So imagine that you manage $33 billion.
What would you say to your friend, your neighbor, somebody like you or me about investing?
We're going to find out the answer to that in today's interview.
Welcome to the Afford Anything podcast.
The show that knows you can afford anything but not everything, that every choice you
make carries a trade-off, and that means that when you invest, your investment decisions
will carry these huge trade-offs, every dollar that you're spending on individual stocks
is a dollar that you're not spending on index funds, and even inside of index funds, a dollar
that you're spending on some type of an asset class, like LargeCap, large company.
That's a dollar that you're not spending on emerging markets and vice versa.
So where should you focus your money?
What choices do you make?
They were going to hear some answers to those questions about how to invest, how to deal
with volatility, how to deal with overwhelm when you have too many options, how much you
should diversify, how much you should optimize.
We're going to hear the answers to those questions and more from J.D. Stein, the former
chief investment strategist at Fund Evaluation Group, an investment advisory firm that managed
$33 billion.
His job as chief investment strategist was to develop the group's investment philosophy
and investment process.
So what is his investment philosophy?
What kind of margin of safety does he hold?
How does he hold pockets of independence from the market, meaning how does he diversify
outside of the stock market?
How does he handle the paradox of choice?
We're going to talk to him about all of this and more.
Now this episode originally aired as episode 95, back when we were a brand new podcast,
I'm sharing it today because on a personal note, I actually, Steve, can I get a drum roll?
Thank you.
I have an announcement to make.
I graduated from Columbia University yesterday.
If you've been following along for this past year, you know that I have been completing
the Knight Badget Fellowship in Business and Economics Journalism.
As a fellowship given to 10 people who are mid-career business journalists, a lot of
my fellow fellows have had editorial positions in places like Forbes, the AFP, the BBC.
So it was very intimidating to meet them.
I often felt like I was the least accomplished person in the room, which is exactly how I
like to feel because that's how you learn the most.
And so I spent this past year completing this fellowship with them, learning an enormous
amount about macro and microeconomics, about business, about investing, and about how to
tell those stories.
You know, there's that combination of craft and content, right?
The craft is how to shape a story, how to write a lead, how to write a nut graph, how
to better interview people and develop sources and reach for great quotes and really bring
a story to life, right?
That's the craft of it.
And then the content is the economics, the finance, the accounting classes where you
learn life-o and fife-o, you know, so that that way when some corporate PR machine sends
you a press release that says, hey, look, our profits are up, you can take a look, a
direct look at their financial statements.
And you can say, you just changed your inventory method, so your profits are up on paper, but
not in real life, right?
That's what we learned to do this year.
But it's been a heck of a year.
I put on the cap and gown yesterday and I am officially coming back to afford anything
full-time as of June 1st.
I'm brimming with ideas.
I'm incredibly excited to come back full-time, effective June 1st.
I'm so thrilled that you've been on this journey with me.
I have a bunch of photos that I've posted to my Instagram stories, so head on over to
Instagram at PollipantPAULAPANT.
All of that is to say that for this week's episode, we are sharing one of the favorites
from our library.
And it's this interview with Jadys Stein about how you can make better investment choices.
So I hope you enjoy it.
And come find me on Instagram at PollipantPAULAPANT.
Let me know what you thought of this interview, what you thought of the episode.
Say hello, and I can't wait to be full-time back at afford anything, growing this incredible
community, starting in just 12 more days.
Thank you so much.
Enjoy this interview.
Hey there.
Hi.
Thank you for joining us on today's show.
It's great to be here.
Thanks for having me.
I invited you on because your podcast and what you write about is so- and your YouTube
channel, which I binge watched this morning, is very heavily based around investing.
So let's just jump right in.
Can you, in a nutshell, describe your investing philosophy?
Sure.
It is asset focus.
So it's focus on asset allocation, primarily by and whole.
So using mostly ETFs and index funds, but willing to make change.
My fundamental view is most passive investors are in fact active.
And I would say most are active in the sense that they're very much overweight, the US
market versus the global market, whereas the global market is 50% US stocks.
Many investors are 80% US stocks or 90 within their equity allocation.
So I'm willing to be active in the sense of adjusting the portfolio based on objectively
looking at market conditions.
So what are valuations?
What is the economy doing?
And what is the level of fear and greed out there?
And we'll make allocation decisions based on that.
Not trying to time the market two to three times a month or we're really talking about
over a period of years.
So when I was a, I used to be an institutional money manager and develop this philosophy
there, there we would make two to three changes per year.
For personal investors, you don't even have to make that many because many of those changes
were because when you're money manager, your clients expect you to want to predict the
future and to make changes.
And so I would be managing money in our consultant team.
You could tell when clients are getting restless.
Well, you haven't done anything in six months.
