Speaker 1: Bloomberg Audio Studios, Podcasts, radio News.
Speaker 2: Hello and welcome to another episode of the Odd Lots Podcast.
Speaker 3: I'm Joe Wisenthal and I'm Tracy Alloway.
Speaker 2: Tracy, I know, like everyone is like really into what's
Speaker 2: the hot stock these days? In video? How do I
Speaker 2: play the AI boom? It's interesting you can make a
Speaker 2: lot of money and get the right stocks. I love
Speaker 2: the general topic though, just like optimal portfolio construction. It
Speaker 2: seems like a fascinating puzzle to me, how to fit
Speaker 2: different types of assets together in one coherent thing.
Speaker 3: It almost felt to me like a study in behavioral science,
Speaker 3: almost because I think everyone always says, you know, just
Speaker 3: invest in an index fund and maybe sixty forty, although
Speaker 3: as we saw in twenty twenty two, that has its
Speaker 3: own problems and we can talk about that. But I
Speaker 3: think this is like the one area in people's lives
Speaker 3: where they actually crave complexity, right, Like it doesn't sound
Speaker 3: right to be like I just put your money in
Speaker 3: an index fund and forget about it.
Speaker 2: I know, it's like the simple It is like the
Speaker 2: simplest investing strategy is the hardest. Yeah, for people. It's
Speaker 2: really hard, though, Like when you see people making life
Speaker 2: changing the amount of money because like, oh, I was
Speaker 2: in you know, sand disc right, and suddenly everyone wants
Speaker 2: memory because of AI and they're up five hundred percent
Speaker 2: in the year. Is like damn, you know, like I'm
Speaker 2: really happy with my twelve percent year that I've been
Speaker 2: making Flood.
Speaker 1: I've really know.
Speaker 2: It's really hard.
Speaker 3: I was one hundred percent invested in a leverage doge eta.
Speaker 2: Yeah, right, Like if you did that and then you
Speaker 2: retired the next day, I'd be like really annoyed. I'd
Speaker 2: be like really upset. But it is a fun puzzle.
Speaker 2: You mentioned twenty twenty two, and we saw what we've
Speaker 2: seen really since COVID. What we've really seen since the
Speaker 2: worst inflation in forty years is that some of these
Speaker 2: portfolio constructions that work very well for a very long time,
Speaker 2: particularly anything that sort of resembles that sixty forty thing,
Speaker 2: which just worked so beautifully in the twenty tens, but
Speaker 2: even before it hasn't worked as well. I think you're
Speaker 2: still doing fairly well. But yeah, so it gets you
Speaker 2: the question is like, well, I remember we asked Bill
Speaker 2: Growth why I even own bonds at a time he
Speaker 2: was like, well don't Yeah, don't. He's like, I'm in
Speaker 2: I'm in pipelines, and that's where that's why I'm getting
Speaker 2: my or I'm in whatever MLPs or whatever, that's where
Speaker 2: I'm getting my yield. But yeah, I think there's some
Speaker 2: real question about like why own treasures, why own whatever, etcetera.
Speaker 3: Well, the other thing is timing. This is the thing
Speaker 3: that everyone has to consider. Right, So in twenty twenty two,
Speaker 3: if you were about to take out a big chunk
Speaker 3: of your portfolio to buy a house, or if you
Speaker 3: were a retiree and you needed to make some chunky payment,
Speaker 3: you were really really unlucky. In twenty twenty two if
Speaker 3: you were if you would take everyone's advice and invested
Speaker 3: in a sixty forty portfolio. So this is the other thing,
Speaker 3: Like you can try to smooth out returns, but your
Speaker 3: own spending is going to go up and down quite
Speaker 3: a bit.
Speaker 2: There's one other issue that I think a lot about
Speaker 2: with the very standard and it sort of relates exactly
Speaker 2: to this, with this sort of standard advice. So in
Speaker 2: theory is like we're not supposed to time the market.
Speaker 2: Buy the highs, you buy the lows, et cetera. Twenty
Speaker 2: twenty was a great time to buy. Merge twenty twenty
Speaker 2: would have been a fantastic time to buy. The problem
Speaker 2: is layoff surge, and there's this sort of phenomenon where
Speaker 2: often the best times to invest in the market or
Speaker 2: when you don't have a job and you don't really
Speaker 2: need money, and actually, yeah, they always say don't sell,
Speaker 2: don't panic sell at the bottom. There's a good chance
Speaker 2: that's when you might need to sell. That's maybe when
Speaker 2: you lose your job or something. The ability to sort
Speaker 2: of mechanically actually follow the rules setting aside behavioral stuff,
Speaker 2: just the ability to like have the income or have
Speaker 2: the ability to like hold through draw downs, buy the dips,
Speaker 2: et cetera, may not even be possible. Absolutely well, anyway,
Speaker 2: I'm excited to say, we really do have the perfect guest,
Speaker 2: someone we've had on the podcast before, also someone we've
Speaker 2: just known for a very long time. One of the
Speaker 2: most interesting thinkers in the realms of investing, in portfolio
Speaker 2: managing and so forth. A voice of sanity, i would say,
Speaker 2: which is very rare these days. We're gonna be speaking
Speaker 2: with Colin roch As, the founder of Discipline Funds, and
Speaker 2: he is the author of a brand new book called
Speaker 2: Your Perfect Portfolio about exactly this topic. Colin, thank you
Speaker 2: so much for coming back on the podcast.
Speaker 4: It's nice to see, nice to be here.
Speaker 2: Why did you write this book.
Speaker 4: Well, this is.
Speaker 5: A problem that I've always run into throughout running my business,
Speaker 5: is that I think as the portfolio manager and financial advisor,
Speaker 5: I've run into this issue where I'm trying to construct
Speaker 5: a model portfolio that is ideal for my business so
Speaker 5: that I can easily implement something and then kind of
Speaker 5: just plug and play it into client portfolios. And what
Speaker 5: I've realized over the course of managing money for you know,
Speaker 5: hourver long it's been now multiple decades, is that everyone's
Speaker 5: different and everyone needs their own level of customization, and
Speaker 5: so it's very hard to just take a model portfolio
Speaker 5: and then plug and play. And the kind of funny
Speaker 5: thing with the financial services industry is it's largely built
Speaker 5: around these ideas that you take a product and then
Speaker 5: you sell it to the client. And oftentimes what I
Speaker 5: find is that when you're trying to sell the product
Speaker 5: to the client, it just doesn't mesh with their needs.
Speaker 5: And so everyone needs to find their own perfect portfolio.
Speaker 5: So the book isn't titled The Perfect Portfolio, and the
Speaker 5: purpose of the book really is to what I do
Speaker 5: is I go through a number of famous portfolios, and
Speaker 5: some of them are very boring and some of them
Speaker 5: are more sophisticated. But the overarching ethos of the book
Speaker 5: is that you have to understand all these different approaches
Speaker 5: and then you can plug and play the way that
Speaker 5: you want to build your own perfect portfolio so that
Speaker 5: it works for you.
Speaker 3: One thing I'm curious about because I've never had a
Speaker 3: professional financial advisor or anything, but how do you actually
Speaker 3: evaluate your client's needs? It's like, what do those questions
Speaker 3: look like? I imagine you know, there's probably a lot of
Speaker 3: finances involved, but are there questions like how do you
Speaker 3: feel about losing forty percent of your portfolio in a
Speaker 3: single year?
Speaker 1: On?
Speaker 5: That's actually that's my my very favorite question, the question
Speaker 5: I hate the most because for I don't know, twenty years,
Speaker 5: I used to print out these phony risk profile questionnaires
Speaker 5: and I would send them to people and one of
Speaker 5: the questions as always, you know, how do you respond
Speaker 5: to a market that falls thirty or forty percent? And
Speaker 5: literally ninety eight percent of people will answer that question
Speaker 5: the exact same way because they know the right answer.
Speaker 4: They'll say, oh, I stay the course, I will buy
Speaker 4: the dip or whatever.
Speaker 5: And then COVID happens, and fifty percent of my clients
Speaker 5: are calling me like, this has never happened before.
Speaker 4: What the hell do we do now? This is terrifying.
