Speaker 1: Hello, and welcome to What Goes Up, a weekly markets podcast.
Speaker 1: My name is Mike Reagan. I'm a senior editor of
Speaker 1: Bloomberg Vldonna hik Across asset reporter with Bloomberg, and this
Speaker 1: week on the show, well, as you know, we love
Speaker 1: to talk about crazy market stories on this show, and
Speaker 1: this year is almost over. But I think it's pretty
Speaker 1: safe to say that the collapse of f t X
Speaker 1: and the rest of Sam bankman Fried's crypto empire was
Speaker 1: the craziest thing any of us saw this year. And
Speaker 1: of course it will take many months, maybe years, to
Speaker 1: sort out exactly what caused this mess. But we're going
Speaker 1: to talk to one chief investment officer who has taken
Speaker 1: a sort of philosophical look at spfs tolerance for risk
Speaker 1: and how unusually high it was. But first, vil Donna,
Speaker 1: it's almost years. Do you have any resolutions? I didn't
Speaker 1: until you just asked me. I guess, And now you're
Speaker 1: coming up with the best resolutions yet. Well, we know
Speaker 1: that I belong to a lot of book clubs that
Speaker 1: I'm not inviting you too, So my girlfriend next year
Speaker 1: will read more books and join more book clubs that
Speaker 1: I will not invite me to Yeah, that's really just targeted.
Speaker 1: Want to be part of them? Targeted? You would probably
Speaker 1: say no anyway, And then I don't know what books
Speaker 1: are you reading right now? I'm reading a crime book.
Speaker 1: I like crime books. Yeah, it's called Lush Life. Lush Life. Yeah,
Speaker 1: it's very good. Actually I think maybe the guy had
Speaker 1: something to do with the wire. So a lot of
Speaker 1: the dialogue is like very lingo, like Richard, Alright, what's yours? Oh,
Speaker 1: I resolve. I'm going to ask all of our guests,
Speaker 1: um much more complicated questions like fifty part questions. Questions
Speaker 1: are you starting like I've I've been letting them off
Speaker 1: easy with just the twelve part questions? Are you starting
Speaker 1: with today's guests? We'll see, we'll see. Bring him. Who
Speaker 1: are we talking today? It's Victor Hagani. He's the founder
Speaker 1: and chief investment officer of ELM Wealth, which is an
Speaker 1: index wealth manager. Thank you so much for coming back
Speaker 1: on the podcast. Great to be back again, and I
Speaker 1: hope you're ready for Mike's Mike's multipart question. Let's do
Speaker 1: my best. So I know you so you actually joined
Speaker 1: us on the podcast earlier this year, so thank you
Speaker 1: for coming back, but maybe just as a little recap,
Speaker 1: you can just tell us a bit about ELM and
Speaker 1: what you guys do. Sure. My story is that I
Speaker 1: started off working in at Solomon Brothers in research in
Speaker 1: eventually was a founding partner of l T c M.
Speaker 1: And after the collapse of l T c M, I
Speaker 1: stayed around for a little while to help with the
Speaker 1: unwinding of positions and and help my partners get a
Speaker 1: new venture started. And then I took a long sabbatical
Speaker 1: of ten years starting from my late thirties and UM
Speaker 1: and I emerged from that sort of with a back
Speaker 1: to basics idea of how I wanted to invest for
Speaker 1: my own family, and that led to the creation of
Speaker 1: a wealth management wealth advisory firm that would share a
Speaker 1: low cost, globally diversified, dynamic index investing type of approach
Speaker 1: with anybody that that wanted to get involved. And so
Speaker 1: I've been UM running ELM Wealth for eleven years. Will
Speaker 1: have a partner who's become the CEO, James White and
Speaker 1: uh and we do the My favorite part of the
Speaker 1: whole thing, besides helping our investors, is doing research and
Speaker 1: having a platform to write about different things going on
Speaker 1: and I guess one of our our articles caught your attentions,
Speaker 1: and hence I'm here all of your articles cut thanks
Speaker 1: the ten Uere sabbatical cat. Actually, how do I sign up? Well,
Speaker 1: kind of you've got to uh, don't don't want to
Speaker 1: do it the way that I did it, But it
Speaker 1: was one of the best things in my life for sure,
Speaker 1: and especially my my kids were all young and I
Speaker 1: was young, and it was just a great thing that
Speaker 1: that I did. But I don't think I would have
Speaker 1: done it had LTCM not UM failed. So you want
Speaker 1: to go there, you have it, kept working those eighty
Speaker 1: hour weeks and grinding it out. Well, let's talk about
Speaker 1: that piece you wrote. Vildon and I were both talking
Speaker 1: about it is because it's I love it when people
Speaker 1: take this sort of more philosophical, sort of thirty thou
Speaker 1: view of stories like this rather than you know, picking
Speaker 1: apart the weeds, because I think there's a lot to
Speaker 1: be learned from that sort of approach. And and this,
Speaker 1: this one's called a missing piece of the SPF puzzle.
Speaker 1: And you talk about UM what you call the classic
Speaker 1: theory of choice under uncertainty. Talk to us about what
Speaker 1: that means and how it plays out in real life
Speaker 1: and investing. Sure, so you know, and I mean some
Speaker 1: people think that the that the start of financial decision
Speaker 1: making was around three hundred years ago when Daniel Bernoulli
Speaker 1: uh and and some of his family and friends were
Speaker 1: debating the St. Petersburg Paradox. It's a game where the
Speaker 1: expected value of the game is infinite. But anybody that
Speaker 1: takes a look at it would would uh, you know,
Speaker 1: would say, well, okay, it has an infinite expected value,
Speaker 1: but I don't think i'd pay more than you know,
Speaker 1: ten dollars to play it. And the way that the
Speaker 1: game would work is or works, is that you flip
Speaker 1: a coin and you your payoff is the number of
Speaker 1: heads that you get in a row is well two
Speaker 1: to the number of heads that you get in a row.
