Paul Winkler: Welcome. This is ”The Investor Coaching Show.” We are talking about what’s going on in the financial world and what you need to know as an investor.
Because let’s face it, you will go through several stages of life. Hopefully the first stage is making money. Then the second stage should be where money provides you an income later on.
Because if it isn’t there, you are going to be working for a really long time. Jim Wood is here with me.
Partial Truths
Jim Wood: Well, we have come across different articles, one from Jason Zweig.
PW: Yeah. It’s good to start conversations that way just because this is the stuff that you might see out there. And what’s real and what’s not?
You’ll get things out there that have partial truths in them. I think about some of the well-known financial authors of the past and how they had part of the story and that’s why it was so compelling.
Then later on, I find out that they had a part wrong that was really bad to be wrong on. So typically how we approach this is to go and show you where things are right, where things are wrong, and help find the difference between them.
JW: Yeah, well, to touch on what you were saying, I just had a client send me an article from one of the big day trading brokerage houses, and it was all mostly generic but sage advice about staying disciplined.
And then it’s the same company though that’ll turn around and send you stuff about learning trade options.
PW: Isn’t that funny? They talk about this. And that is so often the case. You’ll hear generic things, a lot of the advertising for the financial world in general.
And it’s something I struggle with quite frankly because they’ll have such generic messaging. Then what happens, well, yeah, of course I want to save for retirement and I want to save for my kids’ college.
Oh yeah, taxes are important. Oh, yeah. We need to make sure that we take advantage of opportunities. You have all that language that sounds really good.
There was one little thing in there that I’m going to comment on. What did he call the investors?
JW: Well, the article was “The Seven Virtues of Great Investors.”
PW: So what was the first virtue?
JW: Curiosity.
PW: Curiosity. Yeah, I think that’s important.
JW: Yeah. And of course it just the enables you, I guess having some curiosity. How does this stuff all work, and getting some education, and starting to understand how everything works as opposed to just blindly trusting.
Something we talk about a lot is you don’t want to blindly trust somebody. And so having a little curiosity, saying, I have to understand this at least at some basic level is good.
Curiosity: Ask the Right Questions
PW: What if you hate this stuff though? You probably wouldn’t be listening to this show. But curiosity a lot of times is lacking because people don’t know what to ask questions about.
I don’t understand this enough to even ask the right questions is one things that I find that people have, or they ask the wrong questions. It’s like one of our friends says, I don’t have to have all the answers in life. I just have to ask the right questions.
Curiosity, I think is key to understand why something works. Now if you want to know what the right questions are, I think that’s it. Why does this work?
“What do I do?” is not a curiosity question because there are loads of people to tell you what to do. I was in a bank this week and just doing bank type stuff.
And they said, “Hey, you know what? We can hook you up with our financial planner.” I was like, “Great. Yeah, that’s really good.” This is really exciting.
JW: That’d be an interesting conversation.
PW: Wanted to know about, hey, you can talk about annuities. And I was like, oh, isn’t that interesting? That’s what you led with, and investment accounts and stuff like that.
Well, how do you do it is you sit down and you go through a financial plan process and come up with a bunch of products that you can buy. Why does this work?
Why do we invest in this particular way? Why is it that returns on this area of the market are different from this area of the market? Why do we use price to book versus price to earnings?
Why in determining value stocks, for example, why do we invest in international? Why do we invest in fixed income? Why do we choose the particular type of fixed income that we do? .
If you don’t know much, somebody might be telling you the wrong stuff while making it sound really good.
JW: And I think a lot of times too, what people really want to do is take the easy way and just offload responsibility. I don’t really want to try to understand this. So this person’s a professional, I’m just going to do what they say.
Skepticism: Ignoring Self-Interested Propaganda
PW: You can do that in an industry where you have minimal conflicts of interest. Let’s say a professional industry, for example, your tax person, they have no incentive to make your taxes higher than they should be, right?
You can do that when there is a degree or a high level of a barrier of entry to get into the industry, like you have to have Dr. in front of your name. And in the financial world, that’s not necessarily the case.
JW: Also in the financial world, there’s the opportunity to be led by the wrong incentives. You have a company behind you that can say, well, you get this amount of money if you sell this product or you get a lesser amount of money if you sell this product.
But that second product may be the best choice. Do you get put in odd positions on doing something for the client that is more in my interest or more in their interest? And you have those conflicts that are really tough to navigate in that part of the industry.
PW: So my favorite question is why. Okay, what is the next point he makes?
JW: Next one is skepticism. And I kind of like this. One of the first lines is the main product of the financial industry isn’t portfolios, it’s propaganda.
And I think that’s a great line. I mean that comes through with all news in many, many areas, but certainly in financial, we constantly talk about so much of the information out there that’s bad, that’s self-interested, that’s conflicted.
PW: Yeah, go watch TV and they’ll say, “Hey, this area of the market is hot right now.” And what that does is it tells you what did well before, it doesn’t tell you what’s going to do well into the future. But it sells investments.
Financial propaganda is trying to get you to do things that are not necessarily in your best interest, but they sound good and they sell.
JW: Yeah. It’s a message that I’m continually trying to reinforce with clients is that the financial media is not your friend. They are not there to help you.
They are there to gain audience, to sell advertising, to get eyeballs, and they have very different incentives. And so you have to understand what those are. Very little of it is actually worth listening to and is likely to help you.
