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Irrational Exuberance: (Second Edition)
Irrational Exuberance: (Second Edition)
by Robert J. Shiller
Edition: Hardcover
Price: 24.95

2 of 2 people found the following review helpful
5.0 out of 5 stars Two bubbles, one book, 7 Feb 2011
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The first edition predicted the bubble (April 2000). The second edition predicted the subprime-fueled property crash (Feb 2005). Need I say any more?

Only that this book is a must-buy for anyone with more than a passing interest in the markets. Shiller was not afraid to stick his neck out on the line by going against the common consensus, and twice he was vindicated in short order.

The important lesson is not that stocks or property can't be a good investment; it's that the investing public can be incredibly short-sighted in their collective decision making. People are always simultaneously rushing towards some new asset class as "the best investment there is". In reality there is no one single best investment; investing is full of complex trade-offs which render such a concept at best meaningless. At worst, this herd behaviour makes our capitalist system more unstable and less efficient.

As I write this gold is the current asset class de jour. Will this latest frenzy last long enough for Shiller to write a third edition?

The Investor's Manifesto: Preparing for Prosperity, Armageddon, and Everything in Between
The Investor's Manifesto: Preparing for Prosperity, Armageddon, and Everything in Between
by Jonathan Clements
Edition: Hardcover
Price: 13.67

3 of 3 people found the following review helpful
5.0 out of 5 stars Clear, concise, and complete guide to personal investing, 6 Feb 2011
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This is the third personal investing book written by William Bernstein. It is also his most down-to-earth and timely work, being written at the peak of the credit crunch -- when many individual investors were in a state of pure panic.

This book covers all the fundamentals: a brief history of financial markets, the importance of diversification, why costs matter, behavioural finance (the study of common errors), and the impact of valuations.

This last point needs elaboration. Theory and history both state that future expected (average) returns are related to how "expensive" the market is -- as the stock market increases future returns decrease and vice versa. This means that the point of maximum fear, when huge global firms are failing and everyone is panicking, is also the best time for a long-term investor to put money in the market.

Since this book was written at the peak of the crisis prices were very low, and Bernstein spends much time pointing out that the long-term rules still applied -- indicating this was as good a time as any to enter the market.

Much has changed in the short space of time since this book was written. Prices have rebounded incredibly sharply, and even though they have not yet reached pre-crisis levels, the situation is markedly different. Counter-intuitively, although these higher prices reassure many investors, they also mean that future returns will be likely lower and so more caution is required.

Explaining Social Behavior: More Nuts and Bolts for the Social Sciences
Explaining Social Behavior: More Nuts and Bolts for the Social Sciences
by Jon Elster
Edition: Paperback
Price: 17.99

3 of 3 people found the following review helpful
5.0 out of 5 stars Answers some fascinating questions, 6 Feb 2011
Elster opens his book by posing some questions which rational choice theory has had difficulty answering, such as:

Why do some gamblers bet on trends, and others on reversals?

Why do humiliating initiation rituals make group members more and not less loyal?

Why does switching prescription drugs from bottles to blister packs significantly reduce the incidence of suicide?

Why do stocks offer a much higher long-run return than bonds?

Why can a reputation for irrational behaviour improve your bargaining situation?

Rational choice theory -- which assumes that people objectively and unbiasedly pursue their goals -- has had little success in explaining these (and more) phenomena of the real world. Elster invokes a number of different fields, such as psychology, behavioural economics, neuroscience, biology, history, and political science in search of sensible answers.

Not only are Elster's answers intuitively appealing, but they also eschew the mind-bendingly complicated mathematics and implausible assumptions of rational choice. However, he doesn't entirely denigrate rational choice: we do, after all, want to act more-or-less rationally in life, and Elster provides a number of mechanisms by which we can attain greater rationality in our decision making.

Priceless: The Hidden Psychology of Value
Priceless: The Hidden Psychology of Value
by William Poundstone
Edition: Paperback
Price: 11.13

25 of 26 people found the following review helpful
5.0 out of 5 stars Priceless!, 5 Feb 2011
This is the latest in a long line of excellent popular science books by William Poundstone. Its topic is "behavioural decision theory", the study of how individuals make systematically irrational decisions in choice situations, risky gambles (where the probabilities are known), and uncertain gambles (where probabilities are unknown).

A lot of this field has focused on the latter two segments: decision making under risk and uncertainty. This was in some ways due to a methodological quirk, as these two scenarios were much easier to test with experiments, questionnaires, and real-life data.