Speaker 1: So if you flip one head and then the next
Speaker 1: one is tail, that's one head in a row and
Speaker 1: you get paid two dollars. And then if you've flipped
Speaker 1: you know, three heads in a row, that would be
Speaker 1: uh you know, eight eight dollars that you would get
Speaker 1: And so you could see that the probability of that
Speaker 1: occurrence is the reciprocal of the payoff, and so the
Speaker 1: expected value is infinite, but you're not going to get
Speaker 1: a hundred heads in a row that would give you
Speaker 1: a massive payoff. And people realize that and they say, well, okay,
Speaker 1: you know that I'll play this game, but I wouldn't
Speaker 1: pay an infinite amount for it. And so bernow Lli
Speaker 1: thought about, well, how can we reconcile that? It seems
Speaker 1: like you know what's going on here, and he realized
Speaker 1: and put forward the idea that the marginal benefit that
Speaker 1: we get from more and more wealth goes down with
Speaker 1: each additional unit of wealth, this idea of the decreasing
Speaker 1: marginal utility of wealth, and he modeled that in a
Speaker 1: very simple way. He said, well, what if my you
Speaker 1: the utility that I get from wealth is equal to
Speaker 1: the natural log of wealth. That's just one function which
Speaker 1: goes up, but it goes up at a decreasing pace.
Speaker 1: Then you get a solution to the St. Petersburg valuation,
Speaker 1: you know, which is I'd pay a tiny bit of
Speaker 1: of my wealth to play it. But it really took
Speaker 1: off again in the nineteen forties when uh John von Neumann,
Speaker 1: the polymath, and the economist Oscar Morgenstern came together and
Speaker 1: wrote a book that put forward a logically reasoned proposition
Speaker 1: that if we maximize our expected utility, that that tells
Speaker 1: us the right decisions to make under uncertainty. And that's
Speaker 1: really the beginning of this classic theory of choice. You know,
Speaker 1: I think most people feel that way, and economists have
Speaker 1: it developed that and brought it up to now and
Speaker 1: and basically, we don't need a fancy theory to know
Speaker 1: that when we're faced with some coin flips that we
Speaker 1: don't want to bet, even if the odds are in
Speaker 1: our favor, that we don't want to bet all of
Speaker 1: our wealth on heads coming up each time, even if
Speaker 1: heads has a sixty percent chance of coming up. It's
Speaker 1: like some biased coin thought experiment. And so, you know,
Speaker 1: what's what's really interesting in this whole SPF case is
Speaker 1: that he was sort of on record on a number
Speaker 1: of occasions of saying that that his conclusion was that
Speaker 1: he should make decisions as if as though he had
Speaker 1: no risk aversion basically maximizing the expected value of his choices,
Speaker 1: you know, making a choice that would maximize the expected
Speaker 1: value of his wealth, which he intended to give away.
Speaker 1: He said, rather than trying to maximize this this expected utility.
Speaker 1: Have you ever encountered anyone I mean, maybe if your
Speaker 1: goal is to make a lot of money and give
Speaker 1: it away, is the only only chance you have that
Speaker 1: kind of risk color and says, have you ever encountered
Speaker 1: anyone with that sort of blinders onto risk? Like he
Speaker 1: is sort of hinted at no, Although I I have
Speaker 1: heard some people say that their approach to making decisions
Speaker 1: under uncertainty is to take a certain amount of their
Speaker 1: money and put it aside and treasury bills, and that's
Speaker 1: safe and if they lost everything else, they would be
Speaker 1: really happy that they had that, and then to be
Speaker 1: really aggressive with risk with that discretionary amount that they
Speaker 1: had above what they put away. But when you but
Speaker 1: but when I've met a few of these people in conversations,
Speaker 1: we've talked about it that when I really analyzed decisions
Speaker 1: that they were making with that discretionary capital, they were
Speaker 1: nowhere near risk neutral. It was just their way of of, uh,
Speaker 1: sort of thinking about things. But they still were sort
Speaker 1: of had a normal level of risk aversion. And it's interesting,
Speaker 1: I mean that in practice people have not used this
Speaker 1: expected utility theory very much. It's not used much in
Speaker 1: the financial planning industry, for instance. Uh and and one
Speaker 1: of the criticisms is, oh, it's really hard for people
Speaker 1: to calibrate or to express their utility function. But actually,
Speaker 1: what we've found is that when we talk to people
Speaker 1: about risk taking and you know, expected compensation for taking risk,
Speaker 1: that people fall into a reasonable kind of range of
Speaker 1: risk aversion that most people seem to be and you know,
Speaker 1: we don't really see this incredibly high risk aversion where
Speaker 1: people don't want to take any risk in the face
Speaker 1: of nice opportunities, or even more rare than high risk
Speaker 1: aversion is this super low risk aversion where it's like
Speaker 1: just let me, you know, I think, although you know,
Speaker 1: I guess that a gambling addiction in some ways, right
Speaker 1: is you know, I'm not really talking about pathological conditions.
Speaker 1: I mean, if you have a gambling addiction, you know,
Speaker 1: that's a different story, I guess. And you know, maybe
Speaker 1: those people are characterized by having a risk seeking they
Speaker 1: don't generally rise to the level of you know, owner
Speaker 1: and CEO of a major financial for billion dollars or something.