Speaker 5: We need to sell everything, right, And I'm there even
Speaker 5: I'm looking at that and I'm kind of like, you know,
Speaker 5: cause in the throes of it, Yeah, that's the hard
Speaker 5: part about investing into a bear market, especially when it's
Speaker 5: actual going on.
Speaker 4: It all feels right, just justified totally, and you're looking
Speaker 4: at it.
Speaker 5: One of my favorite charts in the book is a
Speaker 5: chart of the Great Depression downturn, and it shows this
Speaker 5: like horrific eighty percent downturn where the market just went
Speaker 5: down like every month for basically three or four years,
Speaker 5: and it goes down a full eighty percent. And when
Speaker 5: you're in the throes of that sort of thirty or
Speaker 5: forty percent downturn that we saw, say during the GFC
Speaker 5: or during COVID, you're thinking to yourself, well, wait a minute,
Speaker 5: I know that the market has gone down sixty seventy
Speaker 5: eighty percent in the past, so if we're at forty
Speaker 5: that means we probably have another you know, forty percent
Speaker 5: haircutter coming down the line. And so that's the psychology
Speaker 5: of it when people are actually in the middle of it,
Speaker 5: and I remember it vividly during COVID, because even people
Speaker 5: like Buffett and Bill Gates, like some of the most
Speaker 5: practical thinkers in the world, they're sitting around there saying,
Speaker 5: this has never happened before, We've never seen this, No
Speaker 5: one living has seen what is going on right now,
Speaker 5: and so it all feels rational. And then, you know,
Speaker 5: so from a risk profiling perspective, it's really difficult because
Speaker 5: that sort of subjective nature of it all is really
Speaker 5: sort of irrelevant because when you're actually in it, it
Speaker 5: all will feel totally rational.
Speaker 4: Now.
Speaker 2: I remember thinking that even like obviously April of last year,
Speaker 2: during the brief but very sharp sell off after liberation. Yeah,
Speaker 2: and it's like, well, Trunk just changed the rules of capitalism.
Speaker 2: This is gonna be different. This is really different. Or
Speaker 2: going back to COVID, like we all say we're gonna
Speaker 2: just hold through the downturn, but in that moment we're like, oh, no,
Speaker 2: this isn't really this is well, this is not like
Speaker 2: the other cell. This is different.
Speaker 1: This is not like dot.
Speaker 2: Com or there was just an overvaluation. This is not
Speaker 2: like nineteen ninety one when we had a fed engineered recession.
Speaker 2: This is something different. The old rules about buying and
Speaker 2: holding must not apply this.
Speaker 5: Yeah, it's funny, you know, I see a lot of
Speaker 5: people get mocked. A lot of the analysts back then,
Speaker 5: where you know, they were changing their estimates and they
Speaker 5: kind of, you know, after the tariffs more or less
Speaker 5: got scrapped, they then you know, up their estimates for
Speaker 5: the year end targets, and in retrospect that looks kind
Speaker 5: of stupid, but in the throes of it, if you remember,
Speaker 5: like they were saying they were going to replace the
Speaker 5: income tax. Yeah, like I'm writing, you know, they're doing
Speaker 5: the math on that, and I'm like, wait a minute,
Speaker 5: that's a two point five trillion dollar corporate or tax increase.
Speaker 4: Like that's a.
Speaker 5: Gigantic number of incredibly frightening number if it's true. And
Speaker 5: then you know, of course the CEOs of Home Depot
Speaker 5: and Target and all them walk into the White.
Speaker 4: House and are like, do not do this.
Speaker 5: And so they're still doing the tariffs, and they're still impactful,
Speaker 5: and they're still a corporate tax and whatnot, but they're
Speaker 5: not nearly the size that you know they were going
Speaker 5: to be, you know that they were claiming to be.
Speaker 5: And so that frightening moment where you know, they announced that,
Speaker 5: you know, got quickly scrapped when they were kind of
Speaker 5: reversed course on it.
Speaker 3: I feel like we should note here that we're recording
Speaker 3: on January eighth, and we are expecting the Supreme Court
Speaker 3: to make a decision of the tariffs, so the entire
Speaker 3: game could change again. Now you mentioned the Great Depression,
Speaker 3: and one thing I thought was really interesting in the
Speaker 3: book is you talk about how no one really quite
Speaker 3: knows the origins of the sixty forty portfolio, even though
Speaker 3: it's become fairly standard in finance, but you trace it
Speaker 3: back to the Great Depression. So tell us how you
Speaker 3: did that.
Speaker 5: Yeah, well, I don't know if I did do it correctly,
Speaker 5: but it was kind of a guess. But I found
Speaker 5: that so fascinating that sixty forty is arguably the most
Speaker 5: famous portfolio of all the portfolios, and we all probably
Speaker 5: own something that kind of looks like sixty forty at
Speaker 5: some point in our lives and It was actually Corey Hofstein,
Speaker 5: who manages the return Stacking ETFs, that he asked on
Speaker 5: Twitter one day, where did this thing come from? And
Speaker 5: there were hundreds of responses, and none of them.
Speaker 4: Seemed to write.
Speaker 5: And so I just had so happened to be writing
Speaker 5: the book at this time, and I'm writing the chapter
Speaker 5: on sixty forty, and I started digging into it and
Speaker 5: I found the story about this guy named Walter Morgan
Speaker 5: who's running a fund called the Wellington Fund. And Wellington Fund, obviously,
Speaker 5: you know, famous because it turned into a Vanguard fund later,
Speaker 5: is run by John Bogel, who some people may have
Speaker 5: heard of. And he's doing this though in a very
Speaker 5: unusual way back in the depression, where during the Depression,
Speaker 5: equity investing was kind of the dominant.
Speaker 4: Way to actually allocate assets.
Speaker 5: And Morgan had been burned before that, so he goes
Speaker 5: into the Great Depression. He launches the Wellington Fund right
Speaker 5: before the depression, but he does something really unusual. He
Speaker 5: adds a huge chunk of bonds to the portfolio. And
Speaker 5: the thing gets crushed in the depression, but it gets
Speaker 5: crushed way less than everything else got crushed. And so
Speaker 5: then all of these research analysts are starting to look
Speaker 5: at you know, kind of you know, picking through the
Speaker 5: dust of the Great Depression and the returns there, and
Speaker 5: they're noticing that, hey, this fund did really well in
Speaker 5: a relative sense. So Morgan's fund kind of takes off
Speaker 5: because of this because the relative performance was so good.
Speaker 5: And then the story is interesting because then Walter Morgan
Speaker 5: hires Don Bogel. Bogel runs the Wellington Fund through the
Speaker 5: fund goes through the World War Two and the boom
Speaker 5: of the nineteen sixties and then the scary inflation of
Speaker 5: the nineteen seventies. Bogel actually does something really weird. He
Speaker 5: turns the fund closer into like an eighty twenty fund
Speaker 5: kind of chasing performance and which was sort of like
Speaker 5: antithetical to everything that Bogel ultimately is kind of known for.
Speaker 5: And then we all know the story from there. The
Speaker 5: sixty to forty from nineteen eighty to present day has
Speaker 5: been you know, kind of like one of the best
Speaker 5: performing portfolios ever. So it's you know, through all of
Speaker 5: these trials and tribulations, though this portfolio has done incredibly well,
Speaker 5: and I traced its origin mostly back to the Great
Speaker 5: Depression in the way that Wellington Fund.
Speaker 4: Was sort of built as the first real balanced Indeth fund.
Speaker 2: It's actually a zoom out or back up a little
Speaker 2: bit and talked theory because you said that many of
Speaker 2: us or most of us will have some portfolio that
Speaker 2: is sixty forty ish, but that there's gonna be various
Speaker 2: modifications and people are gonna want a slug of real
Speaker 2: estate or commodities whatever. But what are you talking about,
Speaker 2: maybe from the academic perspective, like what is the sixty
Speaker 2: forty portfolio really is? And like what is it theoretically
Speaker 2: achieve that is given it this sort of it's Lindy,
Speaker 2: this sort of enduring effect that it accomplishes goal. Talk
Speaker 2: to us about like why from the perspective of a planner,
Speaker 2: maybe it's not perfect for everyone, but it has certain qualities.
