thing astounds me in my return to University life - the amount of notetaking.

Sure there's the studies that say if you take notes you retain more, but taking notes isn't listening, and the time to do it is not in a lecture. It's when you review at home. Because if you aren't listening and note taking you are going to lower your defences to the information presented to you and that is going to effect your learning.

In particular it effects your ability to think actively about the assumptions being made that your lesson is based upon. The fundamentals or foundations and they don't come much bigger or fundamental than this slide I saw today:



To my lecturers credit he was saying things like 'Capital, LAND and Labour' as factors of production instead of the official 'Capital and Labour' that lumps natural resources eronneously into 'Capital' like they are privately owned assets.

It's just that this is a finance subject not an economics subject and the above graph builds 'our' decision making framework under some choice assumptions. If you haven't blown up the slides the logic reads:

1. Individuals are utility maximisers
2. Utility is a function of consumption
3. Consumption is a function of wealth
4. Utility maximising individuals wish to maximise their wealth

Unfortunately the key word here is 'Utility' and it doesn't get defined in the slide, but the lecturer described it as 'happiness' or 'satisfaction'.

I numbered these assumptions, so I could clarify some. 1 - I don't have such a problem at this, except to say that people aren't typically good at discriminating between wants and needs, nor weighing up their short term gratification against their long term gratification. It has some applications like - people want Hamburgers, but it doesn't make them good for them, they may also want a long life enjoying a high quality of life, guess which want wins out?

2 - This is the big one that has pretty much fucked up everything. I'm not kidding. Furthermore and more pressingly it has now been repeatedly, clinically proven to be false. A guy did a great rundown of the 'truth and lie' of consumption in a film I thought was 'the corporation' but I can't find it in the Youtube release.
Basically the truth about consumption is that if you are cold, naked and starving in the rain you will be miserable. If somebody then gives you (or sells you) food, warm shelter and dry clothing, you will go quickly from very miserable to very happy.
The lie of consumption is that many have assumed that this would logically mean that if you give somebody twice as much food, shelter and clothing they will become twice as happy. But the fact is that satisfaction or wellbeing driven by consumption has one of the steepest 'learning curves' known to man.

Ricardo Semler calls this concept the 'Da Vinci Constraint' named after Da Vinci's rules of proportion if nothing about his lifestyle. But he calculated (somehow) that in 2007 the most a single individual could actually enjoy was about $12 million. Anything after that is simply beyond an individuals physical and emotional capacity to truly feel the effects of wealth. And it makes sense, think in simpler terms of being somebody really into privacy and quiet solitude.

You buy so much farmland that your property stretches from horizon to horizon on the flat plane of outback Australia or somewhere. Guess how much land you need to meet that criteria? 3 squared miles x 3pi. Apparantly the horizon in miles from a 6foot persons vantage point at sea level (because it's pretty much flat) is 3 miles. That's all. Once you buy more than 3 miles in everydirection from the center point of your house, you wont be able to percieve (at least with your eyes) the additional isolation.
Maybe a bullshit example, but at least it demonstrates in a one dimensional way, our constraint to enjoy something.

3 - makes a lot of sense, provided that your wealth reflects true-cost.
4 - then also makes sense, hence the danger.

The fuck up is in 2, more so than 1. Once 2 is screwed the rest can all make sense and seem rational - but isn't. The foundations or fundamentals are wrong.

Here's an insight into how I evaluate things with very little research (not to say it is right or wrong, its just how I evaluate stuff). I push it to its extreme to see if the rule contradicts itself. By rule 2, we are in effect saying that happiness has a positive relationship with consumption. As consumption increases so does happiness/satisfaction/wellbeing. So give somebody all the wealth (the extreme, using rule 3) this person can then purchase and consume all the worlds oxygen. They consume all the worlds oxygen they kill themselves and everyone else.
The rule contradicts itself, people want to maximise their consumption, but by doing so actually destroy their wellbeing. Either 2, or 3 is wrong.

Because Consumption is a function of wealth, I question the motive, 2. Happiness is not a function of consumption. Or at least it has limits, very definite limits.

Why does it persist? I have never, nor will ever subscribe to 'the man' hypothesis, or piece of crap 'zeitgeist's 'Man behind the curtain' hypothesis. I don't believe there is an evil agent in control. I think it persists because it's simple and helps (some) people avoid headaches. Can you imagine how complicated it would be to run a system that says 'maximise consumption till point x, then from there on practice sustainably' or even run an individual company by the rule 'maximise shareholder wealth at $12M per individual, then buy them out with cash reserves and offer shares to somebody else - repeat.' It would be an administrative nightmare.

But still, I don't actually object to assumption 1. It isn't bad, but the rule is in assumption 2. A firm should try to increase it's value, particularly to its owners. But 'value' I would define in the longest reaching terms possible, like 'lifetime value' which means you don't sell tomorrows sustainable profits for todays opportunistic profits.

I'll have to be careful, because thinking like this could inadvertantly cause me to fail.

By the way, if you think 'The Corporation' is obviously biased (I would recommend it because it actually in a manner places the blame on you - the passive shareholders and/or stakeholders, rather than evil CEO's) then take it from a man who (briefly) lived the capitalist dream: