“I Know You’re Right. I’m Doing It Anyway.” Why Even Smart Investors Make Dumb Decisions

An eye surgeon with three Auckland rentals sat down with a financial adviser. The numbers said growth; he wanted yield anyway. “I know you’re right. But I still want a yield property.” In this episode, Ed and Andrew walk through the mental traps that catch even the smartest investors. You’ll learn: Why do even SMART property investors make dumb decisions 3 biases investors always fall into How to break the habit and break the biasThe takeaway? Every one of these is easier to spot in someone else’s portfolio than in your own. Let us know your thoughts by leaving us a voice message on the Property Academy Hotline⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠ https://www.speakpipe.com/PropertyAcademy For more from Opes Partners: ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠ https://www.opespartners.co.nz/newsletter-sign-up⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠Stay ahead of the NZ property market⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠ https://www.opespartners.co.nz/private-property-sign-up?utm_source=podcast&utm_medium=promo&utm_campaign=pp_signup ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠Instagram⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠ https://www.instagram.com/opes_partners/ ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠TikTok⁠⁠⁠⁠⁠⁠⁠⁠⁠ https://www.tiktok.com/@opespartners

• 0:08Speaker 00

  Hello and welcome along to the Property Academy Podcast by Opes Partners. I'm your host, Stephen Knight.

• 0:12Speaker 01

  And I'm Andrew Nicoll.

• 0:13Speaker 00

  And this is the show that helps Kiwis go from zero to five investment properties. So you could be financially free and stick around for the next 15 minutes because you're going to learn why even smart property investors make dumb decisions, three biases that investors always fall into, and how to break the habit and break the bias. Now, I was told to one of my financial advisors recently and they were sitting down with a surgeon in Auckland, so somebody who's got more brain cells and a higher IQ than Andrew and I put together, times five times, right? And this guy's done really well for himself. He's got three investment properties all up, so he's doing really well.

• 0:53Speaker 00

  But because interest rates have been high and the rental market's been a bit slow, if you've got a lot of debt against a rental property, then you might be topping it up, right? Topping up the mortgage, which is quite normal right now if the rent doesn't cover all of the costs. Now, because of the ring fencing rules that came in back in 2019, it was, those losses accumulate within a company. And when you go and talk to an accountant, there is a bit of an incentive to let those losses accumulate because one day they're going to help save on your tax because once you start making a bit of a profit, you don't start paying tax until all of those losses are cleared.

• 1:31Speaker 01

  And it used to be that if you had a personal income that you're paying tax on through your just normal PAYE system, you were able to reduce your PAYE tax. So you're going to big a pay packet. It was like you've got a pay rise and you could put that money towards the rental property. But because of ring fencing, you can't do that anymore. You've got to pay it yourself.

• 1:49Speaker 00

  Now, when his accountant showed him how many losses he had accumulated, it was starting to get into the six figures because if you've got three properties, and even if you're not topping them up by much, if you hold them by five years, it can start to get into the six figures. And then when his accountant showed him this, even though your incentive is to make that number potentially as big as possible through things like depreciation of channels, he was saying, it's quite demoralising. Now, I know you've actually had some investors who have said similar things.

• 2:19Speaker 01

  Yeah, actually, I think the depreciation part, some of those non-cash expenses, you can put legitimate expenses on your profit and loss of your rental properties, like depreciation. So you're not paying it out, but you get to claim a big, big amount of money usually off the income statement, similar things like home office, or maybe if you've got to do some travel or things like that. And again, it's got to be related to the investment property, but you're paying your power bill and your rates bill and your personal house already. So a portion of that might be able to reduce your amount of taxable income. So that can bolster up the amount of the claim. The interesting thing that happens is if someone's got multiple rental properties, multiple

• 2:59Speaker 01

  depreciation claims, that number is more than what they're actually paying out. But we tend to forget that when we look at the accumulated losses and you think, holy hell, I've paid out a couple of hundred grand and I haven't had any growth yet.

• 3:12Speaker 00

  But in actual fact, you haven't necessarily paid out a hundred grand. Some of this are what we call non-cash expenses where you haven't actually paid anything more, but we count it for tax purposes, which is a very good thing to do. So what's he to do in this situation? Now, keep in mind that this guy is pretty young, right? And so he knows that he's building for his future. But he said to his advisor, look, I really want a yield property because if I can buy a yield property that's making a little bit of money, that can start to get some of the benefit of those tax losses. So they sat down and said, okay, where you are in your stage of life, you could buy a growth property where the cash flow is not going to be as good, but it will likely increase in value faster in the future.