Speaker 2: This is a good portfolio to me.
Speaker 4: The sixty forty is like the good enough portfolio.
Speaker 2: So it just to be just to define it, So
Speaker 2: a sixty forty portfolio means basically sixty percent equities and
Speaker 2: forty percent treasuries exactly, Okay, but talk about why it's
Speaker 2: good enough? What are the properties of it?
Speaker 5: So it's the portfolio of that by owning sixty percent stocks,
Speaker 5: you will you'll do well enough, you'll capture enough of
Speaker 5: an equity market bull market, and also conversely, during a
Speaker 5: bear market, because of the forty percent bond slice, you
Speaker 5: typically will buffer the equity volatility in the portfolio just
Speaker 5: enough that you won't capture all of the downside. And
Speaker 5: so it's it is balanced in this way that it
Speaker 5: doesn't capture all of the upside or all of the downside,
Speaker 5: and kind of can help.
Speaker 4: You stay the course.
Speaker 5: I talked specifically in one chapter about something called the
Speaker 5: global financial asset portfolio, and I really like understanding this portfolio,
Speaker 5: especially from like a theoretical perspective, because the most interesting
Speaker 5: thing about it actually is that nobody owns this portfolio
Speaker 5: because it's mostly uninvestable or you can't fully invest it,
Speaker 5: and it's actually, you know, I talked to a lot
Speaker 5: of famous researchers about this topic when I was researching
Speaker 5: the book, and they all kind of concluded that the
Speaker 5: screwiest part about actually quantifying that portfolio is that it's
Speaker 5: actually really controversial how to quantify it because all of
Speaker 5: the assets in that portfolio are not investible. So for instance,
Speaker 5: like China A shares are not necessarily investible for foreign investors,
Speaker 5: and there's lots of assets that are held by you know,
Speaker 5: the Swiss National Bank owns a lot of assets that
Speaker 5: make the assets then uninvestable.
Speaker 4: And so you know, the FED has been buying a
Speaker 4: lot of treasury bonds.
Speaker 5: So technically you could say, you know, what happens to
Speaker 5: the market cap of outstanding bonds when the FED is
Speaker 5: the owner of a lot of these bonds, And you
Speaker 5: can start getting into these sort of very academic theoretical
Speaker 5: debates about well, what is the market portfolio and what's
Speaker 5: actually investable versus uninvestable. And it's especially interesting from like
Speaker 5: a theoretical.
Speaker 2: And in theory that portfolio includes like gas stations in Burma.
Speaker 5: Right, yeah, well, god, if you go into all of
Speaker 5: the assets, you know, I did financial assets only, so
Speaker 5: I kind of excluded all the non financial.
Speaker 4: Assets so things.
Speaker 5: Cause then the whole portfolio kind of turns into a
Speaker 5: real estate portfolio. It's basically everybody's houses is everything that
Speaker 5: we own. But from a financial asset perspective, it was
Speaker 5: really interesting because especially when you look at things like
Speaker 5: the full cap versus the free float, which is basically
Speaker 5: the actual assets, you can invest in versus the portfolio
Speaker 5: that is actually the issuance of outstanding financial assets. These
Speaker 5: portfolios are really different. And like, for instance, in today's environment,
Speaker 5: the outstanding market cap of stocks versus bonds is roughly
Speaker 5: sixty five thirty five. And when you look at the sorry,
Speaker 5: the equity market, when you look at the US versus four,
Speaker 5: and it's sixty five versus thirty five. But when you
Speaker 5: look at the actual issuance, the full cap, it's almost
Speaker 5: the opposite. And so the US is way smaller from
Speaker 5: a full issuance perspective, but from an actual investible perspective,
Speaker 5: the US is you know what we call like this
Speaker 5: extraordinary market, this unusual, huge part of the full market cap,
Speaker 5: and which is weird to think of because when Vanguard
Speaker 5: and some of these big index funds create these products,
Speaker 5: they have to issue what is investable. They can't just
Speaker 5: say theoretically, like I sometimes will tell my clients, well, hey,
Speaker 5: if you want to actually own the true market cap
Speaker 5: portfolio or the market issuance portfolio, you should actually be
Speaker 5: closer to like forty percent US. You should be underweight
Speaker 5: the US market versus four and in this environment, because
Speaker 5: that actually is representative of the full issues, whereas if
Speaker 5: you're Vanguard and you're running this index and you have
Speaker 5: to buy what has actually been issued, it's almost the
Speaker 5: exact opposite and you real way overweight US. So you
Speaker 5: get into these interesting sort of like theoretical debates about
Speaker 5: how to even do this.
Speaker 3: In the first place, I want to talk more about
Speaker 3: illiquid assets like real estate, because for most people this
Speaker 3: is their biggest investment, right their actual house. But before
Speaker 3: I do, you just reminded me gold. So in the
Speaker 3: book you talk about gold as like one of the
Speaker 3: true uncorrelated assets, but of course over the course of
Speaker 3: last year, it looks like a momentum stock, right, how
Speaker 3: are you judging gold at this moment in time.
Speaker 5: You know, gold and commodities are really hard to compartmentalize
Speaker 5: in the portfolio construction process because I typically think of
Speaker 5: commodities in general as they're just they roughly track inflation
Speaker 5: because they are just cost inputs, and you know corporate
Speaker 5: you know costs, and so they should roughly reflect something
Speaker 5: close historically to the rate of inflation, which is pretty
Speaker 5: close to what the data shows.
Speaker 4: Gold is a really screwy.
Speaker 5: One because gold has this whole other element to it
Speaker 5: where there's huge swaths of the population that view gold
Speaker 5: as money, even though you know, in a modern monetary system,
Speaker 5: you could argue that gold is actually a pretty terrible
Speaker 5: form of money just because it's impractical to use for
Speaker 5: the most part, it's got this store of value in
Speaker 5: this sort of I refer to it as a faith
Speaker 5: put inside of it where it's price almost gets like
Speaker 5: a premium because it's not just an input and cost inputs.
Speaker 5: It is something that people believe in, that people hold
Speaker 5: and people have demand for because it's got this other
Speaker 5: strange use, and so it's weird in the context of
Speaker 5: today's environment.
Speaker 4: Another concept I.
Speaker 5: Talk about is I talk a lot about time and
Speaker 5: the book about how important it is to think about
Speaker 5: portfolios and asset performance across time horizons. And you know,
Speaker 5: I do a lot of asset liability matching, and that
Speaker 5: basically entails working with somebody where I'm quantifying liabilities and
Speaker 5: expenses over time horizons and I'm matching assets and not
Speaker 5: just a similar way to like maybe a big pension
Speaker 5: fund would or banks might operate. And that's all about
Speaker 5: understanding time and an asset liability mismatch.
Speaker 4: And if you get that wrong, you end up like
Speaker 4: Silicon Valley.
Speaker 3: Bank, and which you talk about in the book.
Speaker 4: Yeah.
Speaker 5: And the interesting thing about even like a retail investor,
Speaker 5: you know, and it took me for, you know, two
Speaker 5: decades working in the business to realize this that the
Speaker 5: better way to go through a risk profiling process is
Speaker 5: not to ask people phony questions about this subjective nature
Speaker 5: of how they feel in a bear market.
Speaker 4: Or something like that. It's figuring out it's solving that.
Speaker 5: Asset liability mismatch, because what happens to an investor when
Speaker 5: they go through a bear market is they're realizing that
Speaker 5: they own too much of I refer to equities as
Speaker 5: long duration instruments. Corporations are very long term entities by design,
Speaker 5: by function. And when someone owns one hundred percent and
Speaker 5: stock portfolio and they go through a big bear market,
Speaker 5: what happens to them is they get scared. They're realizing,
Speaker 5: I don't have enough safe assets to make me feel
Speaker 5: comfortable with this. So if they own the forty percent
Speaker 5: slights like the sixty forty, maybe they feel more comfortable.
Speaker 5: Or if they own you know, there's a whole chapter
Speaker 5: on what I call the t bill and chill portfolio,
Speaker 5: which is like the liquid reserve portfolio.
