Hello, and welcome to The Download. I'm your host, Dave Richardson, and we have got a Canada Day treat for you. Michael Sherman. Michael, how could we not have had you on the podcast at this point? I'm ashamed.

Dave, I am very excited to be here, and I'm really looking forward to this conversation.

So Michael, before we get into the conversation, what is your background? What do you do? Let's introduce you because we hope we're going to have you on regularly from here on out. And why don't you talk about what you do in your current job and then maybe even expand it out to what you do in general. What is your area of expertise? And I'll tell you how biased I am, my daughter is studying to become you. Educationally, of course, not in a physical sense or anything. But that's the direction that she's going. Your field is incredibly interesting. So why don't you take us through that?

Well, first of all, I'm going to have to speak to your daughter about an internship, but we'll leave that aside for now. I am RBC's behavioral economist, and I've been working with RBC for over a decade. What we focus on is the human side of banking and investing. We try and help people understand the psychology of investing and how people look at money. We give advice to help people's client experience and overall enjoyment with their money to be as positive as possible.

Wow. Amazing. Then behavioral economics, as a more general term, just to introduce that field of expertise, a field of study to our listeners?

Well, before I dive into that, I have a story in the back of my mind, which I think is a good introduction to behavioral economics. And since it's Canada Day, maybe I can talk about one of the things that is uniquely Canadian, at least something that we're great at: skiing. Can we go into a story about skiing?

We love stories on this podcast. This is a storytelling podcast. It's the only value, actually, that I ever add on the podcast, Michael. So you can take over for that, and then I can just retire.

Well, I would challenge you on the fact that that's the only value you offer, but we're going to pass on that and go to the ski hill. You see, I remember when I was younger, I was not a great skier. I was okay, but I went to visit a cousin of mine who had a cabin out in Mammoth, California, one of the greatest ski hills in the US. I thought I was a pretty good skier because I went to Blue Mountain in Ontario. She brought me to the hills one day, and we just started skiing down. Then we hit a ski hill that I'd never seen before. It was called the Cornice Bowl. I got to the point where we were at this black diamond. It was nothing like I'd ever seen before. It was essentially a 50-story very vertical drop covered in ice. And you didn't see it coming. I positioned myself at the top of this cliff and looked down and experienced emotions that I never knew that I had. I was terrified. My heart went into my mouth. My legs started shaking. I couldn't move. And that experience led to my mission. And my mission—why I do what I do—is to try and help our clients, to try and help people as far as I can, never get in the situation when they're investing and they're standing at the precipice, looking down into the abyss, terrified, not knowing what to do, not knowing where to move.

Yeah, and it's easy to see—and we're going to talk about this, I'm not going to steal any of your thunder—except to say that we all know that money can be an emotional subject. It can drive stress. It can drive pressure. It can drive all kinds of things in terms of our emotions and our behavior. So this field of study is so important—and we're going to get to this, I'm sure—but if we can figure out some ways that we can overcome some of these emotions to make better decisions, then that's going to help us so much in terms of our success.

I couldn't agree more. And one of the points of my story is that I had no idea that I had these emotions. So if anybody is investing and they're taking their nest egg and thinking, well, I can be calm, cool, collective in the face of turmoil, and then they find out not, that to me is a big shame. There's a famous story by Jason Zwijk, who I'm sure you know, a Wall Street Journal author. And he said that there's a big difference asking somebody, are you afraid of snakes? And then throwing a snake in their lap and then asking them. What I try to do is to help people not only understand their emotions in the calm, cool planning side of investing, but I help them understand how they'll feel when turmoil starts.

Yeah, and like you say, a lot of times we don't even know those emotions are there until we actually experience them. My daughter is actually doing neuroscience to understand what's actually going on in the chemistry, the electronics of your brain that drives those behaviors, which is the next part of it. And then I guess you can go back to anthropology as well. I don't know if you've been working on this connection, in terms of when we were back as cave people and how the chemistry of our brain was set back then from our experiences there. So this is stuff that's sometimes just deeply embedded into who we are as human beings, right?

