Seven Tips for Avoiding the Intelligence Trap in Investing

Why aren’t all smart people rich? 

It’s an intriguing question. It makes sense to believe that superior cognitive skills would be transferrable. It makes sense that traits measured on a standardized IQ test would help anyone be a better truck driver, bank teller, or computer programmer.

If you’ve ever taken an IQ test, you can see why. Standard questions try to uncover how quickly you spot patterns or solve problems.

What’s the next number in this sequence? 2, 4, 8, 16, ___

1. 32
2. 35
3. 36
4. 39

Now smart people aren’t better than anyone else. But, quickly seeing patterns can lead to accurate medical diagnoses, strong business opportunities, and solutions for tough problems.

The ability to spot patterns, remember numbers, reason, and solve problems is an advantage. Generally (I repeat, generally, we all know exceptions), the smartest truck driver will be better than the dullest. The smartest bank teller will be tops in the bank. The smartest computer programmer, well, he or she may write the next Windows program or create the next Google.

Some jobs are known for attracting bright people. Again, generally, most would agree that doctors are smart and so are lawyers. We’d agree that university faculty members or engineers have good brains. Maybe the top minds in Silicon Valley or Wall Street fit this profile, too.

Logic suggests that those smart professions thrive in finance, too. Certainly, Wall Street bankers and Silicon Valley moguls are among the richest people in America. Doctors and lawyers tend to earn well. University professors and engineers earn above-average wages, too.

That isn’t the whole story, though. High annual income isn’t the same as being rich. Some professions tend to pay better than others, but that doesn’t assure financial success. Many people with lavish lifestyles never accumulate wealth … the trappings cost too much. At year-end, they have little with lasting value to show for all they spent.

What I have observed by watching bright people.

Being smart isn’t a big bonus for investing. If you are blessed with extra smarts, you probably rely on them for everything. You can find the fastest route to the office in the morning or estimate in your head how long the trip to grandma’s will take. You may organize things well or fix the office printer better than anyone else. Being smart carries over into many areas; thinking that investing is one of them could lead you astray.

Investing is counter-intuitive. That’s one reason many people fail. Sometimes, things that seem right turn out to be wrong (buying into a sizzling market or selling when things seem gloomiest). Other times, simple luck can be extremely profitable.

I call it the Intelligence Trap. Investing can be especially confounding for smart people. The patterns you see probably don’t really exist, and influential factors for the markets are too numerous to comprehend. The markets truly are a living organism (millions of emotional people) responding to brand new circumstances every single minute. They adapt to changes instantly.

There may be a few savants who can master the markets. There may be people or groups who devise winning ways to capture market inefficiencies for a while. There are certainly some people with very long streaks of very good luck. It’s a mistake to count on any of these.

Some tips to avoid the Intelligence Trap.

Being smart doesn’t have to be a handicap. Here are some suggestions to counter the magnetic pull of cognitive strength:

1. Avoid bad information – A lot of investment information is created as a sales tool. The story behind Snapchat or Facebook was written to pique your intellect and interest. The risks don’t get the same attention. Good decisions using bad information don’t work.
2. Don’t trust the wrong people – Where do you get information? Where do they get information? Are they truly helping you understand or selling some product?
3. Allow time to do it right – Smart people are very busy. If you are distracted, you are too busy to invest right. One mark of cognitive skills is speed. It won’t help you here.
4. Don’t trust assumptions based on your own experience – Most investors know just one set of circumstances (their own) and one period of history. It may be a decade or longer, but it is still just one longish episode. Lessons may not be universal or typical.
5. Read the fine print – Too many investment risks aren’t obvious until disaster happens. Without help, people are awful at understanding and mitigating risks. If some investment offers high returns, the risk is there even if you don’t sense it.
6. Favorite projects require caution – Everyone has hobbies and interests, and those might offer some advantage; if you are a computer geek, for instance, you may pick and follow technology stocks. How does that help with international stocks or government bonds? A well-rounded portfolio is crucial in controlling risk. Concentrating on favorites is not a complete strategy.
7. Ruthlessly evaluate results – What would you say to an advisor who bought the wrong thing? What would you say to an advisor who didn’t protect you from risks? What would you say to an advisor who missed a 30% upward market swing? Well, those same issues hurt even if you did them to yourself.

I’m a professional cynic. I bring a skeptical eye to everything I do, especially for my clients. But even professional investors must trust others. I have sources of information and people I trust because history tells me they are trustworthy. No one does successful investing completely on their own.

I’ll add another telling point. Many smart people choose vocations or professions with low financial rewards. Teachers and preachers both fit this model and I’ve seen first-hand examples of really smart people earning relatively low paychecks. I guess we’d say that money isn’t the main motivator in their lives.

For the record, that is a hallmark of many of the most successful people I know. Money isn’t the main motivator in their lives. Financial success is a by-product of careful, deliberate, choices.

Dan Danford, CFP® is Founder/CEO of Family Investment Center in St. Joseph, Missouri. He learned early ideas about money from his late father Thad Danford who charged rent on the family lawn mower while Dan cut neighborhood lawns. Danford is a practicing investment advisor and author of Happy to be Different: Personal and Money Success Through Better Thinking.