Poundstone covers both these areas, but he also looks at how some companies are beginning to exploit consumers' common irrationalities. For instance, a fundamental axiom of rational choice theory is the "independence of irrelevant alternatives". Say you are choosing between good A and good B. Adding a third good to the choice menu -- good C -- shouldn't affect your original choice between good A and good B. Say you initially chose good A from the set {A,B}; then, the independence of irrelevant alternatives states that you shouldn't then choose good B from the set {A,B,C} (although you could choose C).

This axiom frequently gets violated in the real world, and clever marketers are wising up to this. Say you are choosing from two vacuum cleaners: a very cheap cleaner (A), and a more expensive model (B). In this case many people would choose A. However, the company can alter your choice by adding a third vacuum cleaner: an incredibly expensive state of the art model costing thousands of pounds (C). Even if you will never buy this new vacuum cleaner (it is an irrelevant alternative), it can still alter your choice: by comparison it will make model B seem much less expensive than before, and will make A seem like a shoddy bargain basement model. The mere presence of C has shifted consumers into spending much more money on vacuum cleaners than they did before, even if nobody buys C.

This book is a lot of fun and well worth the read.

Fooling Some of the People All of the Time: A Long Short (and Now Complete) Story, Updated with New Epilogue
Fooling Some of the People All of the Time: A Long Short (and Now Complete) Story, Updated with New Epilogue
by Joel Greenblatt
Edition: Paperback
Price: 8.39

4 of 4 people found the following review helpful
5.0 out of 5 stars A much-maligned short seller has his say, 4 Feb 2011
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Short sellers have been getting a lot of bad press recently.

David Einhorn runs a long-short hedge fund: this means that as well as betting on individual stocks to go up, he also bets on some stocks to go down. This benefits him as an individual investor -- as it leads to twice as many investable opportunities -- but it also benefits society as it helps prevent individual investors from losing money in overvalued or fraudulent companies.

The book starts off with the story of the early days of Einhorn's hedge fund and the details about his investment process are very interesting. The rest of the book details his very public, bitter, and above all long, fight against one company which materially misstated its accounting results: Allied Capital.

Above all, the book showcases the extensive barriers to short selling in the market. At every turn Einhorn had to battle against a management that was intent on obfuscating the truth; bending and breaking laws with the intention of privately benefiting to the cost of their duped shareholders.

Ultimately, these barriers to short selling and a general lack of transparency lead to a less efficient market as they allow some unscrupulous managers to game the market into overvaluing their companies. If something isn't done then we will keep on having high profile corporate failures such as Enron, Worldcom, and Lehman Brothers (the last of which Einhorn also shorted -- this is briefly mentioned late on).

Make sure you grab the paperback version as this book has been recently updated. Einhorn is ultimately vindicated; Allied lost most of its market value in the credit crunch and has been recently bought out at a very low price.

Paul A. Samuelson: On Being an Economist (Working Biographies)
Paul A. Samuelson: On Being an Economist (Working Biographies)
by Michael Szenberg
Edition: Paperback
Price: 11.77

1 of 2 people found the following review helpful
5.0 out of 5 stars Insight into the mind of a great economist, 2 Feb 2011
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This book provides a window into the world of Paul Samuelson -- without a doubt one of the 20th century's finest economists -- full of vivid recollections from many colleagues who knew him best.

This short book was a joy to read. Here are some of my favourite bits:

The depiction of the young, precocious Samuelson at Chicago and Harvard.

The intellectual jousting between Samuelson and another economic great: Milton Friedman. Particularly Samuelson's colourful disagreement with Friedman's assertion that a theory should be based on the value of its predictions instead of the plausibility of its assumptions. (There's no way I can do the great man justice by summarising his points: buy the book and find out!)

Samuelson's overriding intellectual modesty: "Be wrong, but don't stay wrong."

I suppose the only failing with a book such as this, is that there is simply no way of including everything. Samuelson's wit was notorious, and was at its most evident in a three page monosyllabic paper he wrote called "Why we should not make mean log of wealth big though years to act are long". Samuelson ends the paper with the following memorable paragraph:

"No Need to say more. I've made my point. And, save for the last word, have done so in prose of but one syllable."

Paul Samuelson's intellectual modesty serves as an example to all of us. For instance, Samuelson helped erect much of the structure of modern finance theory: the idea that stocks are "correctly priced" and should therefore fluctuate randomly through time. However, he didn't maintain an unflinching devotion to such ideas. In 1970 he invested some money in the young Warren Buffett's Berkshire Hathaway, who would go on to become the world's greatest investor, and whose track record is often cited as evidence against the academic theory of finance. In this regard, Samuelson was always aware of the possibility of being wrong. This is something which cannot be said for the partners of Long-Term Capital Management (two of whom, like Samuelson, also had Nobel prizes), who staked billions on their academic models being correct representations of reality -- and lost it all in 1998.

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