Welcome to What Happens Next. My name is Larry Bernstein. What happens next is a podcast
which covers economics, finance, politics and sports. I give the speaker just six minutes
to make his opening argument. Today's topic is, how should you invest your money? Our
first speaker will be Victor Haggani, who is a former Soundbrothers colleague of mine
and one of the founders of long term capital management. A decade ago, Victor founded a
wealth advisor, Elm Wealth, as an extension of managing his family office. I endorse
Victor's wealth management strategy that dynamically manages portfolios of low cost ETFs, focused
on delivering attractive risk adjusted aftertact returns for clients. You will hear directly
from Vick about these ideas and you can learn more from his website, Elm Wealth.com. Our
second speaker is Myron Scholes, who won the Nobel Prize for his contributions to options,
which is just a tiny fraction of his many contributions to finance. Myron will speak
today about the importance of diversification, both across assets and time. Myron was an
early advocate of low cost index funds and believes that you need to dynamically change
your investment portfolio when market risk conditions change. There's so much to cover
so buckle up. I make this podcast to learn and I offer it free of charge. If you enjoyed
this podcast, please subscribe from our website, what happens next in six minutes.com for
weekly emails so you can continue to enjoy this content. All right, let us begin with
Victor's opening six minute remarks.
My perfect portfolio is based on two core ideas. The first is the golden rule of investing.
You can't expect higher returns without taking more risk. Return and risk are bound together,
but you can get more risk without getting more return, which leads to an important corollary.
You shouldn't expect higher returns for risks that you can eliminate through diversification.
The golden rule is enforced by the competitiveness and efficiency of markets. Everyone is looking
for return without risk, the proverbial free lunch, and that makes it difficult to find,
if at all. The second rule addresses the how much question. It's not enough to know what
to invest in, but we also have to decide how much we want to put at risk in those investments.
The answer is that we should choose the portfolio, which gives us the highest expected risk-adjusted
return, where the adjustment we make for risk reflects our own personal degree of risk aversion.
It follows from the second rule that the higher the expected return you can get for
a given amount of risk, the more risk you should be willing to take. This second question
of investing gets a lot less attention than it deserves, since it's actually more critical
to get right than the first question. Taking too much or too little risk can be much more
damaging to your welfare, even if you make good choices of what to invest in. In fact,
I'm just finishing a book that mostly addresses this second question with my partner in Elm
Wealth, James White. It's being published by Wiley and will be in bookstores in about
six months. People who agree on these two ideas and who have similar levels of risk aversion
will wind up with similar portfolios, not identical but close enough to call them the
same for practical purposes. The first rule dictates that your portfolio should be as
diversified as possible, which makes low-cost, broad-market ETFs the portfolio building blocks
of choice. The second rule calls for changing your portfolio as the expected return and
risk of assets change over time. It calls for dynamic asset allocation. For example,
if real interest rates go up 1%, but equities don't move at all, doesn't it make sense
all else equal to increase your exposure to bonds and decrease your exposure to equities?
Not only is this the rational thing to do, but it also satisfies the need to be responsive
and active, but in a disciplined and systematic way that keeps our cognitive biases at bay,
stopping us from chasing whatever is hot and dumping whatever is not, usually at just the
wrong times. You'll want to get your perfect portfolio at the lowest possible price, meaning
you want to pay the lowest possible fees, and you want it to be as tax efficient as
possible too. And it should take up as little of your precious time and attention as possible.
This last point is very important to me. I don't want my kids to feel that they have
to spend a lot of time managing and monitoring their savings. I want them to see that even
though their father was an investment professional, I didn't spend my time obsessing over investing
and trying to beat the market. Isn't that what financial freedom really is? So that's
how I think about the perfect portfolio. I was 45 years old by the time I truly accepted
these ideas, first for my family and then for the clients of Elm Wealth, the wealth advisory
firm I founded in 2011. I'll stop here, but if you want to learn more about these two
rules and how they can be put into practice, visit me online at Elm Wealth dot com.
Myron, let's get you into the conversation. Can you describe your role in the development
of index funds and passive investing?