Speaker 2: You know, I heard a story I don't know if
Speaker 2: it's true, speaking of T Bill and Chill. Though I
Speaker 2: don't know if it's true, because I heard the second hand.
Speaker 2: Someone was telling me there's like some famous, like very
Speaker 2: very successful trader like Goldman Sachs. There's like trading commodities,
Speaker 2: pulling down millions and millions of dollars each year, and
Speaker 2: he just like had all his money in T Billy.
Speaker 2: So look, look, I make a ton of money. I
Speaker 2: just like basically want to save it. I don't know
Speaker 2: if that's even true, but I do wonder. So when
Speaker 2: you were talking about alternate ways of assessing risk profile,
Speaker 2: do you think about like try to get a sense
Speaker 2: of the client's income volatility. So like maybe someone who
Speaker 2: you know, a federal judge, who is going to have
Speaker 2: a job for life, et cetera, at a guaranteed pension.
Speaker 2: Maybe they don't make a ton of money, but you
Speaker 2: are very confident that you could predict their income for
Speaker 2: the next fifty years. Maybe we're as somebody who makes
Speaker 2: a lot of money, but they're like a real estate
Speaker 2: developer in Miami, and the odds of those guys going
Speaker 2: broke every ten years is pretty high, et cetera. Talk
Speaker 2: to us about like sort of that role of calculating
Speaker 2: expected in yours.
Speaker 5: It's arguably, I would say, the most important part of
Speaker 5: the whole equation, because one of the things I talk
Speaker 5: about in the book is I frame your human capital
Speaker 5: and your income as a literal fixed income allocation. So
Speaker 5: I almost like to think of your income and your
Speaker 5: job as like a bond allocation. And so in the
Speaker 5: context of like, you know, someone like you're talking about,
Speaker 5: or let's use an even simpler example of someone who's
Speaker 5: you know, twenty five and they make a decent amount
Speaker 5: of money. That person not only has a really long
Speaker 5: time horizon, but if they've got a really stable job,
Speaker 5: they've got this embedded fixed income allocation that maybe they
Speaker 5: don't actually quantify it like that on a folio statement,
Speaker 5: but that.
Speaker 2: Has a net present value there exactly.
Speaker 4: You know.
Speaker 5: So if the really simple example is if you make
Speaker 5: one hundred grand a year in you know, you can
Speaker 5: almost think of that as I've got a million dollar
Speaker 5: bond that earns ten percent a year. And what that does,
Speaker 5: especially if it's a very stable fixed income, it frees
Speaker 5: up a huge amount of behavioral bandwidth for you to
Speaker 5: take other risks. And that's one of the arguments why
Speaker 5: if you're twenty five and you've got, you know, forty
Speaker 5: years to retirement or whatever, and you've got a stable,
Speaker 5: you know, solid income, well you can think of your
Speaker 5: income versus your balance sheet as being super stable, which
Speaker 5: allows you to take a lot of risk with your
Speaker 5: balance sheet that you might not otherwise have. And that's
Speaker 5: another thing I talk a lot about retirement planning in
Speaker 5: the book because the thing that I've seen very front and.
Speaker 4: Center is that when people get close.
Speaker 5: To sixty five, that income issue becomes hugely important because
Speaker 5: people start to realize that, oh crap, that fixed income
Speaker 5: allocation that I've had all these years, it's about to
Speaker 5: just disappear overnight, or it's about to shrink down to
Speaker 5: whatever your Social Security income is or whatever. And so
Speaker 5: people go through this sort of psychological mind trip where
Speaker 5: when they near retirement and then enter retirement, they struggle
Speaker 5: with that, you know, adapting to this big, big change
Speaker 5: in their income because they're realizing that, hey, I don't
Speaker 5: have this fixed income that I could fall back on
Speaker 5: for the last forty years.
Speaker 3: Is investing time horizon more important than macro because in
Speaker 3: the book you do talk about the importance of macro.
Speaker 3: But on the other hand, if people are reacting to
Speaker 3: a changing economy all the time, then that looks a
Speaker 3: lot like what you're not supposed to do, right.
Speaker 5: Yeah, I mean, gosh, I generally, in my practice I
Speaker 5: am constantly trying to downplay macro econ and geopolitics and
Speaker 5: things like that.
Speaker 4: I mean, it's funny. You know.
Speaker 5: The reason that I probably even know you guys is
Speaker 5: because I've written so much about macro econ and I'm
Speaker 5: not any economists, but people I think sometimes think of
Speaker 5: me as a macro thinker, in large part because I've
Speaker 5: spent so much of my career fielding bad questions about
Speaker 5: you know, hey, is the US government going bankrupt? Or
Speaker 5: you know, what is going on with China? And I'm
Speaker 5: trying to sort of write about this stuff not because
Speaker 5: it's important in the context of portfolio construction, but because
Speaker 5: it's more so about understanding how these things operate at
Speaker 5: more of a sort of a first principles level, where
Speaker 5: you can look at a bond allocation if you own
Speaker 5: a huge slug of you know, US Treasury bonds, for instance,
Speaker 5: or tea bills. You know, you can look at these
Speaker 5: things when you understand them more mechanically.
Speaker 4: You can look at these things and.
Speaker 5: Say, Okay, well, the odds of the US government actually
Speaker 5: going bankrupt are extraordinarily low because I understand how these
Speaker 5: things function. I understand that the US government is not
Speaker 5: going to run out of money. I understand that, you know,
Speaker 5: maybe bond vigilantes aren't quite as powerful as we've all
Speaker 5: been told. And you can understand these things in the
Speaker 5: context of owning something so that you're more comfortable with
Speaker 5: what you're doing. And that's actually the hardest part about
Speaker 5: all of this is that it's all very complex, and
Speaker 5: it's all very emotional, and if you don't understand what
Speaker 5: you own, then you won't be comfortable with it and
Speaker 5: you won't stick with it.
Speaker 2: Let's talk about real estate. I bought a house at
Speaker 2: twenty sixteen. I think it's done all right, but then
Speaker 2: sometimes I'm like, man, I really wish I just put
Speaker 2: that all into QQQ or something like that. And then
Speaker 2: the other thing with houses that I think is interesting,
Speaker 2: which is like you could look at maybe I'll say,
Speaker 2: you own a house outright and it's like, oh, it's
Speaker 2: worth a million dollars or something like that, you can't
Speaker 2: really sell it because then you have to buy a house,
Speaker 2: and so it's like I'm not even sure, like I
Speaker 2: got to live somewhere and so I don't know, you
Speaker 2: can't monetize that to the same degree you could, you know,
Speaker 2: sell your stock and buy stuff.
Speaker 4: But talk choice.
Speaker 2: About how one should think. Let's start this, how one
Speaker 2: should think about the role of their home in their polio.
Speaker 5: It's the hardest asset to buy, I think, because it
Speaker 5: is it's an instrument that you want to generate a
Speaker 5: return on. So you want to do like some financial
Speaker 5: analysis on it, and you know, try to Nobody wants
Speaker 5: to buy a house in you know, two thousand and
Speaker 5: seven or something and then see it go down thirty percent.
Speaker 4: But also, your house is where you live.
Speaker 5: It's where you're going to raise your kids, and you're
Speaker 5: going to eat most of your meals, and where you're
Speaker 5: gonna do all the little boring things in life that
Speaker 5: are actually really important to you. And so there's this
Speaker 5: really personal part of it that it makes the to
Speaker 5: some degree, it throws all the financial math out the window.
Speaker 5: But from a basic you know, first of all, going
Speaker 5: back to your twenty sixteen purchase, I would say, you.
Speaker 4: Know, that was unbelievable timing because.
Speaker 2: Oh, thank you, the thank you.
Speaker 5: You could argue that going through COVID, I mean, any
Speaker 5: house that was leveraged, did you have a mortgage? Yeah, yeah,
Speaker 5: So any house that was leveraged was the best inflation hedge, right,
Speaker 5: maybe maybe the best inflation heads trade of the last
Speaker 5: fifty years, you could argue just in terms of just
Speaker 5: providing this stable level of certainty.