Well, there isn't really anything to do because conditions are the same.
So oftentimes we would have to tweak around the edges just so we could make a change and
write about it and write about markets.
But generally speaking, in fact, I was just talking to a member of my website just foreground
this call.
And we were talking about when you look over the last two decades, there really have only
been in terms of major changes in terms of where it would make sense to pull back risk
significantly.
It was the internet bubble and it was 2008, 2009.
But so I believe primarily passive makes sense.
There are areas we can talk about where maybe active makes more sense.
And occasionally looking for regime changes was something major has shift to be willing
to change your portfolio to reduce risk or to increase risk when it makes sense.
Okay, there are a few questions that this opens up.
But what I'd like to start with is how do you know, because in hindsight, the great
recession were times when a person might have wanted to shift their portfolio, but that's
with the clarity of hindsight.
How do you know in advance of that that you are at a time in which you should make some
changes?
How do you decide if this is actually the time to make a move versus a normal, typical time?
There's some criteria you can look at first is valuations.
And so it's good to go back to the internet bubble.
It was clear when you saw the P.E.'s of growth stocks or the stock market in general, but
particularly the internet stocks, when everyone had their favorite internet stock that something
was amiss here.
You couldn't time it exactly, but certainly going into 99, late 99, 2000, it just made
sense to not be investing that heavily.
And I was just talking to somebody recently, the broker, he lost 80% in the internet bust
because that's the type of stocks that the brokerage community was often recommending.
And so you can look at valuations.
But you can't look at them in isolation because you point out, well, valuations were pricey
two years ago.
So what you also need to look at is what the economy is doing because valuations get impacted
by earnings.
And we've been in a period where earnings have been rebounding.
And so even though we've hit all times highs, the actual valuation of stocks haven't gone
up so much this year because earnings have rebounded.
So you have to look at drivers of the economy and one of my favorite measures that I look
at is something called purchasing manager indices.
And these are business surveys done all around the world where surveyors ask business and
how's business doing?
How's your, what are your hiring plans?
What's your inventory like?
What about new orders?
And they have been very, very good advanced indicators of recessions.
And typically they're done.
So they scale it.
So it goes from zero to 100.
So when it's 50 or higher, usually it signals the economy is expanding.
People, and things are going well.
When it's generally 48 or below, that has been indicative of a recession.
How is this number calculated?
It's based on all the surveys they do.
So JP Morgan puts together a global indicator.
So the global PMI for manufacturing, I think, came in around 53, which is indicative of
the fact that the economies around the world are, they're in expansion mode as opposed
to contraction mode.
And these surveys often will show up before, and you could see it in 2008.
So in 2008, January 2008, you saw the US manufacturing PMI was down to 46.
And then you saw it globally.
So by the spring of 2008, most countries around the world had PMIs below 50, which was a pretty
good sign that a global recession was imminent.
And in fact, it already started in the US.
But the markets didn't completely collapse until later that fall.
And so the markets...
So there are some indicators, but you can never get the timing exactly, right?
But that's not what we're trying to do.
We're not trying to be expert market timers.
We're trying to be risk managers.
And when valuations are high or when the economy appears to be slowing, we want to reduce risk,
not get completely in cash, but maybe take some profits.
And you can do the reverse.
When everybody's fearful, but the economy, by some of these indicators, is starting to
improve, and valuations are cheap, such as they were by spring of 2009, then that's
a time to take more risk.
But if you recall back in spring 2009, people were still absolutely terrified.
And some investors, it took them three years before they went back into stocks.
And what were the PMI indicators like in the spring of 2009?
They were above 50 by then.
They were starting to show improvement.
Are the primary indicator that you look at?
That's a primary one.
I mean, I try to...
I look at a number of them, but that's one that's helpful because it's global.
It's been around a long time, and people can somewhat understand.
I also look at there are other leading economic indicators.
The conference board does one that's been very effective for the US, where they basically
have all these different components that are indicating what the economy is doing.
And if that rate of change compared to six months ago is negative, as contracted by more
than three to 4%, that's typically been.
And the sub-components are also contracting.
That's also been indicative of recessions.
And they've just been very, very good indicators to least manage risk to some extent.
Are there any particular PEs that you use as sort of hard cutoffs, like an S&P 500?
Not an absolute.
What I'll do is I'll look at it relative to how many...
This is a statistical term.
Standard deviations, is it away from the average?
So you have the average PE for the past 20 to 50 years.
What standard deviation measures is the range of returns of the observations.
So generally, if something is greater than one standard deviation from the average, then
it's an outlier.
So that starts to cause some concern.
When you see what happened in the internet bubble, it was sort of two to three standard
deviations outside of the norm.
Now the other thing I also look at is I look at the level of fear and greed.