In 1968, I was graduating from the University of Chicago and I was asked to go on a project
for Wells Fargo Bank to apply the Markowitz portfolio theory model to allocating money.
So I suggested that instead of an active manager, the future was passive investing index funds.
From there, I took four years before Wells Fargo could actually get its first client,
but everyone thought the idea of indexing was completely crazy. No one had done that
that's investing. I was completely foreign to anyone's thinking at the time. Now it represents
over 30% of the market and many other investors who claim to be active really hug the index
and do not deviate very far from the index at all, that maybe over 50% of investing if
you really take the active component out of many portfolio managers' decisions.
What should be the role of index funds in an investor's portfolio?
I think it should be the core of anyone's investment strategy. That should be the starting
point and a wonderful way to invest for the future.
These are a real drag on investment returns. Vic, do you think investors should invest
with active managers that charge substantial fees?
The question of fees has gotten a tremendous amount of study in academia and from practitioners.
The overwhelming empirical evidence is that active mutual fund managers underperform index
funds on average. We even have this concept known as Sharps Arithmetic that says that
if you take all of the active managers and put them all together into a portfolio, that
portfolio would actually be the market portfolio. Therefore, the return of all of the active
managers combined would equal the return of the market portfolio less the fees that they
charge. What's even potentially more detrimental than just the fees is that when you're choosing
active managers, how do you do it? The way that they do it is they say, well, if somebody
has a good track record, I'm going to invest in them. When somebody starts to have a bad
track record, they pull the money out. This return chasing winds up resulting in investors
getting even worse returns than the returns of the funds themselves. This divergence between
investor returns versus fund returns. The investors can be doing much worse because
they come in and go out at the wrong time in general. The Cathie Woods arc ETF is the poster
child for this. Since she started back in 2014, the ETF that she runs might now be up
50%. Investors have lost billions of dollars because they got in after it had done really
well and now it's down 70 or 80%. When we pay more for something, we really expect that
we're getting something better and we normally do. A Bentley is a lot more expensive than
a Chevy. Sure enough, a Bentley is just a better car than a $30,000 Chevy, but investment
fees are not really like that.
Next question for Vic. Most wealth managers and mutual funds charge investors around 1%,
but you only charge 12 basis points. How can you charge so little to your clients?
Twelve basis points. We think it's the appropriate level of fees to charge for managing a diversified
portfolio of assets in a sensible way. We use a lot of technology to deliver this effectively.
What makes fees high is when you need to hire so-called experts to manage individual stock
portfolios. Also, in the wealth management business, there's a lot of concierge services
and so it just winds up being a lot more expensive to the extent that people can unbundle the
services that they need from actual investment management and portfolio management. They're
better off. Vic, you mentioned that you use a dynamic asset allocation model so that if
interest rates go up by 1% and equities are unchanged, that you buy more bonds and sell
equities. Tell us about ALMS model and your implementation of it.
We think that markets are very efficient and so we don't believe in individual stock picking,
but we do think that it makes sense to change your asset allocation over time as interest
rates and equity market risk premium change. That's not inconsistent with the belief in
efficient markets. Interest rates do change is not some sort of market inefficiency and the
same goes with equity market risk premium that stocks can sometimes offer higher or lower
long-term expected returns is something that makes a lot of sense. The world changes,
investors are different than each other and levels of risk aversion change over time, etc. We think
investors who have flexibility should change their asset allocation over time and that will
generate better risk adjusted returns. The way that we do it in practice is really simple.
For equity markets, we use the cyclically adjusted earnings yield as an estimate of the long-term
real return that we can expect to earn on equities and we compare that to the safe asset real return,
which is the yield on tips inflation protected bonds issued by the US Treasury.
And that difference between tips yields and the earnings yields of the broad equity markets
is our estimate of the risk premium offered by each big equity market in the world.
We also make an adjustment for the changing degree of riskiness of each of these big equity markets.