Speaker 1: So had you been thinking about this all along? Because
Speaker 1: he has been very media friendly, not just recently obviously
Speaker 1: after the fallout, but all along he had been sort
Speaker 1: of out and about talking to people about you know,
Speaker 1: him wanting to give away his wealth and his very
Speaker 1: low risk conversion a little bit um. So actually the
Speaker 1: place where I came across expected value being used in
Speaker 1: a way that I thought wasn't quite right was was
Speaker 1: actually in some of this effective altruism literature. There's this
Speaker 1: one discussion that I read about three or four years
Speaker 1: ago where there was an argument that that we should
Speaker 1: all vote, not because we have a civic duty to
Speaker 1: do so, but actually that if you think that your
Speaker 1: vote has this tiny, tiny chance of making a difference
Speaker 1: in the outcome of the election, that if you think
Speaker 1: that the election of the people in the policies that
Speaker 1: you support would make hundreds of billions or trillions of
Speaker 1: dollars of difference to the world, then you should just
Speaker 1: vote based on that small probability. Because the expected value
Speaker 1: of your vote, the small probability times as big outcome
Speaker 1: is a really is a big positive number, and you
Speaker 1: should that should motivate you to get out of bed
Speaker 1: and go vote. And so that's using expected value for
Speaker 1: a lottery like payout. I think that analysis is not
Speaker 1: quite correct. You know, I think that that huge payout
Speaker 1: that you would get, which you would automatically be giving
Speaker 1: to charity because it wouldn't actually come to you, uh,
Speaker 1: needs to be discounted by the fact that you have
Speaker 1: a marginal decreasing utility of of of wealth even when
Speaker 1: you're giving it away, you know. And I think that's
Speaker 1: kind of really an interesting part of the SPF case
Speaker 1: right now, Victory, I wonder if you think back to
Speaker 1: uh the long term capital management days, and boy, I
Speaker 1: guess it's almost twenty five years now since uh, since
Speaker 1: all that happened, um, you know, And if you were
Speaker 1: to make a Venn diagram of F t X and
Speaker 1: l t c M, is there are there any overlaps there?
Speaker 1: And one thing I'm thinking of is I would guess
Speaker 1: and correct me if I'm wrong, But I would guess.
Speaker 1: If you asked everyone involved at l T c M
Speaker 1: back then are you taking too much risk? The answer
Speaker 1: would beat no, we're not. You know, we're not taking
Speaker 1: on too much risk. It's just our positions got so big, right,
Speaker 1: and and that was really what led to the trouble.
Speaker 1: And at FT actually have this scenario where they have
Speaker 1: this massive position in this coin they invented themselves the
Speaker 1: f t T token, where they're also the big whale
Speaker 1: in in that position of that asset. But I don't know,
Speaker 1: is are there any sort of overlaps of the two
Speaker 1: that spring come on from from your experience at l
Speaker 1: T c M And you're, uh, what you've been able
Speaker 1: to observe with f t X. Well, first, you know,
Speaker 1: as you said earlier, we don't really know exactly what
Speaker 1: happened at f t X. I mean, one thing that
Speaker 1: seems to be the case is that Alameda had bad
Speaker 1: trading results at some point and lost seems to have
Speaker 1: lost a lot of money. The one thing that we
Speaker 1: know is that that SPF was out there saying that
Speaker 1: he was you know, that he was in favor of
Speaker 1: making decisions with a very low or no risk aversion
Speaker 1: at all. So you know, at LTCM, we we were
Speaker 1: risk averse. We were uh, we were not thinking too
Speaker 1: we were not looking to maximize expected value, but we
Speaker 1: were looking to maximize risk adjusted return. And so that's
Speaker 1: that's a difference. But you know what I what I
Speaker 1: would say is that you know, investing involves two types
Speaker 1: of decisions, right, one of them is find the good investments.
Speaker 1: Find the things that are that you think are gonna
Speaker 1: give a good return, a good risk adjusted return, and uh,
Speaker 1: and try to buy those things and find the other
Speaker 1: things things if if you're running along short find things
Speaker 1: that aren't good and sell those or go short those
Speaker 1: or whatever. So that's the part of the process that's
Speaker 1: identifying and evaluating different assets and different investments, and and
Speaker 1: that's really where almost all of the attention of people
Speaker 1: goes and uh. And but there's this other decision that
Speaker 1: we have to make, which is how big. Once we've
Speaker 1: figured out the the what are the good and bad things,
Speaker 1: then we need to figure out how much of those
Speaker 1: trades do I want to put on? And especially if
Speaker 1: we can use leverage or options or derivatives. Uh. You know,
Speaker 1: we have quite a lot of flexibility in terms of
Speaker 1: how much of them we can buy and sell. We
Speaker 1: may not be constrained by just how much capital we
Speaker 1: have to invest, but we could own more, go short
Speaker 1: or whatever. And that sizing decision doesn't get as much attention,
Speaker 1: doesn't get a lot of treatment in universities and finance
Speaker 1: programs and so on. And yet that's the one that's
Speaker 1: more critical because if you even if you can find
Speaker 1: the right investments, but you do them and too large
Speaker 1: a size, that can end in failure. Whereas actually, if
Speaker 1: you find the wrong investments but you size them correctly,
Speaker 1: it's not a happy outcome for you, but it's survivable
Speaker 1: and you go on and you have enough capital to
Speaker 1: spend or to support yourself or whatever. So, you know,
Speaker 1: I think that it seems likely that Alameda took too
Speaker 1: much risk that guided by this principle of maximizing expected
Speaker 1: value coming from the top or the the owner. Um. However,
Speaker 1: he came to that decision which we'll talk about more um,
Speaker 1: and he took too much risk, and the result was
Speaker 1: that they lost money. I think at LTCM, you know,
Speaker 1: inadvertently we wound up with positions that were too big
Speaker 1: that that they wound up getting themselves sort of related
Speaker 1: to each other just by the fact that we own them. Right,
Speaker 1: So when as soon as we got into trouble and
Speaker 1: artificial correlation almost just from yeah, I mean, there were
Speaker 1: there were some you know, deeper, deeper reasons for them
Speaker 1: to be correlated in some cases, but in many cases,
Speaker 1: you know, they would have been going in the opposite direction,
Speaker 1: and they got correlated because we own them. And but anyway,
Speaker 1: it was it was too much risk. You know, I
Speaker 1: don't think there's any disputing that. So I think that's,
Speaker 1: you know, a parallel, but I would say mostly that
Speaker 1: it's you know, I don't that that. I think that
Speaker 1: mostly they're sort of separate circles. And you know, in
Speaker 1: particular this, you know, our approach was, you know, to
Speaker 1: be very aware of risk and you know sometimes you
Speaker 1: you you don't get it right, and uh, you know,
Speaker 1: as opposed to a policy of maximizing expected value, which
Speaker 1: you know, which I think is what was going on there.
