Mental Model:

Utility - The Fundamental Principle of Purpose

by Alex Mason | Nov 25, 2020 | Episodes, Mental Model | 0 comments

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Mental Details

Description

  • Utility is what relates to something’s function or value. When something has utility, it has inherent or perceived usefulness to you.
  • In today's episode we cover the mental model of utility, both in a general sense as well as in the context of investing. At the end of the episode, we review Tai Lopez’s 4 Ms of Motivation.

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Transcript

  • Alex Mason: It's been fun watching the latest stock investing episode of David versus Goliath as the retail frenzy, erupted FOMO kicked in your rational brain was telling you to stay out of those risky bets. But your greedy alter ego dreamt of winning big and shooting for the stars. Like there's no tomorrow.
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  • [00:00:43] So getting an unbiased view before making any trades can save you some heartache. Just go to askfinny.com/link/alex or click the link in the show notes to try Finnyvest for seven days for free. And get 20% off the regular price. Again, that's askfinny.com/link/alex. We're going to talk about the mental model of utility.
  • [00:01:09] I'm Alex Mason, host of stock stories. This is the podcast where we decode investing principles by analyzing the business behind the stock, as well as learning about mental models in order to help you become a better investor. You ready? Let's go.
  • [00:01:52] Right. Welcome. Welcome to the show. This is the stock stories podcast. My name is Alex Mason. I am your host and stock storyteller. Thank you so much for joining me today for another episode of the show. This is the show where we decode investing principles and look at mental models. And one of our goals is going through the entire S&P 500.
  • [00:02:17] We're going through them component by components. And last week we talked about Mondelez international. I hope you enjoyed that episode. And today we have an episode focused on mental models, which are these different thought processes. For making decisions, basically they're tools that we can use as investors to become better thinkers.
  • [00:02:42] And I think they're really important. I wish they were talked about more, especially in the podcast space. I don't think that there's a lot of podcasts about mental models out there. Really. So I'm doing my part to help change that. And so that's what these episodes exists for. And so I hope that you enjoy today's episode as we go through another mental model.
  • [00:03:03] Today, we're going to talk about utility.
  • [00:03:19] All right. The way that these mental model episodes are constructed. If you're new to the show is first we'll talk about the basic definition of what the mental model is. What does it mean? Then we'll move on to an explanation of the concept. And I usually give some historical background and some examples, and then we move to how this applies to investing.
  • [00:03:41] How do we put that mental model in context for you and I as individual investors to help us make better decisions? So that's going to be the format of this episode, and then I also have an aside at the end of the episode. So let's start with the basic definition. Utility fundamentally is the concept of usefulness or value.
  • [00:04:06] It's the concept of usefulness or value it's it really doesn't get much simpler than that. Utility is all about practicality, about function. So now let's get deeper into the explanation of what it actually means. So, like I said, utility, it's all about function and practicality. What is something's worth?
  • [00:04:28] Or value, you know, I think of all the mental models of everything I've studied so far, this may be one of the most fundamental concepts because so many other mental models derive from this one. So many other things relate to value or talk about value or compare or contrast value or pick apart value in different situations.
  • [00:04:52] But at the end of the day, we're all talking about. Utility and utility comes from this concept that has been espoused by English philosophers, like Jeremy Bentham and John Stuart mill. They kind of popularized this term called utilitarianism and they, and others wrote about utility being the idea that people who choose things or make decisions based on what they believe.
  • [00:05:22] will give them the most happiness or wellbeing. So if you believe that something is going to make you happy, you're going to do it right. If you believe that going to school and getting education is going to improve your future. You're going to do that. If you believe that walking across the room and talking to that girl, even though you're shy about it, if you think that might get you a date with her, you're going to do it.
  • [00:05:48] We all do things out of our own. sell-interest and what we perceive as having utility for us in that moment. So think about this. When you woke up this morning, did you avoid getting out of bed for at least a minute or two? Yes. Okay. Why was that? It's probably because you enjoy the feeling of being warm under the covers.