• 3:54Speaker 00

  Or we could buy a yield property that's got better cash flow now, but probably won't increase as fast. So they go away, they run the numbers, and they kind of came to this decision about, well, mathematically, the optimal decision for you would be to go for another growth property.

• 4:10Speaker 01

  So he's still trying to close his wealth gap, is that right?

• 4:12Speaker 00

  Well, what he's trying to do is build wealth for the future, right? And he says to his advisor, hey, look, I know that that is the optimal decision, but I still really can't get over, can't get my head around these accumulated losses. I think I'm going to go for a yield property anyway. Now, obviously, that's an investor's own decision, right? But it just got my mind start thinking that, oh, there are times where even smart investors might make suboptimal decisions. And I know that there is a study that explains why being clever doesn't always save you.

• 4:48Speaker 01

  Yeah, so researchers out of MIT looked at a thing called loss aversion. And this was across a bunch of commercial property investors. And so these people are professionals and big companies, and they do this for a living. Like, these guys know what they're doing. And what was interesting is they found that loss aversion, which is where people prefer to avoid loss compared to the same size gain. And it's even more likely the more sophisticated an investor is. So the smarter you are, the better you are at it, the more likely you are to fall into this trap.

• 5:18Speaker 00

  And when we talk about loss aversion, that's if you were at a fair game, and then we'll apply it to commercial property, if you were at a fair, and if there was like a flip of the coin where you either lose $5 or you make $5, most people would prefer just not to play the game, right? Because they don't want to lose their five bucks rather than get the same $5 gain. And in fact, the premium from, because I remember we've done a few podcasts on this, is about 10%, right? But that's interesting that the more sophisticated an investor you are, the more likely you are to play into some of those biases. And as I was thinking this, it got me thinking about a book that I read when I was probably

• 5:58Speaker 00

  17 years old, which was a wonderful book called Why People Believe Weird Things. And it was this book all about how you can convince yourself of different weird and wacky things. And some of these things were like quite dark and serious that people believed in. Like, there was, there was a chapter about, you know, why is it that some people have convinced themselves that the Holocaust wasn't real or has been overplayed? So, so Doug, it's some quite serious matters as well. But then my favourite chapter of the book was why even smart people believe weird things. And what it really came down to is that if you're really an intelligent person, you can convince yourself of weird and wacky things because you could go looking for the evidence for it.

• 6:42Speaker 01

  Oh yeah, I've worked with someone like that.

• 6:45Speaker 00

  Now, I want to be really careful because I'm not saying that the surgeon that I talked about at the start is a dumb-dumb, you know, because you're clearly not, right?

• 6:52Speaker 01

  I'm not saying you're smart, it's a compliment.

• 6:54Speaker 00

  And investors can make whatever decision they want to make, right? But I want to talk about some of the biases that even smart investors can start to fall for. I mean, what's the first on your list, Andrew?

• 7:04Speaker 01

  So I think the first one that I see all the time is treating your equity as if it's free money. So let's say your house goes up $200,000. Now, you've got, let's say, make it really easy, that's just 200,000 that you can use as usable equity, you can take it out, something you can invest with, you can play with that. Now, it feels very different putting that money at risk or putting that money into an investment than it does putting $200,000 that you've diligently been saving over the last 10 years, right? Like, you think about how hard it is to part with the money that you've saved in your savings account and you've diligently put there every week versus taking some money out of your usable equity and putting that into whatever you choose to invest in. And the name for this bias is the house money effect.

• 7:49Speaker 01

  And it comes from gambling. So if you think about, go to the casino, you know, I've been to the casino a couple of times, right? Once you're up, once you've been playing the roulette wheel for a bit and you, and you've got some extra money there, I know I for one will bet that money far more freely than my initial stake. And often what I'll do is I'll carve out my initial stake, I'll go, well, that's my money and the rest of it's the casino's money. So free time, free entertainment.

• 8:15Speaker 00

  But the funny thing is, it's all the same money, right? Like, it's all the same. It's not the casino's money and, and your money, it's all your money once you've won it.

• 8:24Speaker 01

  Well, yeah, actually, that's not how it works for me. I tend to, I tend to lose the casino's money again and then think, oh, well, I'm going to win that back again. And then I'll even think, I should have just taken the casino's money as well.

• 8:36Speaker 00

  Well, do you know, I remember going to, because I'm not a massive fan of the casino, and I'll tell you the reason why. Because when I went in there on my ex-girlfriend's 20th birthday, because you've got to be 20 to enter a casino, because that's legally in New Zealand when you become an adult. And so we go in there and we sit down at a pokie machine and say, come on, we'll, we'll do $20, we'll go $20. Anyway, within about five minutes, we lost it all. I thought, this is dumb, this isn't fun, I just lost my money.