Speaker 1: So let's talk a little bit more about how SPF
Speaker 1: al Amida f t X all of this actually happened.
Speaker 1: Because in your note you have this amazing sentence it says,
Speaker 1: when spfs stated preferences encountered the real world, it results
Speaker 1: in almost surely going bust at some point, and pretty
Speaker 1: quickly for someone who knows their way around financial markets. Yeah,
Speaker 1: so I think a great example to just just to
Speaker 1: work through a little bit. As you know. At one point,
Speaker 1: SPF has a Twitter thread where he says, if I
Speaker 1: were faced with an opportunity that had a ten percent
Speaker 1: chance of a big payoff and a nine chance of
Speaker 1: going to zero. Well, he said, I wouldn't invest a
Speaker 1: hundred percent of my capital in that one trade, because um,
Speaker 1: you know, I'd like to be able to do it
Speaker 1: again afterwards, find another one like that afterwards. Uh, but
Speaker 1: I would put like fifty of my capital into that.
Speaker 1: And that's very very risk tolerant. That's not quite going
Speaker 1: all the way to his stated preference of being risk
Speaker 1: neutral and trying to maximize expected value, but that's really
Speaker 1: being you know, extremely risk tolerant. And so from that
Speaker 1: you could sort of say, well, what if he found
Speaker 1: five of these to do in a row. Well, you know,
Speaker 1: if he did five of them in a row, his
Speaker 1: probability of of losing five times in a row, you know,
Speaker 1: fifty percent of his money five times in a row,
Speaker 1: which would leave him without in a five percent loss,
Speaker 1: you know, would be probably over fifty you know, close
Speaker 1: to in that ballpark, right, you know, ten percent chance
Speaker 1: of that happening every time. So you can kind of
Speaker 1: see how it. You know, even in a world where
Speaker 1: you could find some amazing you know, which I don't
Speaker 1: think exists. I've never seen an investment opportunity that has
Speaker 1: a ten percent chance of making a thousand times my
Speaker 1: wealth or something like that. I've never come across that,
Speaker 1: never seen it. But even if you could find those things,
Speaker 1: if you bet in that way, you have a very
Speaker 1: very high probability of of losing you know, all of
Speaker 1: your money. Um, you know, Victor, I'm smiling here because
Speaker 1: I'm thinking of the clients of partners out there listening
Speaker 1: to this and going on, bullie, Victor, what has he
Speaker 1: got my go what's he got me into crypto and
Speaker 1: coin flips and talking about losing all my money once?
Speaker 1: But so let's pivot it to to what's really in
Speaker 1: your wheelhouse here, and that's that's those boring old regular markets.
Speaker 1: And you know, we talked about how uh, sort of
Speaker 1: having no limit for your risk colorance can cause these
Speaker 1: spectacular blow ups. I do feel like for the average
Speaker 1: Joe investor, whether it's a four O one care and
Speaker 1: I R or or you know, your your your basic
Speaker 1: nest egg investor, that maybe having too much fear of
Speaker 1: risk is a bigger issue and and not sort of uh,
Speaker 1: you know, being willing to take on risk. And I'm
Speaker 1: thinking this, especially after the year that we've had in
Speaker 1: the stock market and the bond market for that matter. Um,
Speaker 1: you know, the year is not over yet, but I
Speaker 1: think it's a safe bet to say that we're going
Speaker 1: to close on a you know, a down year in
Speaker 1: the in the equity market, it's pretty rare to have
Speaker 1: two down years in a row. I think the dot
Speaker 1: com collapse was one, Uh, nineteen seventies, I think was
Speaker 1: the last time before that. Is that too simplistic of
Speaker 1: a view of the equity market right now to assume
Speaker 1: that you can't have two down years in a row? Um,
Speaker 1: we're you know, is that is that an enticing entry
Speaker 1: point to you? And what you know, what would you
Speaker 1: call what we saw a client who called you up
Speaker 1: and was asking you what to do here on January one?