  • [00:06:14] Right? I know I do. Especially when you're just coming out of that sleepy state, you know, there's, there's this concept called sleep inertia. And when we wake up, there's several minutes of a transition period between our sleeping state and our fully awake and alert state, and that's called sleep inertia and.
  • [00:06:35] When you're just coming out of that sleepy state, you don't really want to move around. You don't want to talk to anyone, you know, you don't want to be bothered it's it's in your self-interest to not get out of bed, but eventually you did get out of bed. Right? You did actually open up the covers and get out of bed.
  • [00:06:54] And that was because utility of getting out of bed. Started to replace the utility of staying under the covers. And this of course relates to the concept of opportunity costs, which we've talked about in a past episode. Now, what about when you got up and you went to the bathroom to brush your teeth? Now, why did you brush your teeth
  • [00:07:14] It's because you derived utility from it. You like the minty fresh feeling that toothpaste gives you after you brush and you like the feeling of having a clean mouth, right. That's why I do it every morning. It's it's for my health. But at the end of the day in the moments, I love that fresh, clean feeling after I'm done brushing my teeth.
  • [00:07:35] So these are just a couple of examples and we could apply this concept on and on to any and every situation in which a human being that's you and me makes a choice. And that's virtually every moment of our existence. I'm making the choice to speak into this microphone right now because I'm deriving utility from it.
  • [00:07:56] It makes me happy to record. It makes me happy to talk about mental models and ideas and the stock market. And it makes me happy to be sharing it with you. So I'm deriving a huge amount of utility from this very moment. So think about that for a moment. Isn't that profound? Isn't it profound that we are always making decisions and always doing it for some kind of benefit.
  • [00:08:22] That's so interesting. Right? Let's think about money for a moment. If you don't own anything and you're broke even a dollar or two has significant utility to you. If you have nothing, even just a few dollars means a lot, right? You can use those few dollars maybe to buy some food or maybe put some clothes on your back.
  • [00:08:43] Now, imagine you're living a middle-class American lifestyle. It's tip a typical lifestyle middle of the road, which is pretty good standard of living compared to how many people live in the world. Now, a dollar or two that might have some utility, but it won't have that much utility. We call this the concept of marginal utility.
  • [00:09:08] It just doesn't matter that much at that level. Now, if you give that same person, $10,000, now that's probably going to make a huge difference for them because maybe they could buy a car with that maybe they could, or at least a used car anyway, maybe they could pay their rent for several months. With that, that makes a big difference as far as lifestyle and could impact their shelter or their transportation situation in a big way.
  • [00:09:37] So we have this concept of utility and marginal utility, marginal utility. It's kind of like the law of diminishing returns. You don't get that much more value out of it, as opposed to, if it wasn't a different context now consider the extreme end of the spectrum. Someone who's a billionaire is $10,000 going to have a lot of utility to a billionaire.
  • [00:10:01] Probably not. I mean, percentage wise, it's just a drop in the bucket for them. So utility isn't just about money itself. Think about any good or service that you've ever purchased. Think about the electricity that's flowing to your home, the clothes in your closet and the comfort of the car that you're driving right now.
  • [00:10:19] All of these things have utility and we happen to pay for them with money because that's the most universal form of utility that humans have yet invented. So just an interesting concept to really think about. Now let's apply this mental model to the context of investing. So let's talk about investing.
  • [00:10:42] Utility is all about value, and we could apply this in so many ways, but let's look at investing specifically. One thing I think about is investing styles. You know, of course, when people say, Hey, let's learn how to invest, or I want to learn how to invest. They're usually not thinking about the style as much.
  • [00:11:03] They just want to make money. But the fact of the matter is there's a lot of ways to make money, especially in the stock market. There are so many different routes that people take. Some people trade stocks, some people buy and hold them. Some people take completely different approaches with advanced securities.
  • [00:11:22] There's all these different methods. So I'd like to take a moment to just talk about a couple of different investing styles. And how that's impacted by what we perceive as utility as individual investors take, for example, an older person, who's a retiree who they just want to live off of their money.
  • [00:11:45] They've saved money, they've accumulated, and they really just want to live off of it. They want to spend it, take another person, say a 25 year old who has just started their career and they want to begin seriously building their net worth. They're knee deep in the accumulation phase of building wealth.