We use one year moving average momentum metric to manage the risk of the portfolio. So in late
2021, we reduced allocations to equities by quite a bit because we had entered this period where
equities became more risky, interest rates were going up, equities had gone down, we had negative
momentum, market risk was higher and so we reduced exposures then, which turned out to be a reasonable
thing to do. It's all transparent rules base, which allows us to charge really low fees.
Investors know what to expect because they know what the rules are that we're using.
And we also do tax harvesting and we pay a lot of attention to the ETFs that we use
to keep costs down the average expense ratio of all the ETFs we use tends to be seven or eight basis
points. Myron, do you think passive investors should rebalance their portfolios over time?
A passive investment or an index fund is really an active investment. If risk change,
then staying exactly at a benchmark and not trying to adjust your risks is not the best investment
strategy because our objective is to maximize our wealth subject to risk and strength.
Investor doesn't just want to buy an old strategy. The investor wants to increase their wealth.
Myron, you recommend focusing on compounded returns and not average returns. What does that mean
and what is the relevance to passive investing? The index fund or a passive investment portfolio
is a starting point. It is a static one period allocation. Every investor wants to increase
their compound return and when we move from one period average return model to a compound return
model, then we have to take account of risk. Risk is a very important component of the growth of
your portfolio. The compound return is less than the average return because of volatility.
Let me give you an example. Let's say you make a positive return of 100% in the first period
and then lose 100% in the second period. So you start with 100, you have 200 after the first period
and it goes to zero at the end of the second period. When you calculate the average return,
it's a zero return which is the average of plus 100 and negative 100. But the reality is, you're
bust. Volatility reduces compound return for every level of risk. If one is able to do dynamic
asset allocation and keep risk at target, that will increase your compound return.
That's what I've called time diversification. And I think time diversification is more important
than cross-sectional diversification. So let me simplify for your audience what you're saying.
When most financial advisors speak about the benefits of diversification, they're talking about
asset diversification by making different investments, US stocks, foreign stocks, US bonds,
foreign bonds, real estate, hedge funds, whatever. And it is true that some risk can be diversified.
But all the investments are made at the same time. So if there's some extraordinary event like a
pandemic, all risky assets will fall in value simultaneously because the pandemic undermines
the value of nearly everything from an office building in Tokyo to a restaurant in Mumbai.
Myron, you've been a big advocate of the benefits of time diversification. And what you mean by
that is that you want to take similarly scaled risks for each time period. If you want to say
if you retirement in 25 years, you should take similar amounts of risk for each of those 25
years so that you can diversify the risk from any one particularly bad period. You don't want
to lose most of your money in one catastrophic risky period. What's really important are the
tail that's suffering the big losses or missing the big gains. The risk is really the tail of
trying to achieve larger great returns or it's trying to avoid great losses. And so the tails are
everything. And unfortunately in life, the normal distribution or the idea of mean variance
doesn't include the fact that distributions are really changing all the time or that risk is
changing and risk management is very important. It also assumes distributions are normal, but it
doesn't assume that the distributions might have sad or tails at times or might be skewed and
are changing all the time. And so that has to be taken into account in any dynamic risk management
strategy that long pants compound returns. The average doesn't take account of volatility.
Let me repeat that in a different way. If you're investing for the long run to maximize your wealth,
you need to avoid big losses and you need to participate in the big gains. This is where the
major price action comes from. The second concept is that the level of risk in the market varies
each day. So that means you should change your portfolio composition to keep your risk constant.
To get time to risk vacation, you need to take around the same amount of risk each period.
So you need to adjust your portfolio based on tomorrow's expected risk. Myron has been a big
advocate of benefiting from time diversification. Vic, how do you think about its application to
the asset allocation decision? It's a really big contribution that he's made to focus on time
diversification. Time diversification has a lot to do with maximizing risk adjusted return over time.