Speaker 4: You know, the low mortgage is an inflation hedge.
Speaker 5: The you got fifty percent price appreciation or probably something
Speaker 5: like that. So that's interesting too to think about that
Speaker 5: when you know, kind of going back to the question
Speaker 5: on gold that I didn't fully answer, what happens when an.
Speaker 4: Asset goes up so much in the short term.
Speaker 5: The way I like to think of it, at least
Speaker 5: is that, let's say that housing typically generates a low
Speaker 5: real return, or you know, even historically it hasn't generated
Speaker 5: a real return. The way that I like to think
Speaker 5: about things like that, or environments where you get these
Speaker 5: what I call a price compression, you get a huge
Speaker 5: boom in an asset class and it's almost easier to
Speaker 5: think of this in like a fixed income market, where
Speaker 5: like when the bond market goes down, a lot interest
Speaker 5: rates go up, the math completely changes on all. So
Speaker 5: a lot of people these days are saying, like, bonds
Speaker 5: are dead, and I would say, like, no, bonds are
Speaker 5: actually probably more attractive because mathematically, from a yield perspective,
Speaker 5: relative to the falling price decline, the future returns are
Speaker 5: much more stable now, much more probable. And so what
Speaker 5: happens in an environment where you get a fifty percent
Speaker 5: increase in real estate or you know, what was gold
Speaker 5: up last year sixty five percent? You know, let's say
Speaker 5: that let's just be generous and say gold is going
Speaker 5: to continue to do eight percent per year for the
Speaker 5: next you know, however many years when you get sixty
Speaker 5: five percent of that return all crunched down into one year,
Speaker 5: I think what happens is you create a higher probability
Speaker 5: of what a financial advisor would call sequence of returns risk,
Speaker 5: which means that the probability that the future returns are
Speaker 5: going to be much more volatile becomes much higher. And
Speaker 5: so that's one thing with real estate is that, like,
Speaker 5: I'm not super optimistic about future real estate prices for
Speaker 5: now because we went through this big boom, it creates
Speaker 5: this price compression and you get lots of returns into
Speaker 5: one year, all crammed up, and that means that the
Speaker 5: likelihood of either sideways or you know, not great returns
Speaker 5: is pretty probable. So you know, going forward, you know,
Speaker 5: I think that it's good to think of your house
Speaker 5: as basically a it's a block of commodities on an
Speaker 5: appreciating piece of land. And you know, the thing that's
Speaker 5: important with real estate is I talk about this a
Speaker 5: lot in the book, that you have to think of
Speaker 5: everything in terms of real real returns, and that means
Speaker 5: you have to back out inflation and you have to
Speaker 5: back out all the other costs. And that's the thing
Speaker 5: that you know. I have probably the worst housing story
Speaker 5: in the world because in twenty seventeen I bought a
Speaker 5: house in California that had a small waterway on it
Speaker 5: and without knowing that, which I should have probably known.
Speaker 5: In the state of California, anything with water on it
Speaker 5: in the state of California is basically the biggest permitting
Speaker 5: nightmare that you could possibly imagine. It gets the EPA involved,
Speaker 5: it gets the Coastal Commission involved, It gets the state
Speaker 5: Department Official Wildlife involved, and all of a sudden you
Speaker 5: get an introspective look at you know, how all these
Speaker 5: government agencies work together.
Speaker 3: And now I'm really curious, what were you try to do.
Speaker 4: We were literally just trying to remodel the house, so
Speaker 4: we bought this.
Speaker 3: Old You weren't touching the water at all.
Speaker 5: No, we weren't touching the water at all. And in fact,
Speaker 5: the water is not even I mean San Diego gets
Speaker 5: ten inches of rain a year, so you know, that's
Speaker 5: very very little rain, and so this water away we
Speaker 5: call it is really it only has water in it,
Speaker 5: I mean ten days a year something.
Speaker 4: It's crazy. It's dry. It's not like it's a lagoon
Speaker 4: or something.
Speaker 2: So why is it how you're a libertarian?
Speaker 4: Arc?
Speaker 5: Yeah, Well, it's really funny because my wife is very,
Speaker 5: very liberal, and we were going through the permitting process
Speaker 5: and she was like, these people are.
Speaker 4: Trying to turn me into a libertarian. I get it.
Speaker 3: Oh, Actually, since you've brought up your wife, I got
Speaker 3: to ask. There's a bit in the book where you
Speaker 3: talk about marrying a portfolio, and then you have a
Speaker 3: tiny footnote that says apologies to my wife, and then
Speaker 3: it says, I'm just testing if my wife actually reads this.
Speaker 3: Did she read it?
Speaker 4: She caught it.
Speaker 5: She actually was the first editor of the books, so
Speaker 5: she and she did go through it, and she caught it.
Speaker 5: She didn't just am it all through GPT, which she
Speaker 5: kept trying to convince me to do.
Speaker 4: But no, it's funny.
Speaker 5: There's another footnote about my mother in law there that
Speaker 5: she has not caught yet.
Speaker 3: Oh what's that one? I didn't see that one.
Speaker 5: So she got trapped with us during COVID, and I
Speaker 5: make the joke that I had just had my first
Speaker 5: daughter right after COVID, and you know, the shutdown happens,
Speaker 5: the international travel shutdown happens. She lives in France, so
Speaker 5: she was just happened to be visiting us for the
Speaker 5: baby's arrival, and she gets trapped with us for six months.
Speaker 5: And I'd make this joke about how I was crying
Speaker 5: in the shower every morning, not because.
Speaker 3: Of the baby, screaming into a sock. I think he said,
Speaker 3: just going back to bonds for a second, it is
Speaker 3: true that you know, you see investors behave in exactly
Speaker 3: the opposite way that they should be behaving when it
Speaker 3: comes to bonds. If you like bonds at a two
Speaker 3: percent yield, you should love them at like a seven
Speaker 3: percent yearld. Talk a little bit more about you know,
Speaker 3: what you're talking about just now with gold and real
Speaker 3: estate is a momentum factor, right, and momentum seems to
Speaker 3: have done very very well over the past few years.
Speaker 3: I mean, this is why we say flows before pros, right,
Speaker 3: Can we just follow what everyone else is doing? That
Speaker 3: seems to be the way now, yeah, I.
Speaker 5: Gosh, I mean there's there's momentum. There's the momentum factor
Speaker 5: and the momentum factor. And this is the more academic
Speaker 5: version of your portfolio construction where in the factor investing
Speaker 5: chapter I talk very specifically about you know, it's called
Speaker 5: cross sectional momentum basically, and this is basically picking the
Speaker 5: stocks that have performed well in the past with the
Speaker 5: expectation that they continue to perform well in the future,
Speaker 5: and they weirdly, the data actually shows that that is
Speaker 5: a thing, and so it frustrates people like Gene Fauma
Speaker 5: of the efficient market hypothesis. But it's interesting because in
Speaker 5: the context of today's world, that momentum factor is basically
Speaker 5: just everything tech, everything that's performed the best, and so
Speaker 5: you're which has you know, weirdly continued to work and
Speaker 5: work and work throughout the years, and.
Speaker 3: So you get this like self reinforcing cycle, right.
Speaker 1: Yeah.
Speaker 5: And there's also you know, the one chapter that I
Speaker 5: actually thought was almost even more interesting than the momentum
Speaker 5: one is one that's related, which is called the trend
Speaker 5: following chapter, and that is very different in the sense
Speaker 5: that these guys, these traders are they're not necessarily just
Speaker 5: looking at the past and trying to you know, they're
Speaker 5: not picking stocks necessarily and then extrapolating it into the future.
Speaker 5: These guys are just trying to find trends and they're
Speaker 5: looking maybe they're looking at you know, chart data or whatever,
Speaker 5: and they're it's a go anywhere strategy. So one of
Speaker 5: the most interesting things about this strategy is that it
Speaker 5: is one of the truly fully uncorrelated strategies to everything else,
Speaker 5: and it's had this sort of big resurgence in the
Speaker 5: last It became very popular after the GFC because it
Speaker 5: beat the pants off of everything and was uncorrelated, had
Speaker 5: these huge asymmetric returns, and then went through this period
Speaker 5: of like a ten year lag, and it had kind
Speaker 5: of like what I was referring to earlier, where you
Speaker 5: had this like you had that price compression. The trend
Speaker 5: following things all went up, all these CTA funds go up,
Speaker 5: you know, fifty one hundred percent, and then.