Well, if you want to get into the chemistry or the evolutionary psychology, I'm all into it. And I actually spend a lot of my time helping individuals at RBC understand the brain science. So when it comes to building trust, I give a talk on the impact of oxytocin, which is, in effect, the trust hormone. We spend a lot of time talking about how people's brains actually work. And there's a lot of themes that we try and convey. Now, there are a lot of really smart people at RBC, and they are complex thinkers, but sometimes they make things too complex. And I'm sure that you're aware of this, but one of the themes at RBC is we want to make sure that any advice we give, any communications are simple enough so that people can understand it. And this is something that follows through everything that we do. And I love it because under the Bank Act, we are supposed to be clear, simple, and not misleading. And I could tell you at RBC, that's something that we really do. But I'll let you direct me. If you want to go into brain science, we can talk about that until the cows come home.

Well, again, we're going to keep it to some time. And since you've already agreed to come on again, we definitely are going to dig deeper in this because I think this is just a fascinating topic. And I think our listeners are going to find this fascinating as well. By the way, Michael, just before we go any further, you're available, you've got some places where people can find your work outside of RBC in the general public?

Well, yeah, over time, I've written in the Globe and Mail before, and I've been asked to do some podcasts for our wealth and Royal Trust. But I also have a lot of internal outlets and podcasts where I share insights into behavioral science with the people who work at RBC so that they can understand how people think, feel, how they absorb information, and help them from a human point of view as well.

Wow. So this is the first time we have let Michael out of his cage buried beneath RBC Plaza in Toronto. Again, we're going to stay fairly basic, although I'm already taking you down a couple of worm holes. We'll pull out of there, and we'll go into how does psychology affect people's thinking around money investing, saving, etc.?

That's a wonderful way to bring me back to your original question, which is talk a little bit about behavioral science, what it is, and how it differs from traditional economics. You see, traditional economics, particularly over the last 100 years, was based on the assumption that people are rational thinkers. There's a theory called the rational utility theory, where people try to optimize their ultimate utility. They get as much information as they can, they take as much time as it takes, and in the end, they'll come up with the best decision. Well, a group of psychologists around the 1960s, led by Amos Tversky and Daniel Kahneman, sat back and said, well, yeah, we understand economics, and great economists also were well aware that people were influenced by emotions. But Kahneman and Tversky sat back and said, well, we don't think people are always rational, but let's explore the ways that they have judgment biases. Let's actually look and see how people view the world from a different perspective. They started coming up with these systemic biases, where time and time again, people would look at things very differently. For example, they came up with something called recency bias or availability bias, and that is people do not assess alternatives or weigh options equally. What actually happens is the most vivid impression or the last thing that you heard generally weighs much heavier on your decision than anything else. So time and time again, people are influenced by that. It's like when people decide to go swimming in the ocean on the East Coast of the Atlantic, they're going to be afraid of sharks. Even though shark bites are exceptionally rare and there are so many other dangers, but because it's vivid, because it's fixed in their memory, that's going to have a bigger influence. So not to dwell too long in this, they came up with a whole series of judgment biases. And then they came up with decision biases, which is the ways in which people make decisions are also influenced by these biases, which are baked into the way we think. I'll give you one, and then you can take me in any direction you want. But the biggest one they came up with, which Daniel Kahneman won the Nobel Prize for, was something called prospect theory, a made-up name. But he was the first to show that people dislike losses twice as much or about twice as much as they enjoy an equivalent win. Now, that seems pretty obvious because everybody hates losing, but they were the first to actually quantify it and say it's about 2.2% more than you like an equivalent win. If you're an investor and you're watching the markets every day, we all assume that if at the end of the day, your investments essentially are flat, you're going to be neutral. But the fact of the matter is every time you get a loss, it's like being punched in the cut twice to a good feeling. What they did was come up with a systemic view of how people tend to make irrational decisions and how their emotions might pull them in different directions.

My favorite in that, particularly around recency bias, which is one of the most common mistakes that investors make—and this year has been a perfect test for these emotions and these behaviors—which is the rational person, the rational investor, wants to buy low and sell high. But emotionally, when the market's at a high, the recency bias is the market's going up, so I get too excited, I think it's going to go up forever because that's what's happened most recently, and I buy high. Versus when it's low, I'm experiencing all those negatives and I keep thinking, based on recency bias, the market's going to go lower, so I don't buy. So my emotions fight against the rational view, which is what we all want to do, which again is to buy low and sell high.