And there's surveys that do this, like are most investors bullish or are they still holding
back?
And it's not anything like the housing bubble where it was palpable.
People were just climbing over each other to buy a house, right?
Or they had three houses.
And you could tell...
I mean, I could tell as early as anecdotally in 2004 that something's just not right here.
Back 2003.
Remember, somebody moved to our town in Idaho from Kentucky and he was going to college.
He had made money going to college because he heard that land prices were going up in
Florida.
He drove down to Florida and he bought some building lots, sight unseen, and then flipped
them.
And then he took the money and went to college, went back to school.
And so I mean, you can sort of see...
I mean, there's official surveys, but you can see when investors are...
If everybody, every taxi driver has their favorite internet stock, something's wrong.
And there was.
There was something fundamental wrong in 2000, but everybody thought it was a new era.
One of the things that happened...
I mean, I don't want to go too far down the topic of how a real estate got wonky, pretty
great recession, but one of the justifications that I heard many people use at that time
was that people were afraid that they would be priced out of the housing market.
Well, it's this fear of missing out.
There's a couple of things you have to look at though is because housing, as you know,
as a real estate investor is very specific to the locale.
And so it very much depends on inventory and how landlocked it is.
Seattle, for example, right?
There's only so many places you can build in Seattle and there's some zoning restrictions.
And so there, there is the potential of missing out.
Fear missing out is a primary driver of markets.
And that's where people get to get overly zealous or they get fearful that they're
my miss out and that can put valuations out of bounds.
But you have to be patient.
At the end of the day, I mean, sometimes you just have to say, all right, I might miss
this one and I'm willing to write it out and not expose my capital and I'll rent.
Or in the case of housing, I'm going to buy the cheapest house in an upcoming neighborhood
or there's ways you can get around it.
But it's a tough thing.
Well, the underlying land could appreciate the structure of the land.
And if the land's appreciating, usually it's because there's a limit, it's applied it
because they're not either from a zoning reason or there's something geographical.
They're not continuing to subdivide land and turn agricultural into new housing lots.
What should a person do when they're in a FOMO market?
If you don't want to invest in stocks because you're or in any asset class, because you're
worried, because you don't think that FOMO was an adequate justification for exposing
your capital, where do you put that capital instead?
Well, you can leave it in cash.
It's okay to hold cash.
The most successful money manager I know is a man named Seth Klarman.
He runs a hedge fund called the Bell Post Group and I used to have a private foundation
client that had half their money with this manager.
And I would go meet with them once a year.
And at his core, he was an asset allocator.
He had a very diversified portfolio.
But he was willing to hold 40% cash if there was nothing cheap that didn't mean his criteria.
And holding in the institutional world, holding cash is just considering individuals is somehow
bad because you're losing compared to inflation.
But if that's really just dry powder that you're waiting for opportunity, then it's
okay to hold cash and just wait.
There's nothing wrong with that because eventually there'll be an opportunity because if everything's
overvalued, and there was, when the housing bust occurred, there was plenty of opportunity.
Or in 2009, even with the bond market, non-investment grade bonds, you could make equity-like
returns because they were yielding 20%.
So it pays to wait when there is clearly a bubble.
Now we're not in a situation right now where we're clearly in a huge bubble.
Economies don't find, valuations are a little above average.
And it would probably be good if most investors didn't have all of it in US stocks, non-US
stocks are cheaper.
And until the economy rolls over, we're not in a situation, it's not anything like it
was in 2001 in terms of stock market valuations right now.
How do you distinguish between holding cash when assets are overvalued versus simply just
having your asset allocation out of WAC?
Let's say you've got Jack and Jill, right?
Or you've got Person A and Person B. And let's assume that both of them have 40% of their
portfolios in cash.
But one person has that level of cash because they believe that they are rightly or wrongly,
they believe that all available investments are overvalued and that they should wait.
The other person, even though the numbers look the same, just does not adequately have
a well-balanced portfolio.
Well, I think when someone decides to hold a lot of cash, I mean, you can't invest based
on a feeling.
You have to have objective criteria.
And it also depends on having realistic expectations of the future.
So you need to be cognizant of why and what are valuations?
What's the future expected return and why am I holding cash?
You have to look at more objective criteria, what were valuations?
And you also have to base it on regret because we can't necessarily predict exactly, especially
the next six months, what's going to happen?
And so this person that asked a question, I actually answered it on my show, you have
to look at how do you decide?
Well, if I take my money out of the stock market, how will I feel if the market goes
up 30% versus if I keep it in and the market falls 30%?
Because then it becomes, and that's hard to do.
I mean, it really is hard to do, but that's one way to look at it.
If you're not going to look at a objective criteria, then decide from a regret standpoint,
how am I going to feel if this happens?
We'll return to the show in just a moment.