Speaker 4: They all lag and they lagged for a long time.
Speaker 5: And that's the thing about finding uncorrelated assets that that
Speaker 5: sometimes these uncorrelated instruments, they're not like cash flow generating
Speaker 5: instruments like stocks and bonds necessarily, so the trend followers, though,
Speaker 5: they go through this ten year period of lagging, which
Speaker 5: exposes people to all these behavioral biases.
Speaker 3: I remember, CTAs also became a really convenient scapegoat for
Speaker 3: anything that was happening in the market. They were like
Speaker 3: the multistrats.
Speaker 1: Yeah today, right, I.
Speaker 2: Forgot how much we used to talk about Ctyes in
Speaker 2: the early twenty tens. Is an important driver. Actually, can
Speaker 2: we talk a little bit about tech talks for a second,
Speaker 2: because this strikes me is very important and I think
Speaker 2: about this all the time. You know, you see these
Speaker 2: surveys that Bank of America does of fund managers, like
Speaker 2: what's the most crowded trade in the world?
Speaker 3: Tech?
Speaker 2: They've been saying that since like thirteen, you know, and
Speaker 2: it still just performs and all these other there are
Speaker 2: all kinds of other knock on things.
Speaker 4: You know.
Speaker 2: It's like people talk about US versus international exposure, but
Speaker 2: at the end of the day, this is just a
Speaker 2: bet on tech when we're talking about the US and
Speaker 2: the other thing I think about tech a lot is
Speaker 2: that setting aside sort of theories of portfolio construction, these
Speaker 2: companies make gobs of money, and they make more and
Speaker 2: more and more and more each year.
Speaker 4: You know.
Speaker 2: We recently did an episode and Ben Snyder, the top
Speaker 2: equity strategist of Goldman, was on. He's like, well, the
Speaker 2: big tech company is just like thirty three percent of
Speaker 2: S and P five hundred or NAX. And I listen
Speaker 2: to that. I was like, well, that's another sixty seven
Speaker 2: percent of so learnings for them to gobble up. But
Speaker 2: it strikes me that, like, can you just talk like
Speaker 2: it must drive portfolio managers crazy that there's this one
Speaker 2: sector and you know, this is a novelty, right because
Speaker 2: these are big companies that are growing faster than it's
Speaker 2: almost anyone else, which is not the case in many environments.
Speaker 2: When we associate big companies with maturity and slow growth.
Speaker 2: So like, there is this thing going on for years
Speaker 2: and years in US that just sort of feels to
Speaker 2: bust every other strategy. And if you're not overweight tech,
Speaker 2: you're probably underperforming.
Speaker 5: Yeah, and it's really frustrated the hell out of people,
Speaker 5: especially the factor investors who haven't been in the momentum trade,
Speaker 5: who have been more value oriented, or you know, the
Speaker 5: people who know that small has outperformed large in the
Speaker 5: long run, Like it's all been flipped on its head.
Speaker 4: Yeah. So I again going back to the time horizon thing.
Speaker 5: The way that at least I try to think about
Speaker 5: this is tech and growth is really interesting in the
Speaker 5: current environment because in going back to the Nasdaq bubble,
Speaker 5: you can actually, you know a lot of people make
Speaker 5: that corollary.
Speaker 4: And the interesting thing.
Speaker 5: About the Nasdaq bubble is that if you bought the
Speaker 5: very tippy top of the Nasdaq bubble and held on
Speaker 5: to today, you've made like eight percent per year. It
Speaker 5: is great, you've done really, really well, which is crazy,
Speaker 5: but you had this crazy sequence of returns risk because
Speaker 5: especially in real terms, you went through this traumatic, like
Speaker 5: fifteen year downturn over that period. So the interesting thing
Speaker 5: you know compared to then, is that, like you said,
Speaker 5: these entities are completely different. Like every was expecting the
Speaker 5: Internet to be a big thing, and it was, and
Speaker 5: everybody expects AI to be a big thing, and I
Speaker 5: think it will be. But the interesting difference between that
Speaker 5: environment and this environment is that these companies are they
Speaker 5: make more money than any entities have ever in human existence.
Speaker 4: So this is completely different than an analyst.
Speaker 5: But it's crazy and they're growing crazy, crazy fast, so
Speaker 5: it's almost unbelievable. But the thing is kind of going
Speaker 5: back to that whole idea of like price compression and
Speaker 5: thinking about time horizons. The way I think about it
Speaker 5: is that, and I write about this specifically, and probably
Speaker 5: my favorite chapter to write in this book was an
Speaker 5: original strategy that I call the forward cap portfolio. And
Speaker 5: what I did was I took five huge macroeconomic trends
Speaker 5: and I distilled them all down, and I try to
Speaker 5: extrapolate data out into the future. And one of the
Speaker 5: big ones is tech, where I look at something like
Speaker 5: e commerce retail sales and I say, you know, this
Speaker 5: is currently whatever, it is twenty five percent of all
Speaker 5: e commerce retail sales, a percentage of total retail sales,
Speaker 5: it's twenty five percent, and that number, you know, is
Speaker 5: probably going to go to fifty or sixty or seventy
Speaker 5: percent at some point in the future.
Speaker 4: All retail sales will just.
Speaker 5: Turn into e commerce sales at some point, like you said,
Speaker 5: like you know this is there's seventy five percent more
Speaker 5: for e commerce to novel up.
Speaker 1: I believe that.
Speaker 5: And so if you believe that and you want to
Speaker 5: buy technology, well what should you own? Should you own
Speaker 5: the market cap weighting of thirty five percent like it
Speaker 5: is now in the s and P five hundred, or
Speaker 5: should you go to like fifty or sixty percent. And
Speaker 5: the way I kind of frame it in the book
Speaker 5: is it's skating to where the puck maybe is going,
Speaker 5: rather than when you buy a market cap weighted index fund,
Speaker 5: what you're doing is you're basically skating with the puck,
Speaker 5: which is it's a good strategy, it works really well,
Speaker 5: but you're not necessarily trying to skate to where the
Speaker 5: puck is going.
Speaker 4: And so I'm doing a lot of guesswork.
Speaker 5: It's obviously very active, and you know, there's a lot
Speaker 5: of there's a lot of estimates that are involved in
Speaker 5: all of this, But if you think forward, like I
Speaker 5: don't think it's unreasonable to say that in for to
Speaker 5: your fifty years, the market cap of technology in the
Speaker 5: S and P five hundred might be fifty sixty seventy percent.
Speaker 5: Who knows, like everything's probably turning into a tech two years.
Speaker 5: But the tricky part about that is that when, especially
Speaker 5: when valuations are really high. I talk about how valuations
Speaker 5: are the equivalent of high expectations, and when expectations are
Speaker 5: really high, it doesn't take much to disappoint. So your
Speaker 5: margin for error when expectations are really high is just
Speaker 5: really low. So what that does is it causes this
Speaker 5: potential where you have higher sequence of returns risk in
Speaker 5: the short term, where you know, I would say, if
Speaker 5: I'm talking to, you know, a twenty year old who's
Speaker 5: coming out of college, he just got a great job
Speaker 5: on Wall Street or something, I might tell him, well, hey,
Speaker 5: your time horizon is so long and you could be
Speaker 5: so aggressive. You should maybe just go buy a growth
Speaker 5: fund and just you know, lose the password to your
Speaker 5: brokerage account for like forty years, yeah, and open it
Speaker 5: up and you'll probably have done really well. But if
Speaker 5: you look at that thing in five years, it might
Speaker 5: be down fifty percent. You don't know. And so that's
Speaker 5: the way I kind of frame it. And so if
Speaker 5: you're if you're very time sensitive, I would say, you know,
Speaker 5: the retiree who is retiring next year and they're loaded.
Speaker 4: To the gills with Nvidia and Google.