Yeah. Our rational thinking, we think, dictates our decisions when we're making investment decisions. But a lot of people don't realize how they can get caught up in emotion over time, that greed and fear, how big a part they play. Take, for example, somebody out with some friends listening to one of their friends comment that they just bought a stock that skyrocketed. How many people have the patience, the ability to stand back and really not dive into that? Most people think, well, if that guy who's like me love that stock, maybe I should go into it as well. And all your planning goes out the window because you get carried off with emotions. So what we try to do is help people understand these emotions are going to be present and actually guide them through times that they will face the emotion. So when they're in the boat and the storm hits, they're not going to jump overboard.

And that's a particularly relevant story because you no longer just have your friend at the dinner party or your family member over visiting, talking about this great gain that they have. I'm now pounded by social media, videos, TikTok, YouTube, whatever it is, with people who are telling you how to do things, the success that they're having, what's the hot stock to buy right now. And we just see investors taking that information in and acting on it. And we've been in a very good market right now, so it almost builds the belief that all of these different techniques and recommendations work. But again, we want to always take a step back and be rational about the way we're making decisions. So you talk about how emotions hijack people, smart investors. Am I on that track the right way? Or what else would you talk about in that respect?

I often use the phrase «emotions hijack investors' decisions». And it happens slowly. For instance, let's say that you start investing in a bull market. Now, most people, when they do well in investing, attribute the increase in their portfolio to their genius and any fall to bad luck. So one of the traps that you can get into is when you start investing in a bull market, you're going to feel like you've got the touch. I keep on investing. It keeps on going up. You might even tell some of your friends or family, wow, I did it again. This is fantastic. We'll get to a little brain science here, but whatever you think of investing again, the neurotransmitter that impacts you is dopamine, which is almost the hormone that makes you feel like, oh, I'm expecting another win. And then if you win, whenever you're in the same environment, your brain gets almost triggered to say, oh, well, it worked before, let me do it again. And then all of a sudden, you're down the path where you're overestimating your skill because you were, in many cases, just to use an analogy on a boat, the water level rose, and you were lucky enough to be there when the water level rose. To get a little geeky, that's called the Dunning-Kruger effect, which is that people who aren't skilled and experienced in certain areas of expertise might overestimate their abilities because they don't really know what it takes to become skilled and experienced. And that is a very dangerous spot to be. It's like being at the precipice in Cornice Bowl, where you're looking down and say, uh-oh, I didn't expect this to happen.

Or you host a podcast that thousands of people listen to, and you start to think that what you're doing is great, when clearly it isn’t. So let's talk some more about some of these core emotional biases that people have.

There's so many interesting biases. One is called anchoring. You asked me what my background is. I'm a lawyer by trade, and I used to always be fascinated in negotiations as to who should mention the first number. And I learned over time that whatever number is first on the table will have an enormous impact on the further flow of the discussion. The same thing with investing. We overweight the importance of a number, and that number doesn't even have to be relevant. If that number is random, people will be drawn to it. That's the philosophy behind manufactured suggested retail price. When you go to buy a car, you're really negotiating. But what the car dealers would do, well, they'll suggest a number. So you might think, well, I got 2% or 3% lower than that. So whenever anybody gets anchored, that can have a huge influence on their decision making. And just to bring it into investing, people can sometimes get anchored to the cost base or the price they paid for an equity. And they're always thinking, well, I'm up or down. And that causes a rational behavior, because if you're down, a lot of people are reluctant to crystallize a loss, so that can affect their behavior. So anchoring is something that you want to avoid. I sometimes talk to advisors to try and help understand our clients' perspective on where their portfolio is and to see if they're anchored irrationally.

Yeah, and it's one of the reasons that technical analysis actually works when you're looking at stocks, when you're looking at charts, because people have these different buy points or levels anchored in their minds, and it triggers even large groups of people looking at the same data to act the same way because they generally were in at the same point or out at the same point or have a target at the same level. So it's this anchoring that actually makes some of that stuff work in terms of really smart investors looking at the broad investment population and be able to almost figure out where they might be buying or selling.