Speaker 1: When it's time to think about the next year. So
Speaker 1: the way that we like to look at it is
Speaker 1: the way that we like to look at investing is
Speaker 1: really thinking that the main risky asset that investors have
Speaker 1: access to is diversified portfolios of global equities, US equities
Speaker 1: and non US equities and the low risk things that
Speaker 1: they want to come that we should compare those expected
Speaker 1: returns to our government bonds. You know, I would say,
Speaker 1: in particular, for long term investors, it would be tips
Speaker 1: inflation protected bonds giving a long term real yield in
Speaker 1: excess of inflation or below inflation of their yielding Yeah,
Speaker 1: back to positive thankfully, you know, or treasury bills or
Speaker 1: government bonds whatever. But you know, that's sort of your
Speaker 1: your low risk alternative. So we need to look at
Speaker 1: equities relative to the low risk alternative because it's an
Speaker 1: either or thing that either we have more equities or
Speaker 1: we have more safe assets. And so when we look
Speaker 1: at that today, let's say we look at tips today,
Speaker 1: So long term tips are yielding about one point two
Speaker 1: percent in that ballpark, uh, much higher than they were
Speaker 1: a year ago when the negatives the real yield, So
Speaker 1: they would so if you bought them, they would give
Speaker 1: you uh. And also pre tax they would give you
Speaker 1: one point two percent above whatever inflation turned out to be.
Speaker 1: So in this past year, when CPI inflation ran at
Speaker 1: eight percent, they actually were giving you they would give
Speaker 1: you a nine point two percent return if we got
Speaker 1: another eight percent of inflation ahead of us. And then
Speaker 1: we need to think about, well what do equities offer.
Speaker 1: So we could look at US equities and using the
Speaker 1: cyclically adjusted earnings yield. So if we buy equities, were
Speaker 1: getting a certain amount of expected earnings from them, and
Speaker 1: you know, if we try to just guess at what
Speaker 1: earnings are likely to be by looking over the past
Speaker 1: ten years and averaging that together, you know, I think
Speaker 1: that US equities have an earnings yield right now of
Speaker 1: around around four percent or a little bit lower than that.
Speaker 1: You know, it's gone up as the equity markets come down,
Speaker 1: and so you know, we're getting around a three percent
Speaker 1: expected extra return from or maybe it's two point five
Speaker 1: to three percent extra return from owning US equities rather
Speaker 1: than owning tips. And then we say, well, is that
Speaker 1: how how attractive is that? It's okay, I mean, you know,
Speaker 1: it's two and a half three percent extra return. It's nice,
Speaker 1: but it's not so nice that we'd want to have
Speaker 1: a lot of it. So from with that starting point,
Speaker 1: we are underweight US equities for our clients because we
Speaker 1: don't think that that two and a half to three
Speaker 1: percent is great. And then we also want to think
Speaker 1: about the risk of US equities and uh, you know,
Speaker 1: we could look at their volatility or we you know,
Speaker 1: we prefer to look at their momentum as a proxy
Speaker 1: for risk and momentum in US equities is still negative,
Speaker 1: even though it's getting closer to neutral. So between those
Speaker 1: two things, we would be underweight US equities, and applying
Speaker 1: those same ideas to non US equities, we would be
Speaker 1: overweight them, even though risk and momentum is negative, causing
Speaker 1: us to want less of non US equities, their earnings
Speaker 1: yields are quite high. US non US equities have done
Speaker 1: really poorly over the last ten years and are offering
Speaker 1: quite high, you know, earnings relative to the price you
Speaker 1: pay for them, So we would be we're a little
Speaker 1: bit overweight, just slightly overweight non US equities and underweight
Speaker 1: US equities, and all together underweight equities. So we have
Speaker 1: about in our typical client portfolios, we have between fifty
Speaker 1: to sixty percent of the portfolios are in low risk
Speaker 1: assets right now, whereas back in the middle of two
Speaker 1: thousand and twenty one, we were probably like of the
Speaker 1: client portfolios were invested in risky assets and only ten
Speaker 1: percent and low risk assets. So I don't think it's
Speaker 1: a great time for equities perspectively relative to safe assets.
Speaker 1: And I don't and I think that, yeah, I mean,
Speaker 1: we could definitely have two years in a row of
Speaker 1: negative returns. A lot of that will probably hinge on
Speaker 1: what the Fed does and what happens to long term
Speaker 1: interest rates. And I'm gonna go out on a limb
Speaker 1: and guess that all you're listening to, Uh, Sam Bankman
Speaker 1: Freed podcast did not make you more bullish on crypto
Speaker 1: to talcate allocate anything crypto. Just gonna go out on
Speaker 1: a limb and guess that, Victor, how did play out
Speaker 1: in Obviously we have the benefit of hindsight, but how
Speaker 1: did it turn out in terms of what you had
Speaker 1: been expecting? Our approach to investing was was pretty good
Speaker 1: for our clients. Our clients, Uh, I don't know client
Speaker 1: returns until now are I don't know exactly the right
Speaker 1: number under ten percent of losses on average over the
Speaker 1: over the year, which is better than a sixty portfolio.
Speaker 1: It's it's much better than if they just had a
Speaker 1: static portfolio based on our baseline. But I am surprised
Speaker 1: by how sort of goldilocks things seem to be right
Speaker 1: now that the interest rates. You know that if we
Speaker 1: went back, you know, over a year ago, nobody saw
Speaker 1: four hundred basis points of four percent increases and interest
Speaker 1: rates coming we got that. Wow, that was a big surprise.
Speaker 1: And sure interest rates, long term interest rates are higher,
Speaker 1: but they're not so much higher. And people are expecting
Speaker 1: that the Fed is going to raise rates a bit
Speaker 1: more and then dramatically bring rates down by a couple
Speaker 1: of percent starting in the middle of next year and
Speaker 1: bringing them all the way back down because inflation is
Speaker 1: going to get under control and in all of this,
Speaker 1: we're not going to have a massive recession and companies,
Speaker 1: corporate earnings are gonna be okay. And uh so you
Speaker 1: know it. You know, I think that if I knew,
Speaker 1: if all that you told me was that, uh, you know,
Speaker 1: inflation picked up dramatically as it has done, and that
Speaker 1: economic growth had been strong, and that the FED raised
Speaker 1: rates by four percent, I would not have guessed that
Speaker 1: markets would look the way that they do right now.