• 9:05Speaker 01

  You're far too tight.

• 9:07Speaker 00

  And I know mathematically, over the long term, I'm going to lose anyway. I mean, this isn't any fun, is it? It's just maths.

• 9:17Speaker 01

  I can just imagine you storming out of there.

• 9:19Speaker 00

  So I mean, I mean, do you see that house money effect come up when you're working with investors?

• 9:24Speaker 01

  Absolutely. In fact, I was just thinking last night about some investors that I'm working with right now. And these people are really intelligent as well. And they've been investigating every possible way they could invest through property. So they've gone on to every type of seminar, every type of webinar. They've done a couple of courses. They haven't invested yet. And then I've put together a plan for them and they were comparing it to a renovation project. Now, the renovation project, they obviously have to have a higher deposit because it's an existing property. And they're going to have to put in the renovation money as well. So they're putting in basically twice the amount of money as they'd have to with a build and hold strategy. And they want to be able to repeat the process now. Even though they know that is the case and their brokers told them it's the case.

• 10:09Speaker 01

  They kind of think, well, yeah, but it's, it's not money we're using anyway. So what's the difference?

• 10:14Speaker 00

  Oh, and your idea is because they might've got that money from the house going up in value. You didn't have to work for it. You're a little bit less tight with the money you're borrowing against your own house. I'll give you another example because sometimes we see investors make money relatively quickly. And then want to take it out. I have a friend who started investing in shares, right? So he put some money in and he made 10 grand really, really quickly, right? He must've put in about 50 grand. It went up and you had a quick spike and he sold out. And he went and bought a jet ski for $10,000. And I was just sitting there thinking, you know, you might want a jet ski. But would you have diligently saved 200 bucks a week for a year in order to purchase it?

• 11:00Speaker 00

  Or are you just doing it because you had this quick win? Now, obviously people can do whatever they want with their money, right? I try not to be too judgmental because I've made plenty of dumb decisions in my life. But I just thought, oh, that's a really good example of the house money effect again. Where because he didn't have to work from it, it was kind of quite easy to make. Then it feels free, even though you could have kept that money in there. And you know, for the future and perhaps bought something else that you might have valued.

• 11:27Speaker 01

  It's actually really funny doing annual reviews with clients who, who at the moment have had the market go the opposite way than anyone wants, right? So I can understand, I can more relate when I talk to people and they're like, oh God, you know, should I sell this property? And just, you know, start afresh. And of course, generally speaking, my answer would be absolutely not. You're a couple of years into a 20 year plan, you've got no need to. However, when you get those wins in property, like I think back to some of the previous annual reviews I've had where, you know, the market might've shot up 100 grand. People do the same thing. Oh, what if I sell that property now and I take my 100 grand and I pay it off my mortgage? I'm like, that was never the plan either.

• 12:02Speaker 00

  Well, the second big bias is believing that your property is special. And there's a really famous experiment that shows this, right? So three researchers gave different people a coffee mug, right? And they didn't tell them what the coffee mug was worth, right? And they just said to people, what's the lowest price that you would sell it for? And then they went and they talked to all of the people they didn't give the coffee mug to. And they said, what would you be prepared to pay for that coffee mug? Now, keep in mind that it's all the same mug, right? But the interesting thing is the people who already had it valued that mug.

• 12:43Speaker 00

  They wanted a higher price than what the people who didn't have it were willing to pay. And the idea is if you already have something, if you already own something. There is what's called an endowment effect, right? Where you can value what you own more than the market does because you own it, you see it, you think it's special. You bought it because you liked it. And I think this really does apply to property because it comes up when people say things like, my rental property is different, my street is better. And then you go and you get a valuer around to look at your property. And they give you a lower price than you wanted for it. And this is also why sometimes people tune down their offers when they're selling a property.

• 13:27Speaker 00

  Because that number might feel insulting, but that's just where the market happens to be. And that's another bias we've just got to watch out for, which is the endowment effect. But you've got one more.

• 13:37Speaker 01

  Yeah. Number three, which is when you hold on to the underperformer. So let's say you bought a property eight years ago, hasn't performed. And you've put some money into it. You, you might've, you know, been making regular top ups. You might've renovated, put in a new kitchen, sort of the drainage. You had a frustrating situation with a tenant once. You went to the tenancy tribunal. There's just a whole lot of stuff that you have invested in it, be it mentally or financially. So if you sold it today, what was for all for nothing was a waste. And that's the feeling that people often have. And even though you could sell that property and you might've modeled it out that you could buy something better and just accept that actually that one didn't work out, people tend not to do it, even though that might be the optimal decision.