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One of those types of investments comes from rental properties.
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You are scared you might spend too much money on a renovation.
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With everything that we've discussed so far, a lot of this involves using judgment, looking
at information and then using judgment to interpret that information.
How and why is this, do you believe that this is advantageous over a purely passive approach?
Well, it depends on your stage in life.
Somebody that's in their 20s that has 50 years until they retire or more.
No purely passive approach might be very, very appropriate because they can ride the
market down like a roller coaster and back up because most of the return is going to
be driven by how much they're putting in.
But for somebody that is approaching retirement or has a seven figure type portfolio, I believe
because I've done it and I've seen others do it, you can make more money adjusting your
portfolio based on risk because all we're really doing is saying, here's the expectation
for stocks or for bonds or other asset classes and we're making allocations based on those
future expectations.
That's what really buy and hold passive investing should be.
It shouldn't be just I'm going to buy the Vanguard US stock fund, I'm going to buy the
Vanguard bond fund and ignore it because the Vanguard bond fund has about a 2% yield
and it has a very high sensitivity to rising interest rates because its duration is so
high which is a measure of interest rate sensitivity.
There are other ways you can invest in bonds that isn't as risky that are purely passive
just by the standard Vanguard funds suggest.
Within that answer, you talked about asset allocation and risk management through the
lens of looking at what may happen in the future.
One thing that you said in one of your YouTube videos and I'm going to paraphrase it because
I actually wrote it down because I thought it was fairly insightful.
You mentioned the range of potential outcomes and then there is the individual's capacity
to deal with said outcome.
So something is more risky if there is a wide range of potential outcomes and the harm to
the individual caused by that is great.
And conversely something is less risky if there is a narrow range of potential outcomes
and the harm caused to the individual is small.
And in the world of investing, the potential outcomes are universal.
Everybody who holds the same investments faces the same potential outcomes but the harm is
individualized.
So would it not make more sense that a person's risk management be focused on the harm that
they as individuals would endure rather than predictions about the future?
Well it should be both.
And when I say prediction, well let me ask you're correct.
So again somebody that is younger in their 20s, the potential harm from a 40% decline
in the global stock market which is the average decline during a global recession historically,
it's small because their balance is small and they have a much longer time horizon compared
to somebody that's close to retirement, that 40% decline if they have too much in stocks
could set back the retirement five years or more.
And so that's an important component.
But when I talk about predicting the future, because I believe the world is unpredictable,
I do think there are clues that we can set realistic expectations.
So when we're talking about allocations, we need to have, I remember I had an exterminator
come to my house once and he wanted to know how much could you earn in stocks.
Before I could even answer he says, I think it's 80% a year because he had bought two
stocks that went up that much and that's what his anchor was.
We have to anchor to something realistic and bonds are very easy to, and some other income
strategies, it's easier to predict what the returns are going to be.
Bonds are based on math, generally speaking, especially investment grade bonds.
So I mean, you can have really good predictions of the bond market over the next 10 years.
Ten years from now, the US bond market will have returned as we measure it by the Bloomberg
Barclays aggregate, will have returned about two and a half percent annualized interest
rates might go up, the bonds would go down, but then you're reinvesting at a higher interest
rate.
And so your total annualized return is going to be pretty close to what the current yield
to maturity is.
That's just how bonds work.
Stocks, I use a building blocks approach.
The primary driver stocks is their income stream, so they're dividend yield.
And we can come up with an estimate for earnings growth, which is tied to some extent to the
growth of the economy.
That's the primary driver of stocks.
The wild card is what are people willing to pay for those earnings.
And that's why the range of potential outcome for stocks is so much wider.
It's not that the world's so much unpredictable.
What's unpredictable is human emotion.
Ten years from now, are they going to be willing to pay 30 times for earnings because we're
in a bubble or are they going to be very, very concerned to be paying 10?
That does impact the return.
But I believe it's better to least anchor to something objective that we can look at
in terms of dividends, income, and look at the come up with some estimate for earnings
growth.
Because as a real estate investor, that's what you do.
You're looking at the cash flow.
You can look at here's my income stream that I'm going to get on this property and come
up with a realistic expectation.
What you don't know is what will investors be willing to pay for that income stream 10
years from now.
But most of the return is going to be the income stream unless you sell it.
And that does impact it.
But there's even there, there's a range.
You're probably not going to see cap rates of two and you will probably never see cap
rates of 12.
It's going to be whatever, probably four to eight somewhere.
Yeah, but I mean, to that analogy, that's why I always tell people, you know, purchase
real estate based on that income stream and not based on anticipation of capital gains.
Well, right, right.
But people even in the real estate, we're talking about potential bubbles.
Private real estate is very, very pricey when you look at the income streams that people
are willing to pay here locally.