Speaker 1: So it's been a surprise in that sense, and I
Speaker 1: suppose it almost always is, but yeah, it's quite surprising.
Speaker 1: They passed a loss somewhere Victor where we have to
Speaker 1: ask every guest about their their outlook for inflation. Uh,
Speaker 1: it's it's a new law. You don't strike me as
Speaker 1: the type of guy who's going to you know, try
Speaker 1: to predict where it's going, but rather react and and
Speaker 1: sort of play the cards on the table. Is that right?
Speaker 1: Or do you have an inflation uh forecast in mind? Well? Yeah,
Speaker 1: so I guess that, Um that that's you're you're right.
Speaker 1: I mean my starting point is to look at the
Speaker 1: break even inflation rate between tips and nomenal bonds. Is
Speaker 1: to you know, think about some of these surveys that
Speaker 1: come out where and that the break even show a normalization.
Speaker 1: They do. I mean, long term break evens are where
Speaker 1: they're they're under three percent. I mean we have what
Speaker 1: thirty you know, thirty year tips are around just over
Speaker 1: one percent, and thirty year nominal bonds are just below
Speaker 1: four percent. Right, So yeah, so we're you know, in
Speaker 1: the in the mid to high twos. But also there
Speaker 1: should be sort of a risk premium and all of that,
Speaker 1: right because to take inflation, you know, it's not really
Speaker 1: whatever that number is, it should be a bit of
Speaker 1: an overestimate of what people are really expecting for inflation.
Speaker 1: But that's you know, sort of mid twos. And then
Speaker 1: you know, these inflation surveys are coming out sort of
Speaker 1: mid twos as well. So I guess I wouldn't want
Speaker 1: to go too far out on a limb, but you know,
Speaker 1: I think that those are underestimates of what's going what
Speaker 1: we're going to see in terms of inflation, I think
Speaker 1: that the forces that gave us uh so much um
Speaker 1: low inflation or the deflationary forces of the last couple
Speaker 1: of decades have slowed a lot or have reversed in
Speaker 1: some global Yeah yeah, and uh so, you know, and
Speaker 1: I think that there are these lags, you know, like
Speaker 1: by the time that my barber actually I don't go
Speaker 1: to a barber, I just buzzed my own and if
Speaker 1: I did go into a barber, I know that for
Speaker 1: the barbers that I do know that you know, there's
Speaker 1: just a lot of uh businesses that haven't raised that
Speaker 1: haven't gotten around to raising prices yet. And uh you know,
Speaker 1: so I think there's still a lot a lot more
Speaker 1: that we'll see, at least in the nearer term, before
Speaker 1: it really pans out. Uh you know. I mean, things
Speaker 1: like oil are a big wild card in the whole thing.
Speaker 1: I mean, if oil comes down to thirty dollars a barrel,
Speaker 1: then yeah, you know, we're gonna see some some big
Speaker 1: changes some you know, a big downward move in in
Speaker 1: the headline inflation anyway. But assuming you know that things
Speaker 1: stay where they are, I think that I'd be a
Speaker 1: little bit more bearish on inflation than what the markets
Speaker 1: are telling us. Well, with that, Victor, the good news
Speaker 1: and maybe bad news for you, is that we can't
Speaker 1: let you go until you participate in our gimmick or tradition,
Speaker 1: not a gimmick tradition, both of the craziest thing we
Speaker 1: saw markets this we can it's it's you know, New
Speaker 1: Year's so it can be the craziest thing you saw
Speaker 1: in the past year. I'd say, so my craziest thing,
Speaker 1: it's probably not that crazy. And I've and when I've
Speaker 1: pointed this crazy thing out to people, I find that
Speaker 1: I get kind of like a bit of a negative
Speaker 1: reaction from them, even though I'm telling them some good news.
Speaker 1: And so maybe that's the really crazy part of what
Speaker 1: I'm going to say. But two thousand and twenty two
Speaker 1: has been a tough year for investors that you know,
Speaker 1: we've that you know, even if you're doing well, your
Speaker 1: portfolio is probably down ten to fifteen percent. Uh, you know,
Speaker 1: bonds are down close to fifteen percent, Equities are down
Speaker 1: close to fifteen percent. It's been hard to avoid being
Speaker 1: down ten to fifteen percent. And if you were really
Speaker 1: concentrated in some bad thing, the things that did poorly,
Speaker 1: then um, you would even be worse. But let's say
Speaker 1: you're down, you know, ten to fifteen percent on your portfolio. Well,
Speaker 1: then you say, gosh, you know, it's actually much worse
Speaker 1: than that, because uh, in real terms, UM down another
Speaker 1: eight percent because prices of everything are higher. Assuming that
Speaker 1: cp I is relevant rather than some other index that
Speaker 1: could be worse, although the haircut index would be better,
Speaker 1: and so uh. So you know, the the typical investor
Speaker 1: and myself, for instance, among them, Uh, you know I'm down.
