Login | February 24, 2020

Behavioral economics

Ask the Fool

Published: February 13, 2020

Q: What's behavioral economics? -- B.W., Augusta, Georgia
A: It's an academic field that applies psychology and other social sciences to how people make financial (and other) decisions -- revealing that we don't always make logical moves. For example, if people are told that a $5 bottle of wine costs $45, they're likely to prefer it to one they're told costs $5. In another example, naming its coffee cup sizes "tall," "grande" and "venti" helps Starbucks charge more for them, as they're not as easily compared to other purveyors' small, medium and large sizes.
We're often irrational in investing, too. We might leave money in a losing stock, hoping it'll eventually recover, instead of accepting our losses and moving the remaining funds to a more promising stock. Economist Richard Thaler explains: "Losses have about twice the emotional impact of an equivalent gain. Fear of losses (and a tendency toward short-term thinking ...) can inhibit appropriate risk-taking." On the flip side, irrational exuberance has led us into many market bubbles with wildly overpriced stocks.
Learn more in books such as "Predictably Irrational: The Hidden Forces That Shape Our Decisions" by Dan Ariely (Harper Perennial, $17), "Why Smart People Make Big Money Mistakes and How to Correct Them: Lessons From the Life-Changing Science of Behavioral Economics" by Gary Belsky and Thomas Gilovich (Simon & Schuster, $17) and "The Little Book of Behavioral Investing: How Not To Be Your Own Worst Enemy" by James Montier (Wiley, $25).
Q: How can I find out when a company will release its next earnings report? -- D.L., Gallup, New Mexico
A: You can just call the company and ask. Or visit Finance.Yahoo.com, where you can type in its ticker symbol and see its next earnings date.
Fool's School
Are You Ready for Retirement?
If you're like most Americans, you're not ready for retirement and haven't been saving enough for it. Indeed, fully 40% of workers have saved less than $25,000, per the 2019 Retirement Confidence Survey, conducted by the Employee Benefit Research Institute. Fortunately, it's probably not too late to improve your financial condition. Here are some things you should know:
-- You could live a long time, so your money may need to last a long time. The Social Security Administration says, "About 1 out of every 3 65-year-olds today will live past age 90, and about 1 out of 7 will live past age 95."
-- Speaking of Social Security, don't count on it to fund much of your retirement. The average monthly retirement benefit was recently $1,503, or about $18,000 per year. It was only designed to provide about 40% of pre-retirement income; the majority of us, without generous pension income to look forward to, need to be saving for our futures.
-- Health care is likely to cost you a lot in retirement. One estimate from Fidelity is that, on average, even with Medicare, a 65-year-old couple retiring this year will spend $285,000 out-of-pocket, on average, on health care -- and that excludes long-term care costs. You may, of course, spend much less, or much more, than that. (Getting and staying healthy is one way to improve your odds of spending less on health care.)
-- You won't always get to choose when you retire. About 43% of current retirees say they had to retire earlier than they expected, primarily due to a job loss or health issues, according to the Employee Benefit Research Institute.
So what can you do about all this? Start saving aggressively -- you'll probably need to sock away 15% or more of your income. And invest long-term dollars effectively, such as in the stock market, via a low-fee S&P 500 index fund.
Get more retirement advice by trying our "Rule Your Retirement" service at Fool.com/services.
My Dumbest Investment
Blown Fuse
My dumbest investment was in shares of Fuse Science. It was 2011, and the company had recently signed an endorsement deal with Tiger Woods. Fuse made energy and electrolyte replenishment products that were delivered via drops -- hence its ticker symbol, DROP.
I was excited by the company, thinking it would revolutionize the sports energy and medicine market. I did no due diligence and invested too much of my net worth in the company -- I made all the classic mistakes. The company is now involved with drones, I believe. -- S.F., online
The Fool responds: Fuse Science shares have been worth much less than a penny apiece for a long time now, and its website is gone. Even back then, there were ample warning signs, such as widening losses: The company lost about $80,000 in its fiscal year 2010, followed by a loss of $2 million in 2011 and $11 million in 2012. Indeed, the company only took in about $105,000 in revenue in 2012 -- that's less than many people's salaries.
A big-name celebrity supporting a company can inspire confidence, which is what it's supposed to do -- but remember that the celebrity is typically getting paid in cash, not in shares.
It's best to avoid any company with shares trading for less than $5; instead, look for a proven record of substantial and growing sales and earnings, with little (or manageable) debt.
Foolish Trivia
Name That Company
I trace my roots back to 1997, when two guys decided to rent DVDs to people online. By 1999, I offered unlimited rentals by subscription. By 2002, I had 600,000 members, and I debuted on the stock market. (My shares then rose in value more than 300-fold to their high in 2018.) I launched streaming services in 2007, and began expanding globally a few years later. I'm now in more than 190 countries, serving more than 167 million members. I rake in about $20 billion annually and am the largest generator of internet traffic in many countries. Who am I?
Last Week's Trivia Answer
I trace my roots back to the 1876 opening of Thomas Edison's laboratory in New Jersey. I was incorporated a bit later, in 1892, and encompassed the assets of several companies. Over the years, I have been in businesses as diverse as aircraft engines, finance, medical equipment, power transmission, renewable energy, transportation, appliances, water treatment systems, plastics, media and entertainment. Based in Boston now, I recently sported a market value topping $60 billion, but that's down from more than $270 billion a few years ago. I was one of the original 12 companies on the Dow Jones Industrial Average. Who am I? (Answer: General Electric)
The Motley Fool Take
Growth and Value
Stocks are often categorized as either "growth" stocks or "value" stocks; growth stocks promise ballooning returns, and value stocks offer slower but steady growth at a relative bargain price. Cancer drug developer Exelixis (Nasdaq: EXEL) is both, making it particularly compelling.
Exelixis' most popular drug is Cabometyx, treating patients with liver cancer or advanced kidney cancer. The drug aims to stop the growth and division of cancer cells, which can prevent tumors from growing, potentially shrinking them.
The company's third-quarter results, released in October, show Exelixis' net product revenue was $191.8 million, a 17.7% year-over-year increase. Cabometyx product sales of $187.4 million made up 98% of net product revenue and 69% of the company's overall sales for the period. (The company also earns considerable collaboration revenue from deals with partners.)
Cabometyx might eventually generate further revenue from additional approvals, as it's undergoing clinical trials for other cancers, including bladder cancer and prostate cancer.
Exelixis recently sported a forward price-to-earnings (P/E) ratio of only 21 and a price-earnings-to-growth (PEG) ratio of 0.43 -- anything below 1 typically reflects a value stock.
The stock is not low-risk, but risk-tolerant long-term investors may want to take a closer look at it. (The Motley Fool has recommended Exelixis.)