That's a great insight. It brings me back to my earlier days when I really started to get involved in behavioral science. I fell into technical analysis, which is a relative of behavioral science. When I was doing my MBA at Ivey Western, as it was called, I did a paper on looking at the technical analysis of how people behaved in times of recession. I got really geeky with the technical analysis. I would look at every recession for the past 100 years and see which areas fell the most, when things turned around, what caused them to go up. Then halfway through working on the paper, a war started. I said, oh, I'm going to switch it, and I'm going to look at the impact of wars. You could see these same behaviors time and time again. But it's not only the technical analysis, it's the behavior, it's the fear. It's where people say, uh-oh, things are getting worse. We're at a low. I'm going to outsmart the market, or I better alleviate my fear. That I thought was really interesting.

Michael, here's the million-dollar question for you, which is, can I fix myself? All these things you've described, I get caught up doing, and I think many of us do. Is there a way to build any discipline or a way to work around those emotions, or are we just wired that way?

That's a huge question. And for some of the biases, believe it or not, the answer is it's really, really difficult. Take confirmation bias. That's all about first impressions. If you see a politician, if you see an equity that immediately you like, then the way that you take in and absorb information will be affected by your first impression. Anything positive about that person or investment, you're going to think, that confirms my view. I'm right. Anything negative, you'll tend to discount. Oh, that's fake news. I don't have to listen to that. So with some biases, it's really, really hard. But that brings me to another huge area of behavioral science, which you're probably surprised I haven't mentioned until now, which is the dual processing model, which is a fancy name for how people think fast and slow. So when it comes to emotions, they generally leap up to us without any real thought, without any energy. So if you're walking in a mall and you smell cinnamon buns, you're going to immediately have a positive emotional reaction. You're not going to think, do I like that? No, it pops in your head. Or if you perhaps see somebody for the first time and you have a warm feeling about them, you're drawn to them, that's all emotional, and it should be. On the other hand, you have system two thinking, which is analytical, deliberative. It's where you slow down and you actually have to do the work and come up with a decision. I guess if there's some way to summarize it, there are times where emotional decision making is great. I mentioned before, our brain uses up a lot of energy, and we try to preserve that energy as much as possible. So if we can have a quick emotional decision and not really put too much energy in, that's fantastic. Our brain forms habits. So when we're in the environment that is positive, we do it without thinking. But when it comes to financial decision making, you never want to make decisions based solely on emotions. You got to slow down. You have to pause. You have to do the work and think about it. So one of the big things that we do to get people to know themselves and slow down is to try and say when it's a financial decision where it really involves doing more than just going with your gut or your intuition, you should do the work, you should slow down.

Yeah, I often draw the comparison in terms of how people do invest in real estate, particularly their principal residence, where they live, versus the stock market. Because a lot of people will say, well, hey, I've done very well investing in real estate, but I do very poorly investing in the stock market. Now, if you actually look at the rates of return, even the Canadian real estate market—and there's neighborhoods in different areas that have had incredible appreciation—but when you look at it as a whole, the stock market has done quite a bit better than the housing market, but it is the way that people behave in real estate and their principal residence versus behave in the stock market that drives that success. Maybe the other houses in the neighborhood are down in value, but not mine. I have this beautiful house. Everyone would still pay the full price. I'm not going to sell my house. Of course not. And there's barriers to doing it, too. I can't just flip a switch and sell my house. I have to go through a process. Whereas the stock market? Boom, it's down. I made a bad decision. Sell it. And it's done quickly on my phone or whatever way I do it. And so you just see over time that a lot of people, because of some of those barriers to their own emotions or working with emotions that favor buy and hold and having success, actually drive more success in real estate than buying stock.

Yeah, this brings up some really interesting points, one of which is you don't look at either investments or real estate as little dots on a chart. You live in your house. With your investments, you are buying something that generates income, hopefully, and something that's real. But sometimes when people get transactional, they view it differently. We haven't talked about FOMO, fear of missing out. But I heard one story. I was just talking about it with my wife the other day, where a person that we knew decided they were going to outsmart the market with their home. Because housing prices had risen so much, so they decided, well, what we're going to do is we're going to sell our home because the market surely will drop. Then once the market collapses, we're going to buy back. This is a great strategy. So they sold their homes, started renting, and then waited patiently. We all know how this story ends. It was that fear of watching the housing market continue up, up, up. Yes, it's painful to lose, but there's another level in Dante's inferno of pain when it comes to selling equity or selling a property and then watching that market shoot up like a slingshot. And I think when people trade the place that they live and treat it like it's a gambling chip, that's not going to end well.