We're believers in the idea of time diversification in the sense that we use a risk metric to
change our asset allocation. So when the markets become riskier, we reduce exposure
and try to keep a more even amount of variability over time, which is exactly what Myron is a
proponent of. So I think it's spot on. Vic, I want to contrast your dynamic investment portfolio
approach relative to what other investment managers are doing. The most common method is
something called a 60-40 portfolio allocation between stocks and bonds. This is a product offered by
money managers where they put 60% of your portfolio in stocks and 40% in bonds, and then monthly or
quarterly, they readjust the portfolios when it gets out of whack. What do you think of that 60-40
strategy? The one thing it really has going for it is simplicity. The 60-40 portfolio is going to
make sense every once in a while when the expected return and risk of stocks and bonds
is approximately such as to make sense of a 60-40 allocation given your degree of risk aversion.
The better thing to do is make your portfolio be consistent with the expected return and the risk
that the market is offering for risky assets combined with your own personal level of risk aversion,
and let that change in a systematic way over time, keeping an eye on fees and taxes and so on.
Myron, what do you think of the 60-40 portfolio recommendation?
People say 60% of your asset could be inequity in 40% in bond, which defines, I guess, a level of
average risk. One problem that I see with the 60-40 strategy is essentially that it doesn't tell you
how to be dynamic. It doesn't tell you how to adjust. It reminds me, my first wife, who always
wanted us to have cushions on our couches. I said, okay, we have cushions in the couch,
but I tried to sit on the couch to use the cushion. No, I couldn't sit on the couch to use the cushion.
So I asked, what good is the cushion if we have a cushion and we have a reserve? How do we use the
reserve? And asset management is using the reserve. Why should I just have the cushion all the time
without ever sitting on the couch? And that's a really important problem. So there's myriad
issues with that 60-40 strategy in that regard. Myron in our house, my wife has five pillows on
my side of the bed. And I don't see the point of that either. Let me apply the cushion metaphor
to the 60-40 portfolio allocation. Having bonds is like having reserve to buy stocks after equities
fall in price. But we always keep the cash in reserve and never use the full amount than the
allocated extra buying power. Andrze Schleifer has written papers that wealth advisors are value
ad because they encourage individuals to invest in the stock market. And that otherwise, investors
would be too cautious and would hold their money in cash and earn a lower long-term return because
of their risk aversion. Vic, what do you think of the benefit of a wealth advisor that charges 1%
than encourages those individuals to invest in equities?
I think the general idea there is correct. And in fact, Vanguard has done a lot of research. And
they've coined the term advisor alpha to quantify the idea that having particularly a human
advisor there between you and your investment decisions can really result in much better
portfolio performance over time by getting the asset allocation more correct and from stopping
you from doing things that you might do on a self-managed portfolio that you're stopped or
persuaded from doing by a wealth manager. Now, I think 100 basis points is just way too much for
that. I think there is value here, maybe 10 or 12 basis points, it feels really good. I think at
1% I would question whether the advisor alpha, so to speak, really is a value ad. And also,
you have to realize that a wealth manager's fees are generally not tax deductible. So they really
need to be low to make sense. Myron, one of the things I don't understand is why there is such a
variation in investment management recommendations to the public. Some people encourage using wealth
managers. Some people encourage using active funds. Some encourage you to private equity.
Why are there such different investment recommendations that are often contradictory?
There's tremendous amount of data mining. We look at the past and you can educate people.
But if you haven't experienced something, you completely forget it. I think experience is a
great teacher. And it's one of the great things about life is that our lives are inducted. We
look at the past data and we build models from the past data. So induction or data mining is
pernicious. People look at the past, what has worked, that builds their intuition or their prior.
If you have theory and you can add to theory by looking at experience, that's terrific. But a
lot of people take their experience and then they ignore theory. When I first learned to golf,
as Victor knows, I read 150 books on golf. I figured out that I was going to be a tremendous
expert because I knew from the theory of how to play golf how good I would be. Larry, you know
my golf game. Yeah, I know you're a game and it isn't pretty. The problem is that I got on the
course and even though I knew all the theory, my game was so bad, relative to theory, we data mine.
We take a subset of reality and we extrapolate from that. So all the information that investors
use or ways in which they think they can make money themselves are always subject to destruction
because as you run through time, we find that there's errors in the model. And as people find
errors in the model, they reverse engineer the errors in people's models and they game against
them. They figure out ways to game against them. The system is dynamic. Everything changes.