Speaker 5: And Microsoft, that person has a totally different risk exposure
Speaker 5: than that twenty year old does.
Speaker 3: How do you think about the index providers in this equation,
Speaker 3: because you know, there's this perception you put your money
Speaker 3: in an index fund, it's a passive investment, but actually
Speaker 3: it's kind of active because the index provider is making
Speaker 3: decisions about what to do. And I know the index
Speaker 3: providers always say they're just holding up a mirror to
Speaker 3: the market, but you know, some of that seems very
Speaker 3: subjective to me, like whether or not you're going to
Speaker 3: add Chinese bonds into a debt index and things like that.
Speaker 3: Are we just outsourcing our investment decisions to the indexes to.
Speaker 4: A large degree? Yeah.
Speaker 5: I mean I talk about how there is no such
Speaker 5: thing as passive investing a lot more than I should,
Speaker 5: because it annoys a lot of people.
Speaker 4: But there's a lot of people who.
Speaker 5: Demonize passive investing, I think for kind of phony reasons,
Speaker 5: and a big part of that is this fact that
Speaker 5: you know, the reason I talk about and try to
Speaker 5: quantify the global financial Asset portfolio is because I was
Speaker 5: trying to create a benchmark for if we were going
Speaker 5: to define something as passive, as truly passive to me
Speaker 5: is you're buying the full market portfolio. You're not deviating
Speaker 5: at all, You're not making any active decisions at all.
Speaker 5: And so when you quantify the GFAP, you can actually
Speaker 5: create a benchmark there where you understand, Okay, well, this
Speaker 5: is the only if you were truly, fully one hundred
Speaker 5: percent passive, this is the only thing you would own.
Speaker 5: And the funny thing is nobody can buy this thing,
Speaker 5: and nobody does buy this thing because even at a
Speaker 5: stock bond waiting, the stock versus bond waiting right now
Speaker 5: is something like forty five fifty five, so you're you're
Speaker 5: inherently underweight stock. So it's not even that close to
Speaker 5: even like the sixty forty portfolio. And so everybody deviates
Speaker 5: from this, and I write about how that's totally fine.
Speaker 5: There's nothing wrong with deviating. There's nothing wrong with being
Speaker 5: a little bit active. And so even from the indexing
Speaker 5: perspective though, like I laugh at like the you know,
Speaker 5: the way the S and P five hundred is constructed.
Speaker 5: It's a committee of people that are constantly picking and
Speaker 5: choosing which firms to introduce, and it's very methodical, it's
Speaker 5: you know, very data dependent, so it's a very systematic
Speaker 5: sort of process. But at the end of the day,
Speaker 5: they're choosing the five hundred companies that go into that
Speaker 5: index in the first place. And so you know, in
Speaker 5: the context of the global equity market, it's even more
Speaker 5: interesting because they're excluding you know, thousands of other entities
Speaker 5: just you know, by their own volition. So everyone's active,
Speaker 5: and you know, there's very smart ways to be active,
Speaker 5: and there's.
Speaker 4: Very stupid ways to be active. And I would say that,
Speaker 4: you know, a lot of the things.
Speaker 5: The most sort of disconcerting thing that I see going
Speaker 5: on these days is that I see the issuance of
Speaker 5: a lot of strategies, and especially with the rise of crypto,
Speaker 5: there's a lot of things going on that I would
Speaker 5: describe as stupid active where people are more having like
Speaker 5: a gambling mentality approaching all of this than anything else.
Speaker 2: If we had like another hour. Actually, I would love
Speaker 2: to just pick your brain about the investment advisory business,
Speaker 2: like less the portfolio construction, per se, and just how
Speaker 2: this world works, because I have so many questions about that.
Speaker 2: But I've won, and you know, we've seen you. We
Speaker 2: run into every once in a while down at the
Speaker 2: future Proof conference in southern California, you know. Or there's
Speaker 2: a lot of advisors and then there's a lot of
Speaker 2: vendors and they're selling various products, and one of the
Speaker 2: hot things that we know that they're trying to get
Speaker 2: people excited about owning private assets or so various alternatives,
Speaker 2: et cetera, non vanilla things. In your perspective for most
Speaker 2: clients that you see, is there like a compelling reason
Speaker 2: for some of these novel products or for some of
Speaker 2: it to include, like yeah, private credit, private assets, private,
Speaker 2: whatever it is. Do these solve problems for the portfolio manager,
Speaker 2: for the investment advisor that the existing publicly liquid assets
Speaker 2: don't provide.
Speaker 5: Yeah, twenty twenty two messed a lot of people up
Speaker 5: because when stocks and bonds become highly correlated and you
Speaker 5: own that sixty forty portfolio that you know, the bonds
Speaker 5: go down fifteen percent or whatever, and the stocks also
Speaker 5: go down twenty five percent. Well, then you look at
Speaker 5: your portfolio at the end of the year and you say,
Speaker 5: I don't I'm not actually diversified. If you were that retiree,
Speaker 5: then you mentioned Tracy that is retiring that year, you
Speaker 5: feel like you made a bad decision, even though the
Speaker 5: sixty forty portfolio, for the most part, is a pretty
Speaker 5: good portfolio.
Speaker 4: There is an.
Speaker 5: Increasingly compelling argument in that context for things like alternatives.
Speaker 5: I me, personally, I tend to just default towards simple
Speaker 5: is better because I think that this whole process can
Speaker 5: get so complex so quickly that the little things you
Speaker 5: can do to create organization and structure, to simplify it
Speaker 5: as best as possible, is going to result in a
Speaker 5: better process, a better outcome in.
Speaker 4: The long run.
Speaker 5: So you know, little things like I mean, god, I
Speaker 5: woke up ten years ago and I looked at me
Speaker 5: and my wife's financial accounts and I was like, oh
Speaker 5: my god, we've got I've got a an old Merril
Speaker 5: Lynch for one and I've got you've got old Fidelity
Speaker 5: for one k's and you've got you know, a bank
Speaker 5: account over there.
Speaker 4: I have a bank account over here.
Speaker 5: We've got three brokerage accounts at Charles Schwab and you know,
Speaker 5: different custodians, TD Ameritrade or whatever it might be. And
Speaker 5: I was like, this is I can't manage all this.
Speaker 5: I've actually forgotten the password to some of these accounts
Speaker 5: or something. And so collapsing all this down and consolidating
Speaker 5: it and simplifying it and trying to own, you know,
Speaker 5: something that is very very simple. One of the portfolios
Speaker 5: I talk about is the bogo Head three fund portfolio
Speaker 5: in the book. And I think one of the reasons
Speaker 5: that so many people love that and those the followers
Speaker 5: of that portfolio or they're very almost militant about it,
Speaker 5: and I think in part because it is so simple
Speaker 5: that it is. It's just beautifully elegant in its simplicity.
Speaker 4: But then you could get into debates about is it simple?
Speaker 2: What head three?
Speaker 4: It's basically the.
Speaker 5: Bond aggregate and then and you can mix this up,
Speaker 5: you know, in different slices based on your risk of
Speaker 5: but it's three funds. It's a domestic equity fund, a
Speaker 5: foreign equity fund, and a bond aggregate. And these investors
Speaker 5: will buy this and they'll buy it for you know,
Speaker 5: it costs like three basis points or something in total,
Speaker 5: and so it follows like all the sort of like
Speaker 5: Taylor Larimore was the founder of it, and Taylor was
Speaker 5: He's someone I interviewed in the book, and he's not
Speaker 5: He wasn't really in the financial advisory business. But he
Speaker 5: became great friends with Bogel over the years because he
Speaker 5: was just emailing with him. He had actually a funny
Speaker 5: backstory where he comes back from World War Two and
Speaker 5: he fought in the Battle of the Bulge and jumped
Speaker 5: out of airplanes and had all these cool stories about it.
Speaker 5: He comes back and I guess he married like the
Speaker 5: hottest woman in Miami or something, and she was a
Speaker 5: model and she's making crazy, crazy amounts of money modeling.