So we have a friend that's a builder and he built a student apartment complex in a college
town.
People are so afraid of the stock market that they're willing to take all their individual
retirement account and buy a building through their IRA.
And there's only a few banks that will land to buy buildings and through IRAs because they
can't get a personal guarantee.
So the lending rates are about six and a half percent.
We decided we didn't want to do it.
We bought real estate in the past, private real estate.
We just didn't like the headache of managing it.
And so, but here is an opportunity.
Well, we'll land.
So we did the lending on it and our yield on our, we've got a six and a half percent yield
on the note that secured by the building, he put up 50 percent equity.
It's higher than the cap rate that he paid for the building.
So his yield was five percent.
Now, it's before the debt, like after the debt, he'll be fine because he've levered it
up.
And if he paid 100 percent equity, the amount that he paid for that building was a five
percent yield.
Well, you know, it doesn't make any sense to pay a six and a half percent interest rate
on a five cap.
I mean, that's just basic math.
But he's coming from the perspective of I'm terrified of the stock market.
All right, I'm just going to buy this building.
Then I don't have to worry about investing.
My loan will be paid off in 15 years and I can live off the rents.
And so even then, I mean, I suppose with the leverage, he'll come out okay.
It's a strategy.
I would do it.
I would do it.
I would never do that.
I would never do that.
I mean, a deal has to make sense outside of financing.
Which again, gets to the point of when we talk about active asset allocation, look at
what the potential return is based on the current conditions and be willing to adjust
your allocation and go where those opportunities.
And if there isn't any opportunity, then hold cash.
And by opportunity that's often outside of the public securities market, perhaps it's
owning a piece of land or a building, perhaps it's owning some goal.
Perhaps it's investing in your education or something, but just have as many return
drivers as possible in your investing.
Don't just depend on stocks and bonds.
There's plenty of other asset classes.
Learn about them.
That's why I talk about my investment approach.
It's asset class focus.
I'd rather spend time learning about new asset classes and coming up with expectations as
opposed to researching individual stocks or options or something like that.
Because I think asset classes, it's easier to do and you're less likely to get burned.
Right.
Exactly.
And that what you just said relates to something that you talk about often, which you refer
to as pockets of independence.
Right.
And that's what those are.
Those are things outside of traditional financial markets.
For example, we own gold coins.
I'm not a gold bug, but I have no gold.
The other thing to look at with investing is what's an investment versus what's gambling
versus what's speculating.
Investment is something where there's generally an income stream or there's some objective
way to value it, either historical valuation or something like that.
So stocks, bonds, real estate, those are investments.
There's a difference of where there isn't really a way to value it objectively and there's
some disagreement of whether the return is going to be positive or negative.
Most investments, if you buy them right, the expectation is for positive return.
Gold is speculation.
There's no way to know what the true value of gold is, but it has been a hedge.
People have valued it as something they want to own from millennia and there's a limited
supply of gold.
And so I'm comfortable owning gold coins because if, for whatever reason, we have another financial
crisis or something horrific happens, which I'm not predicting, I don't expect, but here
I have a pocket of independence.
I have some gold coins.
I have some Bitcoin because that's just separate.
We have food saved up just in case.
Some people own ammunition.
I don't, I know how many guns, but these are things and it kind of gets a bad rap, but
these are just pockets away from the financial system.
So you're not completely tied to these digits that make up our economy.
And how do you determine what percentage of your portfolio goes to each of these pockets
of independence?
Traditionally, you would do an asset allocation and say, all right, here's what I expect to
return, but we don't.
So I have about 5% in gold in Bitcoin, right?
Enough to whatever use over a period of years is something bad happened.
But there's no right answer.
With anything, you don't want to be extreme.
And that's where people get into trouble.
Primarily, investment should be things that generate income.
You can have 5% to 10% in speculations or hedges and that seems appropriate.
Once you get above that, that seems extreme to me.
But there isn't a right answer.
It depends on the individual person, but you don't want your retirement to be dependent
on speculations.
Which is why you want to invest.
And that typically involves traditional asset classes, both public and private.
We'll come back to this episode in just a minute, but first, imagine this.
You wake up to an alarm.
It's dark outside.
It's freezing cold.
All you want is to lay in bed for 30 more minutes, but you can.
You have to get up.
You have to quickly shower.
Keep the ice off of your windshield.
Fight congestion and bumper to bumper traffic just so you can go to an office where you sit
under a fluorescent light and drink mediocre instant coffee.
And they have that scratchy one ply toilet paper in the bathroom.
And in your office, they have that really low profile carpet.
You know what I'm talking about?
The corporate carpet?
The kind you only ever see in offices?
Because no one in their right mind would ever install that in a house.
And then meanwhile, you're using the computer that the company gave you to use, but it's
a million years old.