These past two years have been some ridiculous investment behavior with the spec craze and
the surge and the evaluation of meme stocks like GameStop. Do you incorporate seemingly
misvalued assets in your portfolio management? Gene Fama is the biggest proponent of efficient
markets. I think that he makes a really great point. There's this all this stuff that looks
totally inefficient and crazy, but it's really hard to make money from it. That's the test. It's
not a test to be able to say this looks ridiculous. The test is, is it easy to make money from it?
And I just think that it's really, really hard to make money from market inefficiencies.
Markets are efficient enough that I don't want to try to benefit from their limited inefficiencies.
And at Elm, we sort of take it that markets are pretty efficient.
Myron, you won the Nobel Prize for your work with Fisher Black that created the Black Show's
options pricing model. Some critics complain that the assumptions in your model do not match the
real world. One example is the assumption that stock returns have constant volatility over time.
When Fisher and I initially built the technology, we used a replicating theory to replicate an
option by a combination of a bond and a risky asset. We also had the idea of changing
volatilities, but we could not get a close form solution. In other words, a simple formula. You
can put an excel and put in a number. Fisher and I decided let's make some assumptions.
Okay, let's assume the risk-free rate is constant. Let's assume the volatility is constant.
Let's assume that there's no dividends. Then we could get a close form solution. So that's a model.
A model is an incomplete description of reality. Basically, the model has errors to it. That's
by definition, what a model is. Because every model is an incomplete description of reality,
even though the theory was exact. All right, let's talk taxes. Taxes are a drag on portfolio
performance. Vic, how can investors be tax efficient? I think that taxes are a first order
consideration in how you invest. You want to look at every investment that you're making on an after
tax basis. Equities are very tax efficient. You tend to get a lot of deferral. You get long-term
capital gains treatment. Then there's other decisions. Should you do tax loss harvesting?
That feels like a low hanging fruit that most people should avail themselves of.
And individuals wind up in a situation where they have some small set of investments that are very
appreciated. They got lucky or made some really good choices on a few different stocks. And they're
up 10x or something. And all of a sudden, they represent 50 or 70% of somebody's portfolio.
In those cases, you have to make decisions about, do I realize some gains, pay some tax, and get into
a more diversified portfolio versus holding on to this highly appreciated asset with the idea that
maybe someday I'll leave it in my estate and I'll get a step up basis. If the step up basis rules
don't change. Or I just defer the tax for as long as possible. Or maybe I'm in a high tax state and
I plan to retire to Florida. And so I say, I'm going to hold it for another five years. And then
when I move to Florida, I'll realize the gain having to put a price on the risk of having a
less diversified portfolio than you want, having more risk than you want. And what we've found is
that for highly appreciated assets that represent more than 50% of your total portfolio, it usually
makes sense to pair those back and get more diversified. But if you have something that
represents two or three percent of your portfolio and is not having a big impact on your overall
portfolio risk, you can leave it there and decide what to do with it in the future. You might also
decide to give it away in charitable giving and get the deduction on the market value and never
have to pay that capital gain. So taxes are really, really important. Myron, when should we sell our
winners and recognize income for tax purposes? The government is our partner. And so if I can make
abnormal returns, they're going to make 12%, and the government's going to take 6%, I'm better off
paying the government 6% than making nothing. They have to be rational. And our object is to
maximize our expected compound return after tax. We have to be dynamic in our asset allocation
to really maximize our lifetime consumption, which includes not only our own consumption,
but the consumption of others, a lot of investors incur taxes as they're adjusting their portfolio
because their circumstances change. Let's assume that you're a wealthy taxpayer,
living in a high tax state, and you have a 50% tax rate. If that taxpayer invests in a hedge fund
with a two percent management fee and a 20% incentive fee, under current tax law, the two percent
management fee would not be tax deductible. Let's assume that the gross return before fees is 10%.
So the total fees charged are 3.6%, and the taxes would be an additional 4.2%.
So the investor only gets after tax and after fees a 2.2% after tax return.
Vic, what do you think of the after tax economics for hedge fund investment?