Speaker 1: Uh let's say just over twenty on a real basis,
Speaker 1: that the real purchasing power of my wealth is down
Speaker 1: in two thousand and twenty two roughly. Well that sounds terrible,
Speaker 1: you know, that really is bad. But the crazy thing
Speaker 1: about it is that what we really care about is
Speaker 1: the real, the inflation adjusted real income stream, long term
Speaker 1: income stream that we can generate from our wealth. So
Speaker 1: our wealth is down in real terms, does that mean
Speaker 1: that we're gonna be able to spend less over the
Speaker 1: next thirty years. Well, actually, the surprise or the crazy
Speaker 1: thing is that because interest rates have gone up so
Speaker 1: much from a year ago from minus one percent to
Speaker 1: just over one percent today, and I'm talking again about
Speaker 1: real interest rates, that actually the long term income stream
Speaker 1: that we could generate from our wealth is probably ten
Speaker 1: percent higher than it was twelve months ago, which I
Speaker 1: think is just a crazy thing because everybody's sort of,
Speaker 1: you know, moping around like this sucks. You know, I'm
Speaker 1: down and then I'm down more because of inflation. But actually,
Speaker 1: uh and and and this result that the whole outlook
Speaker 1: for the pension industries is turned around because of this. Right. Oh,
Speaker 1: that's a great point. That's a really great way to
Speaker 1: see it, Right, is that pensions are less underfunded because
Speaker 1: their liabilities. That's a great point, which I kind of was,
Speaker 1: I forgot to bring that up, but that's a really
Speaker 1: great perspective to think about it. That for pension funds,
Speaker 1: they're better off in general because their liabilities have gone
Speaker 1: have been reduced by more than their assets. And and
Speaker 1: we're like little pension funds ourselves with our savings. So
Speaker 1: I think that's crazy. Who knew the s to the
Speaker 1: pension crisis was you know what the worst bear markets
Speaker 1: and stocks, and well, well if the you know, it
Speaker 1: doesn't have to be that way, if equities had gone
Speaker 1: down a lot more, if we were down in our portfolios,
Speaker 1: then we wouldn't be able to say that, you know
Speaker 1: that it's just that we're only down, you know, fifteen
Speaker 1: in real terms. It allows that to be the case.
Speaker 1: But I do think that the really weird part about
Speaker 1: it is what people's reactions are. It's like, leave me alone.
Speaker 1: I just want to be can't you just let me
Speaker 1: be miserable? I know I'm down. I don't believe you.
Speaker 1: This is ridiculous. You know, there's something wrong with your analysis,
Speaker 1: or maybe there's a tax effect that you're not talking about.
Speaker 1: But you know, I think that's kind of the funniest
Speaker 1: part about it is that it just it does not
Speaker 1: seem to It does not seem to make anybody happier.
Speaker 1: But I thought i'd share that. There's definitely a lot
Speaker 1: of other crazy things going on, and god knows what
Speaker 1: an options markets and and all of that, but this
Speaker 1: is the one that I feel sort of the most
Speaker 1: interesting and all and allows a year on a high
Speaker 1: note for sure. Well, let's hear Vildona. Have you ever
Speaker 1: had a pet rock? I am of the age where
Speaker 1: yes I did have. In fact, I think we made them.
Speaker 1: You have a collection fifth grade, uh, fifth grade art
Speaker 1: class or something. Uh. But I think I know where
Speaker 1: you're going with this one, and it's good. It's not
Speaker 1: it's not of the past year, but it's more representative
Speaker 1: of like the big stories of the past year. So
Speaker 1: Jamie Diamond from JP Morgan, he said, Crypto is like
Speaker 1: pet rocks, and I just love it because when you
Speaker 1: think of pet rocks, they're so they're cute, right, Yeah,
Speaker 1: and people, and I wanted to ask you if you
Speaker 1: had a pet rock? Of course I did. Yeah, there,
Speaker 1: he said, why do we allow this stuff to take place?
Speaker 1: The big things in the eighties were the parachute pants.
Speaker 1: I don't know what that is that they're like these
Speaker 1: vinyl I don't know what that like. Pants made out
Speaker 1: of parachute. No, my parents wouldn't wouldn't let me get any,
Speaker 1: so I didn't have been very hot. But now they're
Speaker 1: they're way past my time. But I've heard Crypto compared
Speaker 1: to the beanie I think the Beanie Babies is a
Speaker 1: better because there was an active market for beanie babies,
Speaker 1: and there was manipulated prices, you know, people trying to
Speaker 1: corner the market and all that. I don't know if
Speaker 1: pet rocks ever, what do people do with their pet rocks?
Speaker 1: I think he just sat it on your desk and
Speaker 1: then eventually making into the garden. Yeah, exactly right. I
Speaker 1: think there was a secondary market for Jamie. Jamie Diamond
Speaker 1: knows better than me. He maybe he's securitized. He's been
Speaker 1: hating on crypto for a long time, and he kind
Speaker 1: of warmed up a little bit there, but then he
Speaker 1: reverted back. He said great or something. He was he
Speaker 1: was right all along, probably, but all right, I like
Speaker 1: that one. That's pretty good. Alright, Well, don I'm gonna
Speaker 1: start mine with a tribute question. Do you know you
Speaker 1: know who Hugh Hefner is? Was Hugh Hefner a member
Speaker 1: of the two thousand Los Angeles Lakers. No, I was
Speaker 1: taking you that he was, like, probably he was. But
Speaker 1: he was the owner of a championship ring from the
Speaker 1: two thousand Los Angeles Lakers that was gifted to him
Speaker 1: by their owner at the time, what's the owner's name,
Speaker 1: Jerry Buss gave him there two thousand championship ring l
Speaker 1: A Lakers. I'll shave you a picture of it. It's
Speaker 1: the ugliest ring I've ever seen. This picture is perfect
Speaker 1: for the podcast. Cannot see it, we can describe it
Speaker 1: a little bit. It's like it's got all these diamonds,
Speaker 1: says World Champs. It's golden diamonds. Looks like something Mr.
Speaker 1: T would where you'd think just the intrinsic value of
Speaker 1: the raw materials in it. I think you know where
Speaker 1: we're going with this. Where we're going. I know where
Speaker 1: we're going. Victor probably doesn't. We're going to the prices precise.