And you're like, why are you hounding me for more productivity when you're giving me this
outdated equipment?
If this sounds familiar and there's a part of you that's like, man, there's got to be
something better than this.
But where do I find it?
How do I start?
Affordanything.com slash escape.
It's free.
Affordanything.com slash escape.
That's your net worth.
Net worth is defined as what you own minus what you owe.
And it's a great number to track.
Now how do you track that?
For free?
Go to Affordanything.com slash personal capital.
You can sign up for a free account.
You can track your net worth for free.
And you can also see your asset allocation.
How much of your money is split between big companies, small companies, US companies,
international companies.
You can see all of that.
Everything's free.
You can sign up at Affordanything.com slash personal capital.
Let's talk about retirement.
First, let's define retirement as the point at which you've collected sufficient assets
that you're able to stop working for money, such that any future work is optional or
unnecessary.
By that definition, you're tired at 48.
Can you tell us that story?
Yeah, I was actually 46.
Congratulations.
I had been in thanks.
I had been an investment manager.
So I had been a professional advisor for about 12 years.
We had bought back our company from our parent and it done well.
So we took out a bunch of leverage.
I got lucky.
So we took out leverage and it worked out.
All my partners were the same age.
I was in my mid 40s and I felt like really I'd peaked in the sense that I remember speaking
at an annual conference because I was a firm's chief investment strategist and I was on the
stage 500 people in the room and I'm giving my speech.
But in the back of my head, you have this dialogue that often happens when you're speaking
in public.
I'm thinking like, this is it at this particular place.
Why would I continue to work here?
And it sort of bugged me because I was already had been living in Idaho.
I didn't have a boss.
So I'm a partner.
But there was just this sense that there was something else that I could have more freedom.
This idea that I have to be connected to at least my cell phone because a client might
call and I just felt like it was time that I was no longer growing as much as I could
otherwise and I'm conservative.
And I hit my number in the sense that I knew what the valuation, I knew what my 401k was
worth, I knew what my IRA was worth and I had this big nut in terms of the valuation
of this private firm.
And I knew if I walked away how much my partners would pay me and I decided I didn't want what
if somebody came along and sued us or something else happened.
So part of it was the desire for more freedom, part of it was realizing that I could leave
and not never work the rest of my life.
Well, I could.
All right.
If I had cut back and lived much more frugally, Mr. Money mustache like, well, more better
than that, but I could be fine.
But what I found as a 46 year old retiree, one you can't, it's hard to even think about
being retired for 30 to 40 or 50 years.
Which is, it's unfathomable and it's stressful to not have any type of income stream other
than your portfolio, which is why for most retirees, I think it's helpful if you're still
in your 60s, find a way to generate some income outside of your investments.
Usually you'll people do it naturally, but why not figure out a lifestyle business, something
that you do that you feel rewarded and the enjoyed doing, but that still generates a
little bit of income.
Because when you're retired and not doing anything, you literally do stagnate and it
can affect your health.
So having something, that type of routine I think is very, very important.
That's what I found even as 46.
And so I eventually worked in, it took me a while.
It took me a while to figure out what I wanted to do when I was quote unquote retired.
And I used to say, tell people I was retired and then the people kept thinking I didn't
have anything to do so they would come up with projects for me.
So I stopped using their word retired.
But it takes a while to figure it out.
Getting a job or career is really it's like getting a divorce is what a friend told me.
And I found that's exactly the way it was.
It's emotional, it's draining and it just takes time to figure out who am I outside of
this career or this profession or this company that I've been with in my case for 12 years.
And it took me a while to figure that out.
But eventually you realize, and then this becomes the normal, right?
Your normal is not working for anyone, working for yourself.
It took me a while to get there, but now that feels normal, but it takes time for people
to get used to that.
And that's kind of what retirement is.
So last question before you wrap up, for the people who were wondering what actionable
steps should they take next, particularly in the current environment where as we've talked
about probably not overvalued, but probably not in a bubble, what should the average listener
do?
The most important thing is to figure out where your portfolio is.
In other words, what is your asset allocation in terms of how much do you have in stocks
or if it's bonds?
So people have either 401k and they might have money outside of 401k and they might
have their IRA and they have this whole jumble.
And in many regards, they have no idea what is the overall allocation.
So they just should get a spreadsheet and just see what it is.
And I think that's an important first step.
I had a gentleman tell me the other day, it took me a year and a half to do that.
And I finally realized, because he explained it to me, because he was a psychologist,
it was not that it was hard mechanically to do.
It was terrifying because he had to face his future, that in his case, he was in his 60s
and he faced the fact that, do I have enough?
And I might die and then whatever in the next decade or two.
And that was hard for him to sort of pull those numbers together.