  • [00:12:04] Each person is going to look at the same potential stock with a different sense of its utility. Consider something like Salesforce, the fast growing software as a service company that we had an episode on the other day. Now that company does not pay dividends and it's really focused on scaling up its operations.
  • [00:12:26] It's certainly a big company. It's an S&P 500, but it's definitely one of the faster growing companies in the S&P. Now all the returns that you would experience, at least in the medium term of owning Salesforce stock would be due to its stock price rising. Now this has limited utility or marginal utility.
  • [00:12:46] To our retiree investor, because what they want is a stream of cash. They don't want to have to continuously sell shares of stock in order to pay for their expenses. Even if that stock is rising quickly in value, it likely is quite volatile. Now, this investment, however, it might be perfect for the 25 year old investor who they don't care about current income, but they want to see their net worth rise.
  • [00:13:12] That's what they're all about. Let's compare this to a different investing situation. Compare this to something like 80 and T stock. Another company we've covered on the show. This is one of those classic blue chip stocks that would show up in what has been called. A quote, unquote, widows portfolio or a portfolio full of high quality, slow growing names that pay out steady dividends.
  • [00:13:38] And just as a side note, the reason it's called a widow's portfolio is back in the day, it was a way that financial affairs could be arranged for a widow. If the spouse died, basically. And then, then the widow would be able to live off of the income from the portfolio, from those assets. So thinking about AT&T, you can't buy AT&T stock and expect it to compound your net worth at 25% annually, it's just very unlikely to happen.
  • [00:14:10] It's a huge, slow growing business. Now, on the other hand, you can get a large dividend from the stock. Now, this type of security might be better suited for the retiree in this case, because what they want is income. They don't really care how the market is valuing the shares of their business at any given moment.
  • [00:14:32] Whereas it might be not so great for our younger investor who is really trying to grow their net worth. Fast and over a long period of time. Now AT&T certainly could do that, especially, you know, based on the analysis that we talked about in that episode with a really high dividend, even with modest growth, you could get double digit returns from that stock potentially.
  • [00:14:56] But that's not really the point of this. I just want to highlight the differences between different types of stocks or investments and the relative utility that we each would receive as investors based upon what our goals are. And based upon our personal situation, let's look at this concept in another light.
  • [00:15:17] Think about the products and services that businesses produce. When I am considering buying shares of a stock in a company. One of the things I think about first is simply what business is the company in? What are they selling and why do people care enough to hand their money over for it? Right. One of the investment themes that's been running in my mind as of late is the concept of businesses that sell things with high emotional appeal.
  • [00:15:48] Now emotional appeal, I think is a signal. It's a signal that there's likely great utility in. What is being sold. Think about something like LVMH, Louis Vuitton, Moet Hennessy, the luxury conglomerate that we talked about many weeks ago, back in episode 95. People have a strong emotional appeal or draw to Louis Vuitton purses.
  • [00:16:15] And the reason that we know this is because they're willing to spend thousands and thousands of dollars on them compared to much cheaper alternatives. Now, is it the design? Is it the marketing? I mean, that's a much deeper question that speaks to the psychology of selling luxury goods. What we do know is that there's a lot of utility for these items, presumably in order for consumers to display as a status symbol or something like that.
  • [00:16:44] Okay. So that's the fundamental background behind the mental model of utility. As I started thinking about this more though, I decided to include an aside at the end of the episode, based on how utility is linked to motivation. And this isn't directly related to investing, but I think that there is some connection there.
  • [00:17:08] So if you're up for it, definitely continue listening. So here's an aside on the four M's of motivation and their link to utility. So utility, can come in many forms and I want to leave you with this. I came across a talk by an entrepreneur and investor Tai Lopez sometime ago, and I'll link to it in the show notes.
  • [00:17:29] If you don't know who Tai Lopez is, he's somewhat of a controversial figure because of the extravagance. He displays in his social media posts, but from everything I can see, he's legit, he understands mental models and he seems to know a ton about business. So I've definitely learned some things from him.