Speaker 1: The price is precise. You have just traded it's it's
Speaker 1: up for auction, so we don't The price discovery on
Speaker 1: it is not perfect early bidding. Four days left in
Speaker 1: the bidding and mind you went. And this is where
Speaker 1: we're recording in the middle of December here, so uh
Speaker 1: keep that in mind. With Victors numbers about how down
Speaker 1: far down the market is this year, we could redouble
Speaker 1: that by the end of the year. Victor's gonna lookay, well,
Speaker 1: I can't let you see it, Victor, because you gotta
Speaker 1: get two bids in what do you suppose the prevailing
Speaker 1: bid is for Hugh Hefner's l a Lakers Championship ring.
Speaker 1: Remember this is that this is a heartbreaking team for me.
Speaker 1: That shack Kobe and they went on the dismant on
Speaker 1: my seventy six ers a few years later. This is
Speaker 1: the first of three three championships in a row for
Speaker 1: this team. Wow, and Hugh Heffner got a ring. I
Speaker 1: don't know. I'm going with one point seven five million.
Speaker 1: One point seven five million, okay, and remember playing prices precise,
Speaker 1: so if you go over, I win. Okay, all right,
Speaker 1: you just jumped out there right, all right. I was
Speaker 1: going to give a little more details that. Oh sorry,
Speaker 1: go ahead. Two bids in four days left in the auction.
Speaker 1: The auction house is SCP Victor. What do you think
Speaker 1: you can take? Just that was not a lot of
Speaker 1: extra good details SCP Southeby's or somebody else. I don't
Speaker 1: you know, that's a good question. I don't think so.
Speaker 1: I think it's some some um collectibles focused. Oh my gosh,
Speaker 1: this is such a tough one. I mean, I guess
Speaker 1: you've got the You know that that having Hugh Hefner's
Speaker 1: ring could be good or bad, you know, depending on
Speaker 1: and then but I you know, I'm just gonna have
Speaker 1: to go, I'm gonna say one more thing. Remember they
Speaker 1: won three more they won three championships. A lot of
Speaker 1: guys on the team, if even he was getting so
Speaker 1: it's not that rare, right, I was gonna say that
Speaker 1: there's a lot. Well I did say I was gonna
Speaker 1: go low. So I but I'm not gonna go I'm
Speaker 1: not gonna be obnoxious and just you know, undertake you,
Speaker 1: because that wouldn't be No. No, I'm gonna I'm going
Speaker 1: to go with what I was sort of thinking, because
Speaker 1: I think that's the honest thing to do. Like we
Speaker 1: probably should have written our things down. So I was like,
Speaker 1: I was gonna go something, you know, in the two
Speaker 1: fifty thousand range for it, you know, and and even
Speaker 1: thinking that's a little bit high. So that's where I
Speaker 1: would you always go for every time she hears the
Speaker 1: other bid, she wants to re point six millions. Okay,
Speaker 1: where is it? I will tell you something to remember
Speaker 1: in future episodes of The Prices Precise. Sometimes the crazy
Speaker 1: thing is that it's not as high as you think. Oh,
Speaker 1: come on, bucks, so far as just raw materials alone,
Speaker 1: that's gotta be uh, twenty grand worth of diamonds alone.
Speaker 1: I don't know. Yeah, you could get that ring and
Speaker 1: turn it into two nice earrings or something. So maybe
Speaker 1: to your point, Q is not you think I think
Speaker 1: in fairness though maybe you know that in a later
Speaker 1: podcast you'll say what it sold for and then then
Speaker 1: Bill Donna will be vindicated. It'll be it'll likely be
Speaker 1: higher that we can take all of our big podcast
Speaker 1: money and go, yeah, all this crazy money where sure,
Speaker 1: So there you go, that's my craziest thing. But can
Speaker 1: I say, because you always have auctions for craziest thing,
Speaker 1: and I would no, for sure, but I would think
Speaker 1: that the craziness there would have gone down since last year,
Speaker 1: and some of them have been obnoxiously crazy. You're right,
Speaker 1: You're right. They the froth is still there in the
Speaker 1: crazy market for some reason, and you know, maybe it's
Speaker 1: always there. I mean maybe some of these things, Uh,
Speaker 1: you're you're dealing with a different stratosphere of wealth and
Speaker 1: investors so that there's only so many to start with him.
Speaker 1: But the froth does seem to be coming down. In fact,
Speaker 1: a cousin of mine who lives in Los Angeles will
Speaker 1: be really happy if I mentioned he's been following classic
Speaker 1: car auctions and he's been noting that so many of
Speaker 1: the cars much more than in the past, or not
Speaker 1: getting to the reserve price, which you know is indicative
Speaker 1: of a market where the sellers are like, well, come on,
Speaker 1: this is a great car and should be at least
Speaker 1: worth this much. You know, and and and you know,
Speaker 1: we know that the auctioneers are trying to push them
Speaker 1: to make deals happen, but you know, we're we're in
Speaker 1: some sort of an adjustment period for sure. That's interesting. Yeah,
Speaker 1: it's funny the different lenses to look at the sentiment
Speaker 1: and market evaluation fascinating. Victor Haghani from ELM Partners so
Speaker 1: great to catch up with you and hear your thoughts.
Speaker 1: It's always very educational. Thank you so much for having
Speaker 1: me on the show. I really appreciate it. What goes up,
Speaker 1: We'll be back next week and so then you can
Speaker 1: find us on the Bloomberg Terminal website and app or
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Speaker 1: took the time to rate and review the show on
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Speaker 1: can find us on Twitter, follow me, at Rea Anonymous. Well.
Speaker 1: Donna Hirach is at Bildanna Hirach. You can also follow
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Speaker 1: by Stacy Wang. Thanks for listening. To see you next
Speaker 1: time than