But I think that's a realistic first step, figure out what your allocation is on a spreadsheet.
And then I think another reasonable step is to sort of anchor what are you expecting
to return in your portfolio.
And I think if those approaching retirement, I think it's helpful to use different retirement
calculators to figure out, do you have enough?
Am I saving enough?
Because most people don't even do that.
And there's-
Go ahead.
Would you say that there is general benchmark for a good model allocation for the average
person based on their age or their timeline to retirement?
Yes, and no, because there's so many other variables.
For example, somebody that has a pension plan, defined benefit plan, they can afford to take
more risk in their 401k versus somebody that doesn't or the situation of their spouse
or how much savings they already have.
So it's hard to do.
I show some model portfolios on my site.
So my most aggressive portfolio ends up being about 60 to 70% stocks.
And the most more conservative is 30% stocks.
But it depends, again, on our definition of risk is what would happen if you're in more
aggressive in terms of the outcome?
How could that- will that change your lifestyle if the market fell 40%?
So I don't think there's a hard, fast rules other than generally younger people that have
smaller portfolios can take way more risk than people that are older, that are close
into retirement and have bigger portfolios because in their case, that a big market sell
off could have a more detrimental impact.
Great.
Well, thank you so much.
Well, great.
I appreciate the opportunity.
Thank you so much, David, for joining us on today's show.
What are some of the key takeaways?
One of the things that I wanted to cover, and I don't want this to be too real estate
focused, but there is something that I wanted to touch on.
Many people have many different ideas around rental property investing.
And one of the ideas that's out there is this notion that even if a particular property
does not give you a good income stream, some people believe that that's okay as long as
you're not putting too much cash into the deal.
And so the equation is something that's known as the cash on cash return.
And this equation, the way that it's constructed, it rewards people for putting the least amount
of cash into the deal as possible.
So if you put zero of your own money down, then your cash on cash return is infinity.
If you put $1 of your own money down, your cash on cash return is high.
If you put 100% down payment, meaning that you purchase the house in cash, your cash
on cash return is going to be low, and so on and so forth.
So anyway, there are a lot of real estate investors who make their decisions based largely
on the cash on cash return formula.
And their position is that even if they're not making a good income stream, even if their
cap rate is low, as long as they're not putting too much of their own cash into the deal,
as long as they're leveraging into it, they're essentially getting something for nothing,
and eventually the house will be paid off after 15 to 30 years.
And so that's what he and I were talking about.
That was when I said, well, that is a way of doing it.
That is a approach that exists, but it's certainly not one that I would do.
A deal needs to make sense in cash in order to go into it.
In other words, never rely on financing to make a bad deal good.
In other other words, never say, hey, if I paid cash for this thing, this would be a
terrible deal.
But as long as I take out a loan for it, then it's better.
I mean, think about that logically.
In what kind of a world is that a good financial decision?
I'm ours, apparently.
I guess that's the world we're living in now where we have to rely on leverage in order
to make bad decisions have the veneer of good, but I see that as BS accounting.
TLDR, if you would not buy an investment in cash, do not justify buying that investment
by taking out a loan.
The best financing in the world is not going to turn a bad deal into a good one.
So that's one of the points that came up during this conversation that I wanted to emphasize
during these closing takeaways.
Now switching gears, the second point that I want to make when reflecting on our conversation
is that personally I'm still not convinced that there is a strong enough reason to deviate
from a purely passive approach.
And so as those of you who are longtime listeners to this podcast know, my approach to market
investing has always been stick with passively managed index funds.
Don't try to time the market.
Decide on a simple, broad based allocation.
So for example, you might choose one total US stock market index, one total international
index, and maybe one bond index, a very, very simple, very broad allocation.
And then just stick with that and rebalance annually or periodically because by virtue
of rebalancing, you are necessarily selling off some of the winners and buying more of
some of the losers.
Rebalancing is inherently a contrarian activity.
And so my approach has always been that as long as you stick with passively managed, broad
based index funds in major asset classes, and you decide on an asset allocation that
is in line with your age and your timeline to retirement, and you rebalance periodically,
as long as you do that, you'll be set.
And there is no reason to make it any more complicated than it needs to be.
The more complexity that you add into a system, the more you introduce the potential for that
system to fall apart or break down.
So a system should be as simple as possible unless there is sufficient evidence to warrant
or justify the addition of complexity.
So that's my approach.
And David's a similar, really.
I mean, he also believes in broad based asset class focused investing.
He doesn't trade individual stocks.
He's not a day trader or a high frequency trader.
So yeah, we have some small differences.
He believes in a little bit of market timing, but our investing philosophies are more similar
than they are different.
We are analogous to one person is a complete vegetarian and the other one is a pescatarian
type of a thing in terms of we're more similar than we are different.