I don't think there's anything for me to say, is there? I don't think these vehicles make
sense for highly taxed affluent US investors. Next question is on international diversification.
Right now, we've had this period where US equities have done so well, and we have people like Warren
Buffett telling people, put all your equity exposure in the S&P 500. That's good enough.
Myron, what do you think about international diversification? Obviously, international diversification
reduces idiosyncratic risk. We're part of a global world. So basically, if you just hold
assets in the S&P 500, then you are not as diversified. The world is not only the United States or assets
in the S&P 500. The world includes China. The world includes Japan. The world includes Europe.
The world includes a tremendous amount of other investment opportunities and why preclude ourselves
from adding them into the equilibrium portfolio. There's benefits, obviously, through diversification.
And there's myriad ways to achieve this diversification very inexpensively now.
And so investors should include that in their portfolio.
Vic, in the 1990s, we both worked at Salman Brothers' Tokyo proprietary trading department.
And I was flabbergasted by how high the price to earnings ratio was for Japanese stocks at that
time and how low the expected equity returns were available to investors. Now, Americans,
at that time, had little exposure to the Japanese stock market. And almost all Japanese equities
were then owned by Japanese individuals. And I said to myself at the time, it's a big world out
there. I don't need to own those Japanese stocks. I'll leave that for the Japanese.
How has that experience shaped your views on international diversification?
When I designed Elm Wealth, the Japanese experience was in my thinking. Not only does the Japanese
experience make me want to be eyes open about what I'm investing in rather than just purely
market cap weighted, I want it to be forward looking. Different big markets can offer very
meager or sometimes very attractive long-term expected returns. And we should be able to avail
ourselves of everything that's happening in the world. I'm a strong believer in international
diversification. That doesn't mean that you always want to have a lot of non-US equities.
It just means that you want to be looking at the whole world to build your portfolio and not just
invest in my home market. If it's in analyzed 120 years of financial returns for stocks and bonds,
Myron, what do you think of the past 120 years as a predictor for the future and whether stocks
will continue to outperform other assets? We think of the return on equities as having a premium
over return on safe assets accounts. So I expect to earn a higher return on investing in risky assets
that are correlated with my future consumption needs. And that's basic theory. Expectations,
however, are different from realizations. This is an interesting argument in finance that if I have
a long horizon, I should be in equities and not in cash or bonds. That's the argument. By investing
in equities, I'm virtually certain to outperform investing in bonds or cash over this long horizon
period. And then we say, virtually certain, wow, that's great. If I can invest in stock over this
20-year period, there's some chance that I could lose, if I keep my money in stock, I could lose
60%. There's 70% of my money. And so if someone is going to make it virtually certain, it's not the
mean that's count. It's a distribution around the mean that counts. What's the shortfall going to be?
And that's what you want to ensure against in life. It's the shortfall, not that I'm going to,
on average, outperform someone. When is a shortfall going to occur? What am I going to do? If the
shortfall does occur? Can I stay the game for 20 years? Those are important questions. And so it
means that what risks you take and how you dynamically adjust your risk is a crucial aspect.
Vic, how does that 120-year historical analysis by Ibudson shape your thinking about investing
in equities for the long run? I would say very, very little for two reasons. First of all,
120 years is actually not that much data for trying to estimate a process that itself is moving
around and where each year equities have 18% variability. 120 years is just not that long of a time to
tie something down, even if the world didn't change over that period. And we were just trying to estimate
something like a coin flip out of it. The more important thing is that when we're thinking about
how to invest, we need to look prospectively into the future. If we're going to buy a 10-year
bond, we just need to look at the yield of that bond to know what return we should expect over
the next 10 years from owning that bond. It's called yield to maturity. We don't care what was
the return on bonds over the last 100 years, because we just care about what its yield is today,
not what the return was. And the same goes for equities. The fact that equities were trading
at a PE of 10, at many times in the first half of the 20th century, means that their returns were
going to be pretty high for the next 50 years. We need to look at what's the PE or the earnings
yield of equities today relative to safe assets. We need to be looking into the future, looking at
cash flows, looking at promised yields on bonds, et cetera, to make our asset allocation decisions.