Yeah. You've teed up about 100 topics that we can take further in future podcast. By the way, if you want to hear what Michael has to say on future podcasts and all of our regular guests and infrequent guests as well, please subscribe to every podcast. We're also on YouTube. Not this episode. Next time we'll get Michael—he's a fine-looking man, so we better get him on YouTube—but most of our episodes are on YouTube, so please subscribe and like and tell your friends. But Michael, let's just finish off with a really important question, something that I've spent a lot of time on the podcast and in other things that I'm doing out in the public domain talking about this year, because we have a different kind of President than many people are used to over time with a unique style. And again, some people like him, some people don't. Many Canadians don't. But at the very least, you can say there is a way of doing things, there is a behavioral element to this President that creates grave concerns and emotion for Canadian investors. What the issue around tariffs that created a lot of the volatility that we've seen so far this year is one thing. The jab at Canadians about making Canada the 51st state. In my 33 years working with Canadian investors, I've never seen Canadians react emotionally the way they have through this. So any thoughts, given the environment we're in right now, what are some of the ways that Canadians can stay grounded and make good solid financial decisions given the environment we're living in right now?

You started off by saying, we have a president. And then you explain that we're talking about the United States President. I'm kidding. I know what you're talking about. But it's funny that you talk about Donald Trump because I look back at some of my earlier presentations on behavioral science where I'd have to explain cognitive biases. And in almost every case, I wanted to put a picture of Donald Trump up because he almost personifies some of the biases. I talked about confirmation bias, which was all about fake news or overconfidence, loss aversion. Donald Trump talks about losers. What could be worse than being called a loser with Donald Trump? So in many ways, he's predictable as to how the bias is playing to his decision making. But all in all, when it comes to things like the tariffs, the impact of that on the market was incredible. I'm sure you were watching how many clients felt about that. In some ways, it brought our country together. I posted an article to the people at RBC talking about how to help clients calm themselves because this is a case where emotion emotions run really high. Different ways to put it in perspective. Look at the big picture. Not react in a knee-jerk way to any huge threat. I'm not going to make any value judgments about politicians or political positions, but I can say that just when emotions get at the highest, when you think the world is at an end and you tend to want to catastrophize, that's not a time to immediately go into fight or flight and drop everything and sell your portfolio. One of the strategies was when the Canadian dollar dropped to 68 cents. That could be a good time to move some of your money into international or Canadian to try and take advantage to when things go. But it's the madness of crowds when everybody is jumping off a cliff—not necessarily the Cornice, but maybe lemmings jumping off a cliff—then that's a great time to stop and assess, what does my plan say to do? And luckily, if you've got a great advisor or a plan that helps you, that'd be an amazing time to rebalance. That'd be a time to stick with the plan and not go off the main path of the ski hill and go into the forest and just try and find your way. Stick to the plan. And that's generally really good advice, I think.

Yeah. And that plan and an advisor—we talk about this all the time on the podcast, Michael—are just two of the critical things you need. That advisor is so important because even someone who's an expert, sometimes needs someone who is also an expert to just sit down and, like you say, get them to step back and take a look at the big picture just before what could be a very poor decision that they might be about to make.

I wish somebody would told me, yeah, do not ski down the Cornice. That's not going to suit with your personality. Nobody did. But I do have a great financial advisor at RBC who tells me what to stay away from, and that's a huge benefit for me.

So you did ski down the Cornice?

Well, the end of the story is I have a cousin, Claudia, who is a terrific skier, and she literally said to me, this is how you do it. And I was stuck for a long time. So just imagine me going diagonally one way and then almost leaning against the ski hill going, okay, I can rest a bit. And then the big thing was trying to twist your skis and go down. I mean, it was the scariest point of my life. But because I had a great cousin who knew the hill, who advised me on how to do it, I made it. But if I were all by myself, you would have somebody else in the podcast right now.

Well, that's the thing I did. As a lawyer, you never ask a question that you don't know the answer to. I guess that's the old wisdom of being a good lawyer. I knew you made it because you are sitting here with us today. And are we ever glad we had you. Again, Michael, I can't believe we haven't had you before. I so much enjoy spending time with you because I just love this stuff. I know our customers and our listeners love this stuff as well. So thank you so much for your time today. And great story, great stuff, and we'll get you on again soon.

Thanks for having me, Dave.