By the way, on a related note, twice a year I calculate my net worth, typically once in
the winter and once in the summer.
And so I just recalculated my net worth a couple of weeks ago.
And when I do so, there are a lot of programs that will automatically do it for you.
You can link your accounts to various pieces of software like personal capital and they'll
track your net worth for free.
But if you sign up for multiple different programs, you'll always get a slightly different
number I've noticed and beyond that.
And perhaps more importantly, there is something to be said for the benefit of manually going
through every account and transcribing each number onto a spreadsheet.
And the reason for this is simple, when we are handed information that we don't have
to work for when that information is automated, we are subject to what is known as information
blindness.
And this prevents us from being able to turn data into true knowledge and then that knowledge
into action.
But when data is slightly more difficult to acquire and slightly more difficult to process,
the human mind tends to internalize it better.
This concept is known as cognitive disfluency.
And it was written about in a book by Charles Duhigg called Smarter Faster Better.
This is where I first learned about it.
In this book, Duhigg tells the story of South Avondale Elementary School, which was one
of the in 2007, was ranked as one of the worst schools in Cincinnati, Ohio, which by the
way is my hometown.
So thanks to major corporate benefactors like Procter and Gamble, the school had a decent
amount of money.
In fact, it had almost three times more money than affluent schools in nearby areas.
And so the administration used this money to invest in software that tracked all of this
data, student attendance, homework, test scores, participation.
They had incredible amounts of data and very cutting edge data visualization dashboards.
This software would track the progress of every student.
It would graph this information on weekly and monthly bases and it gave all of this data
to the teachers.
And yet after six years of having all of this data available, schools such as South
Avondale were no better in terms of academic improvement.
And 90% of the teachers admitted that they didn't really even look at a dashboards very
often.
So in 2008, South Avondale Elementary School implemented a new program in which they mandated
that the teachers transcribe that data by hand onto index cards and draw graphs of that
data by hand onto butcher paper.
As you can imagine, the program was not very popular with teachers, but it worked.
It caused a massive turnaround in student performance and a large part of that was attributed
to the fact that as the teachers were transcribing that data by hand, they had time to to truly
process the information, to internalize it and think about it.
It was in essence almost a meditative activity.
What I am describing is cognitive disfluency, meaning that if something is disfluent, if
it is not easy, if it's not fluent, we may be able to process this information a little
bit better.
And so anyway, cycling back to what I was saying earlier, twice a year I calculate my
net worth.
And rather than using automated software in order to do this, I manually log into every
account, look up my balances, and transcribe it onto a cell within a spreadsheet.
And as far as my home values go, I manually go to a variety of different websites, including
Zillowrealtor.com, HomeSnap.com.
I used to go to HomeFacts.com, but they haven't really been giving much information lately.
So I will go to all of those websites, look up the address of every single house, throw
away any extreme outliers, and then manually calculate the average of the non-outlier numbers.
And that's how I estimate the current market value of each property.
So calculating my net worth takes like half a day, which is why I only do this twice a
year.
But it gives me time to process the information, to deeply, deeply process it.
It creates that cognitive disfluency.
So all of this, this is a very long tangent, but all of this is to say that I tabulated
those numbers and I realized that I only keep 1% of my portfolio in individual stocks,
1%.
And that's not even 1% of my total net worth, it's 1% of my invested portfolio.
The other 99% is all in index funds.
Wow, that was an incredibly long tangent to get to that point.
But I hope it was educational and entertaining.
That was why I could see myself veering, but I ran with it.
So back to the original point, look for the common threads.
And I think when you hear these interviews with people like David Stein, Andrew Hallam,
J.L. Collins, people who've been on the show, who've done very, very well in the investing
world, as well as people who I would love to get on the show but who haven't been on,
such as John Bogle, Charles Schwab, Ken Fisher, heck, Warren Buffett, the very successful
investors of our day, if you look for some of the common threads that while they're
investing philosophies may diverge, if you look for some of the common threads that they
all share, and a shoeing of individual stock trading and high frequency or day trading
is the common thread.
As both Philip Fisher and Warren Buffett have said, our favorite holding period is forever.
So I will leave you with those takeaways.
Thank you so much for tuning in.
My name is Paula Pan.
I'm the host of the Afford Anything podcast.
Please share this podcast with a friend if you enjoyed it.
And also head to your favorite podcast player, whether that's iTunes, Stitcher, Overcast,
however it is that you listen to us.
And please hit subscribe and leave a review.
These reviews are incredibly helpful when it comes to helping us book awesome guests
onto the show.
And I would love to get John Bogle on the show.
He's the inventor of index funds and the founder of Vanguard.
Man, that would be crazy.
Okay, my name is Paula Pan.
This is the Afford Anything podcast.
I'll catch you next week.
Bye.
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