  • [00:17:45] So in the talk again, I'll link to that in the show notes, he discussed the four M's of motivation. The theory is that we are each motivated primarily by one or two of these four things. And it drives everything we do. And I found it fascinating. It's something that I've been thinking about a lot. So these are the four M's.
  • [00:18:09] The first one is material, material or money, depending on how you want to look at it. And this is the motivation to enjoy the beauty and the pleasures and the comforts of life. If having a huge house, if having luxury cars, If having a private jet, if those are things that motivate you, then material may be your primary motivation having material goods or material things that definitely motivates a lot of people.
  • [00:18:42] The second M is mastery mastery. This is the motivation to Excel relative to your peers. To obtain status to have recognition. If you want to be the person that walks into the party and everyone looks at and says, Oh, Hey, so-and-so is here. And then they come and talk to you and you just have all that attention.
  • [00:19:03] You, you love that attention. That's mastery. The third one is mating or I like to call it also connection. This is the motivation to connect with others and create some kind of emotional bond. So this could be like sexual or romantic in nature, or it could be friendships or marriages or a strong bond that you have with your children or other family members.
  • [00:19:35] This is the desire to connect. And then the fourth M is momentum. This is the motivation to move forward, to strive for progress. You always have to be moving, always have to be continually building onto the next thing. So those are the four M's. These forums speak to utility because what we perceive as utility.
  • [00:20:02] Differs, depending on our own psychology. And this is where I think it gets really interesting because for example, if I am primarily motivated by mating, let's say that I'm setting up a vacation for my family. If I'm motivated by mating, I want to create an environment where we can all spend time together because that's what I really value.
  • [00:20:26] I want to foster that connection. Someone else who maybe is more so motivated by material things. Maybe they're okay if it's not a family vacation and maybe like, they just go and they just want to stay at a five-star hotel and that's all they care about. That's another way to look at it. So depending on our actions, we can see what really drives us, what our motivation really is and what we perceive as having utility.
  • [00:20:58] Now what if I'm motivated by mastery, maybe I'll spend a lot on education, maybe even an Ivy league degree so that I can be seen as intelligent as someone with pedigree as someone that can be looked up to because of my knowledge or my skills. And maybe that really motivates me. So all of these things play into how we view our own personal utility and every company in the world sells something because there is perceived utility from their customers and the flavors of that utility or the motivating factors.
  • [00:21:30] They differ from person to person to bring it back to investing. As we close the episode. The other day, I was reviewing the financials of a young education company in the education space. And this is a company that is capitalizing on the mega trend of the younger generation. So millennials, gen Z seeking out educational alternatives from traditional colleges and universities.
  • [00:21:56] And it's no doubt catalyzed by the student loan crisis. That's happening in America right now. Now, this is the company that is appealing to people's desire for utility in the form of knowledge or career advancement. which most likely relates to the M's of mastery or momentum. Now thinking about utility from the customer's perspective can improve how we think about it from the investor's perspective.
  • [00:22:21] Do you see what I'm saying? It's it's all connected. The customer has a certain perceived utility. Just as the investor has a certain perceived utility and they all flow together in this system of capitalism. Really. So that's all I have for you today. I hope that you enjoyed this episode about the concept of utility learning about the four ends of motivation and learning about how I think this mental model applies in an investing context.
  • [00:22:52] So thank you so much for listening. I really appreciate it. If you want to help the show out, please leave a review. If you're listening on your iPhone, leave a review in the Apple podcast app. If you're listening on Android, head over to pod chaser, that's pod chaser, and look up stock stories. Actually, I'll just put a link in the show notes for you.
  • [00:23:15] And leave a review there, and those things will really help the show out. So I appreciate that in advance. Also, if you want to connect with me or reach out on social it's at stock storyteller, again, that's @stockstoryteller or you can email me at Alex at stock stories, podcast.com. All right, that's the end of today's story.
  • [00:23:38] We'll see you next week.
  • [00:24:01] The information presented here on stock stories is for informational educational and entertainment purposes. Only you and you alone are responsible for your investment and financial decisions. Please consult inappropriate tax legal or financial advisor that can analyze your specific situation in the context of your goals and circumstances.

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