We should make our decisions with regard to what the markets are offering us today,
not what the returns have been in the past. We need to be looking to the future, not in the
rearview mirror, to do our asset allocation. And that's why our asset allocation should change
over time, because what the market offers is changing over time.
Vic, how do you determine how to allocate between stocks, bonds, and other assets in your Elm
portfolio model? The ideal portfolio is an individual specific choice, depending on your degree of
risk tolerance. For a given amount of expected excess return offered by risky assets, you're
going to want to have a different amount of exposure than somebody else with a different degree of
risk aversion. At Elm, we have a baseline product that we offer to people. If that
doesn't really match their risk tolerance or their risk aversion, we do customized portfolios
for people to their level of risk aversion. We want everything that we put into people's portfolios to
be low-cost, diversified, and big asset classes where we can have some idea of measuring the
expected returns in the future. So we tend to stay away from things that are not liquid.
We recognize that people will be attracted to other kinds of investments, and we just accept
that that's not going to be part of what we're doing for them, and they need to do that on the side.
Vic, what assets are the building blocks in portfolio design? And how do you implement that
strategy for your Elm clients? We have a really simple offering for US investors. We help them to
open an account at Fidelity or Schwab. We have a few clients at JPMorgan as well, and we manage
their account for them. They can put money in, take money out whenever they want. They get statements
directly from Fidelity or the other brokers. It's their account, and in their name, and anytime they
want to remove us, that's it. They just remove us, and everything stays the same. There's no
realizations or anything like that. We rebalance their portfolios on a weekly basis,
moving towards targets, evolving with changes in the expected return and riskiness of about 10
major asset classes. Tell us about some of the free tools that you have on your www.elmwealth.com
website to help investors figure out their own risk tolerance and other key ingredients to
portfolio design. We have a bunch of interactive tools on our website, elmwealth.com. We have apps
that can give you the historical returns on a daily basis of our different strategies that you
can download and analyze. We have historical asset allocation that shows what the asset
allocation has been in our different strategies over time. Our most popular app on our website is
actually a coin flipping game where you can flip a coin, which is biased 60-40, and kind of see how
you manage the risk of that over time or over a number of flips. That's hugely popular. Sometimes
we got 100 people playing that in a day. I think that's really educational for people to just get a
sense for what is randomness and what is it like to have an edge of 60-40, and how do I manage
something like that? We also have some tools that help with tax decisions like we were talking about
earlier. If you have an appreciated asset and you're trying to figure out what's the optimal
amount to reduce and pay taxes on today, you can put in expectations of future tax rates and come
to useful answers like that. The lifetime consumption and portfolio choice tool, which helps people to
think about given a certain amount of wealth that they have and longevity and so on, optimal or
attractive investment and spending policies, but it allows people to really come to better
decisions about how much risk to take in their portfolios and what kind of spending policy makes
sense. Myron, what are you optimistic about in the field of finance? I just got out of university at
this moment. I would go into finance again. Finance is uncertainty. Uncertainty is the cornerstone
of all our lives. It's the cornerstone of everything we do and understanding uncertainty or how to
think about uncertainty is just unbelievably fascinating. It's been fascinating to philosophize.
So I'm so excited about uncertainty and how finance adds to it because we get feedback
so dramatically the greatest investment you're going to do is keep educating your brain, keep
building your human path. I try to preserve it, eating the correct way, living life the correct
way, loving the correct way, physical exercise, and then types of investment are always changing
for always learning about how to make better investments. And that's what's exciting.
If the world was static, I'd be bored. If the world is dynamic, I enjoy it. And the information
set is so large, it allows us to keep learning and keep growing as there's so much learning that
we still have ahead. Myron, what is unusual about your optimism is that it runs counter
to risk aversion and finance theory. Normally, uncertainty makes us scared. Uncertainty and
asset returns encourages to hold more cash and hold fewer risky assets. Uncertainty is viewed as a
negative, but you just said that uncertainty was a beautiful thing. This reminds me of an episode
of the TV show, The Twilight Zone. Here's the plot of The Relevant Show. A guy dies. He wakes up
wearing a tuxedo and a casino. He's thrilled because he loves casinos. He walks over to the
roulette wheel and he bets on red. And it's red and he wins. Then he bets on 12. It's 12.