• 14:20Speaker 01

  And the reason for that is what psychologists call the sunk cost fallacy. And this came from a 1985 study, which showed that you will choose to continue along a path that might not be the path you want to be going down because of what you've already put in. Because of the pain and suffering or the financial investment that you've made to get you to where you are today. It's harder to accept that actually that was just a mistake and I need to change path. And look, often I'll talk to investors and my advice will be, no, you know, if you're taking a short term view, often you might have a bit of pain in the short term and it might be worth the long term. But I also see situations like this where people might have a dud investment, maybe in a small town or something like that.

• 15:05Speaker 01

  It's never going to do what they think it's going to do, but they continue down that path because of that investment.

• 15:10Speaker 00

  And look, I'll give you a bonus one, which is when people decide first and then start doing their research. And this is what we call confirmation bias, right? So this might be that you live in a small town and I'm going to pick on one, Motuaka. Let's say you, you live in Motuaka and you, because I've never ragged on them before, right? We're going to give Twizl a break today. And you're sitting there thinking, I live in Motuaka, I absolutely love it. And I think that I should buy an investment here. So then you go to Wikipedia and you look up Motuaka and you find all of the good things about it. And you ignore all of the bad things about it. Or as you're doing your research, you're, you're going through and you're reading.

• 15:52Speaker 00

  And you pay close attention to all of the good news articles or all of the good data points. And ignore all of the bad data points as well.

• 15:59Speaker 01

  Well, nowadays as well with AI, you might type in, why would someone buy an investment here? And then it'll tell you the reasons why you buy an investment there. But that's not what you want to know if you're taking a balanced approach to your research.

• 16:10Speaker 00

  Or the other thing you could do, if you're talking to AI, is if, if you ask for the pros and cons. And then when you see the cons, you start arguing against AI. And then it says, oh yes, you're right about that because it often agrees with whatever you say. And if I think about how you start dealing with some of these biases. One of the big ones, especially when it comes to the sunk cost fallacy. And I was talking to a journalist just on Friday about this, where they were telling me about a property that's a Wellington couple had purchased as their first home. It's gone down in value. They've since moved to Auckland and they're kind of wondering, should they sell it or should they keep it? Now, bear in mind that if they sell that property, then they're not going to be able to rebuy straight away because they will have lost their deposit.

• 16:52Speaker 00

  But one of the things I was saying to Jill from Stuff is you've got to use the rebuy test. Would I buy this property again today at today's price, knowing what I know now? Because that starts to strip out everything that you've already spent, which is kind of the point going forward. So if you look at your property and even if it's gone down in value and you think, yeah, but actually if I look at the price, it's a bit lower now, but maybe it still would be a good deal at that price. Maybe I'd still purchase it. That starts to take out all of the costs that you've already sunk. And helps you start to think about going forward. The other thing that I'd probably do is start arguing the other side first.

• 17:32Speaker 00

  So before you start committing to that property in Motuaka, it's a good idea to write down, what would have to be true for this to be a bad idea? And I like framing it in that way, rather than just saying, what are the pros and cons? Saying what would have to be true for it to be a bad idea? That can just get your mind ticking away to imagine or better imagine what that worst case scenario looks like. And the other thing that I'd just say is, look, that's why you talk to a financial advisor, right? So Russell Investments did a study where they looked at it and tried to quantify, what is the value of working with a financial advisor? And they put it down to about four and a half to 5% of your investments per year, right?

• 18:14Speaker 00

  Which is pretty big numbers. So if you've got a $100,000 investment portfolio, the value of a financial advisor is four and a half to five grand per year. Now, if you're investing in property and those numbers were still to hold, it'd be a hell of a lot of money. And what they found in the study is the majority of that benefit comes from financial coaching. In other words, convincing you not to do dumb things and challenging you on some of these biases. But what I want to know is which of these have you done? What are some of the dumb decisions you've made? I want you to leave us a voice message anonymously is fine. On the Property Academy Podcast hotline, I'll drop a link down into the description. And you can click in there and leave us a voice message and we can talk about them on the show.

• 18:59Speaker 00

  Because over the last 15 minutes, you've learned why even smart property investors make dumb decisions. Three biases investors always fall into and how to break the habit and break the bias. Right, let's wrap it up there, but please don't forget to rate, review and subscribe to the podcast. It really does help us get the message out to more people.

• 19:23Speaker 00

  Thanks for listening to the Property Academy Podcast. I'm your host, Steve Atknight. We're going to be back again tomorrow with even more daily strategies, tactics and insights to help you get the most out of the New Zealand property market. Until next time.