Speaker 5: And so he comes into all this money and he
Speaker 5: doesn't know what to do with it, and he hires
Speaker 5: a financial advisor who hoses him and he starts emailing
Speaker 5: John Bogel, and Bogel then starts telling him like, nah,
Speaker 5: you should be doing this, this, and this. They become great,
Speaker 5: great friends. Bogel ultimately crowns him the King of the
Speaker 5: Bogel Heads later in love and so he's kind of
Speaker 5: like the most famous of all the Bogel heads now,
Speaker 5: and but he distilled all of Bogel's thought processes down
Speaker 5: into like the simplest of all possible portfolios, which is
Speaker 5: this famous three fund portfolio. But it's arguably I am
Speaker 5: minorly critical of it, because I would say that to
Speaker 5: some degree, there is such a thing as too simple.
Speaker 5: Also where for instance, like if you own the three
Speaker 5: fund portfolio in twenty twenty two, you probably wish you
Speaker 5: owned some of the t Bill and Chill portfolio, or
Speaker 5: maybe you wish you owned, you know, something completely uncorrelated,
Speaker 5: like the trend following portfolio, or something you know.
Speaker 4: That added a little bit.
Speaker 5: Of diversification that kept you, you know, helped you stay
Speaker 5: the course.
Speaker 4: As Bogel would say.
Speaker 3: I've really enjoyed the Warren Buffett portfolio chapter in part
Speaker 3: because it demonstrates how people get decision paralysis around all
Speaker 3: of this. So even if you're trying to replicate Warren
Speaker 3: Buffett's investment style, you come up with three different ways
Speaker 3: to do it right, So it just seems like an
Speaker 3: infinite way to invest. But the thing I want to
Speaker 3: ask you is you also say that you wrote to
Speaker 3: Warren Buffett and you actually got a response. What did
Speaker 3: he say? This was like before you wrote the book
Speaker 3: early in your Oh, this was.
Speaker 5: In my early twenties when I was too poor to
Speaker 5: own a share of Berkshire. So in order to go
Speaker 5: to the shareholder meeting, you had to be a shareholder,
Speaker 5: and I was too poor to own a share of
Speaker 5: Berkshire back then.
Speaker 4: So I wrote him a letter and I.
Speaker 5: Said, hey, could I come to the conference even though
Speaker 5: I'm this poor schmuck who can't even.
Speaker 4: Afford to buy your shares?
Speaker 5: And I get a typewritten letter on it comes in
Speaker 5: like a you know, probably a five by six little
Speaker 5: piece of paper and it's typewritten and it was from
Speaker 5: his assistant on behalf of him.
Speaker 4: But he wrote and invited.
Speaker 2: Me, and that's really cool.
Speaker 4: It was awesome.
Speaker 5: I had a family event I ended up not going,
Speaker 5: which was have you ever been?
Speaker 4: I've never been so terrible decision.
Speaker 2: But I went once and it was a fantastic experience.
Speaker 3: It was extremely cool. Yeah, we should do an all thoughts.
Speaker 1: Well he's done.
Speaker 2: Yeah, there's not gonna be I mean, I guess there'll
Speaker 2: probably still be one, but it's not gonna be the same.
Speaker 4: You guys, should definitely do.
Speaker 3: Yeah, yeah, can you introduce us since your corresponding?
Speaker 4: Remember is that do you have a typewriter?
Speaker 3: No, but I can find.
Speaker 2: One, Colin Roche really fun. Thanks for coming in studio,
Speaker 2: Congrats on the new book. Let's stay in touch and
Speaker 2: really enjoyed chatting.
Speaker 4: Thanks for Talking's absolutely.
Speaker 2: That was a lot of fun, Tracy. Have you ever
Speaker 2: have you heard of the fintech startup Acorn.
Speaker 3: Yeah, that's the one where you like invest tiny bits
Speaker 3: of like years a change.
Speaker 2: Yeah, yeah, so years ago, like I think I actually
Speaker 2: probably about ten years ago or nine years ago or
Speaker 2: something like that. I read about it. I was like,
Speaker 2: I it was like curious how it worked. So I
Speaker 2: like fignd it for an account and it takes this
Speaker 2: like small amount and also the app at least I'm
Speaker 2: not trying to slag them. It doesn't work very well
Speaker 2: and my password is always getting reseat. But every like
Speaker 2: year and a half, I remember that exists. That has
Speaker 2: outperformed every other investment because it's like the one thing
Speaker 2: that I've lost my password to and I can't access them. Seriously, Yeah,
Speaker 2: it's done great.
Speaker 3: What did you actually invest in?
Speaker 2: Just yeah, it's like their growth whatever, their growth fund
Speaker 2: is it's not very much, but God, like that one
Speaker 2: thing where it's just like the one I think about
Speaker 2: and look at absolutely the least because I could never
Speaker 2: open the app and everyone in a while I go
Speaker 2: through the effort to reset the password. It's done very well.
Speaker 3: But this is like, this is the entire irony.
Speaker 1: Right.
Speaker 3: We talk about how there's no such thing as passive investing,
Speaker 3: but actually if you just forget the password to your
Speaker 3: account and never look at it, you tend to out
Speaker 3: come close.
Speaker 2: Yeah, I really I just find this to be such
Speaker 2: a fascinating topic. It does feel like again, it feels
Speaker 2: a little un sexy because people are so in interested
Speaker 2: in the incredible amounts of money that people have made
Speaker 2: in crypto and AI, et cetera. But like the puzzle
Speaker 2: of like putting it all together and how you find
Speaker 2: assets that make money across cycles but are sufficiently uncorrelated,
Speaker 2: et cetera. It's like an interesting intellectual exercise, right.
Speaker 3: And you also have this entire industry that's built on
Speaker 3: the promise of outperformance. Yeah, mostly, and it feels really
Speaker 3: difficult to resist. I guess the mostly masculine urge to outperform.
Speaker 2: I liked your question in the beginning because it's something
Speaker 2: I've always thought of, like about actually assessing risk profile,
Speaker 2: because as Colin put it, everyone knows the right answer. Oh,
Speaker 2: I'd buy and hold, But I just I've always been
Speaker 2: skeptical that anyone is a good judge of their own
Speaker 2: risk profile. So to hear them talk about now, let's
Speaker 2: not talk about it like that. Let's math that out.
Speaker 2: Let's talk about asset liabilities. Let's talk about the predictability
Speaker 2: of your income stream. How that is a de facto
Speaker 2: fixed income asset strikes me as a much more sort
Speaker 2: of sound way to think about it than to sort
Speaker 2: of try to imagine how you're going to behave the
Speaker 2: next time a pandemic.
Speaker 3: Well, it also gets back to what we were talking
Speaker 3: about in the intro, right, which is you can say
Speaker 3: I'm gonna buy the dip if there's a forty percent
Speaker 3: draw down, but chances are a forty percent draw down
Speaker 3: is happening in a very bad economy. Ye, my master job,
Speaker 3: I may not have that much to actually buy stuff with. No.
Speaker 2: Like March twenty twenty, it felt like the world was ending.
Speaker 1: Who wants to buy it?
Speaker 3: Like?
Speaker 4: The is it?
Speaker 2: Colin used the word rational, which is I think exactly right,
Speaker 2: Like it feels rational all the time. Everyone should be
Speaker 2: a selling at this time. It's very hard, very hard
Speaker 2: to actually adhere to like simple rules.
Speaker 3: Yeah, shall we leave it there, Let's leave it there,
Speaker 3: all right. This has been another episode of the aud
Speaker 3: Thoughts podcast. I'm Tracy Alloway. You can follow me at
Speaker 3: Tracy Alloway.
Speaker 2: I'm Joe Wisenthal. You can follow me at the Stalwart.
Speaker 2: Follow our guest Colin Roche. He's at Colin Roche and
Speaker 2: of course check out his new book, Your Perfect Portfolio.
Speaker 2: Follow our producers Kerman Rodriguez at Kerman Armann, dash Ol
Speaker 2: Bennett at Dashbot and kel Brooks at Keil Brooks. From
Speaker 2: our Oddlaws content, go to Bloomberg dot com slash odd
Speaker 2: lots we're the daily newsletter and all of our episodes
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Speaker 3: And if you enjoyed this conversation, if you like it
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