So he moves away from the wet wheel, a winner, and heads over to the bar, where a pretty girl is
seated and he orders a drink and he makes a move on the girl and he gets the girl. And this goes on
day after day after day. He sees the manager and he says, hey, pit boss. You got a second? I want
to talk to you. And he says, sure, what's up? Listen, is it possible that you can change things
around here a little bit so I don't win every bet? If I bet on red, how about it comes up black
every once in a while? I bet on 12, it comes up 14. I go to the bar. I try to pick up a girl.
I'm a little fresh. She throws the drink in my face. Okay? How about a little bit of that?
Winning every time it's no good. Throw me a bone. This is how I think heaven should be.
And the pit boss says, this isn't heaven. This is how. That's correct. It's correct.
You know, I always specific that story. I always thought about that Twilight Zone episode raises
really profound and deep philosophical questions about free will about the nature of human existence.
And I agree with you totally, Myron, that life without uncertainty would be dull and boring and
hardly worth living. We wouldn't want to go and watch any sporting matches. Where would we draw hope
from for a better life and a better world in the future? Yeah, it does give us anxiety. But overall,
I agree with you, Myron, in terms of uncertainty making life worth living. In terms of investing,
I think it's pretty clear that uncertainty of outcomes gives us a risk premium that investors
can earn. So from an investing point of view, uncertainty gives us compensated risks that we
can earn risk premium for in the future. So altogether, a really great topic to end with.
Vic, what are you up to risk about? People have been making better financial decisions over time.
If you go back to the 1950s or 1960s, there's a Fed study that found that the median number of stocks
that were held in an individual's brokerage account was two. Back then, people just didn't get
diversification at all. And today, the use of broadly diversified index funds has become so
prevalent among individual investors. We're just moving in the right direction with regard to people
making better financial decisions for themselves. Now, there's bumps along the way. I mean, I think
the whole meme stock thing in 2020 and 2021 was disheartening for me. But overall, I think that
we're on a great trajectory for people making better and better financial decisions, people being
more disciplined in what they're doing, and new technologies that are helping people to make
better decisions. What we do at Elm, we couldn't have done 20 years ago because of technology,
because of the low cost broad index funds that are covering all major asset classes. So, I'm
optimistic on better financial outcomes for more people as we go through time.
Thanks to Vic and Myron for joining us today. If the ideas we just discussed resonate with you,
visit Elmwealth.com, where you can find a lot of the relevant research and tools,
and we can get in touch with Vic and his team for a deeper dive. If you missed last week's show,
check it out. Our speakers were economist, ran a Bransky from Stanford and Garrett Jones from
George Mason. Ran is the author of Streets of Gold, America's untold story of immigrant success,
and Garrett wrote the book The Culture Transplant, How Migrants Make the Economies They Move To,
a lot like the ones they left. Both speakers are pro-immigration, but Garrett wants us to focus
our efforts on recruiting immigrants with skills. And Garrett believes that the successive immigrants
descendants is a function of a culture imbued from the old country, and the immigrants' social
and cultural mores will impact America's social mores as well. So, be very careful who you let in.
I now want to make a plug for next week's program about the election of the Speaker of the House,
McCarthy. Why did it take 15 votes? And what rule changes did McCarthy agree to that will
affect the types of legislation that will pass during this term? What happened and why should we
care? Our speaker will be Gisela Sin, who is a political science professor at the University of
Illinois. Gisela is the author of the book entitled Separation of Powers and Legislative
Organization, the president, senate, and political parties in the making of House Rules. You can
find our previous episodes and transcripts on our website, what happens next in 6minutes.com.
If you enjoyed today's podcast, please subscribe to our weekly emails and follow us on Apple
Podcasts or Spotify. I would like to thank our audience for your continued engagement with these
important issues. Goodbye.
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