When Does a Bank Come in Handy?
PW: Now the reality of it is, if you think about it, Fortune 500 are the 500 biggest companies in the United States. You can be more diversified than the vast majority of banks ever dreamt of being without the size of the bank because the bank doesn’t matter.
It is a marketing department. And people don’t recognize it as such. It is a way to market things to people.
Now where does the bank come in handy? It comes in handy with your regular CD deposits, as we’ve seen recently. If you’re over the FDIC limits. That is why the big banks have been taking over some of the regional banks. If your deposit amount is below the FDIC limits, no big deal. Don’t worry about it.
JW: You had mentioned the Fortune 500 plans and the diversification, and it just got me thinking about so many of these huge companies and their 401(k) plans that we see everyday.
We see them from every company from small to large, things like that, and how poorly diversified they are for the choices that they offer their employees. And just thinking on that in terms of it’s usually consultants out there that are helping them build these lists of funds, which are usually a dozen target date funds, and then a few other stuff to sprinkle in.
PW: Right. And if you want to get really, really big, a lot of times what you do is you cater to people’s instincts and emotions.
Instinct and emotion are exactly the opposite of what people ought to be using from an investing standpoint.
One of the biggest registered investment advisor companies out there actually engages in stock picking and market timing all the time. And what we know from the evidence regarding that, it doesn’t work.
I actually did this years ago, I used to take the funds that they recommended and I would say, okay, here’s when they recommended this five-star fund and here’s what it did afterward. It was embarrassing how badly those funds had done after they had gotten the five-star rating.
The Rule of Funds
The reason I’m telling you this is because you need to be aware of it, because if you’re not curious enough to know this is going on, to use the very first point that he makes there, and if you’re not skeptical enough to make the second point that he makes there in that article, you’re going to be subject to it.
Be curious enough to know what is going on.
You’re going to be a victim of it, so to speak. And it’s going to be a problem because you get to retirement, and you won’t even know why you don’t have enough.
JW: That’s how I was taught in this business originally, to help people choose funds by lining up five-star funds which look really good and really smart, and that was the indication that maybe they’d be good in the future.
Of course, later on, I found out that so many of those funds didn’t stay five-star funds. They became two-star, three-star and everything across the board.
PW: I look at how funds are capturing an area of the market that they’re investing in, whether it be large companies, whether it be small companies, whether it be value. Those are companies that are more out of favor type of companies, not real growth companies.
JW: But growth. Doesn’t growth sound good? Lots of mutual fund companies have the name growth in them.
PW: No, those companies have grown fast and they are growing fast, and they don’t have to pay as much to use your money. So the expected return is actually lower.
It’s the opposite of what you think. And you go, what? That’s weird. It’s marketing. Marketing is often weird.
This is really important stuff because you look at the returns of investors versus markets, it’s really, really bad because they break these rules. And I kiddingly will say, gosh, you don’t have no idea how many people that might have had a hundred thousand dollars in the 1970s that don’t have $40-50 million today, which is market returns over that period of time.
Without trying to pick stocks and time the market, markets have delivered really great returns historically. And you didn’t have to engage in a lot of these things that shouldn’t be considered financial planning strategies.
They’re really not. It’s just marketing in disguise.
So what was number three?
Independence: Think for Yourself
JW: Independence. “Without independence, investors are doomed to mediocrity” was one of the quotes here.
Independence is the idea that you can’t let others always do your thinking for you.
And I think that’s an important message. And I know we spend a lot of time trying to educate people on certain aspects of investing.
You don’t have to know everything, but if you know the right stuff, it keeps you from staying up all night worrying about it. And it makes it a lot less likely that you’re going to mess it up along the way.
PW: So who’s doing the thinking here? This one is a little bit nebulous to me because when you said independence, I’m thinking about when I used to recommend people buy, for example, and this isn’t always the case with auto insurance, but say disability insurance or life insurance, or something like that, watch out for captive companies.
Typically, big companies that you’ve heard of are captive companies, which are companies where the agent goes to work for that company and they must recommend what that company has and they basically have nothing else.
You’ll hear, “I’m an independent person,” but a lot of times they work for a company and they have limited independence, but they can use the term, what did they mean by independent?
I like independence when it comes to insurance, especially now. Because if you can go to a company, a brokerage firm, and you want to buy a disability policy and the person represents the world, they can go to 80 different insurance companies for your disability insurance.
They can shop between various companies that might be better in your particular occupation and independence is really good there because they’re not held captive to one company. What does he mean by independence?
JW: Well, again, it’s kind of related to the first one, curiosity. Just don’t just rely on somebody’s supposed expertise and walk in and accept everything they say.
You want to know a little bit about what’s going on. You want to be able to think for yourself about if something makes sense. Is it logical?
Humility: Avoiding Overconfidence
Does it have massive amounts of evidence behind it? Or on the flip side is somebody just telling you something that sounds good, but there’s not a lot to back it up.
PW: So independence, for example, the way we operate is, we don’t have an investment firm. We choose whatever we want to do.
I mean, if I wanted to go and change investment management or anything, nobody tells us what to do in that particular instance. Now we have to disclose it in our documents that we put out there that we’re making a change in what we’re doing.
JW: And I like how it kind of sums up this idea, and I’m paraphrasing.
Without enough knowledge, your emotions and your results end up hostage to the whims of strangers.
And those strangers can do the strangers things.
PW: Oh, yeah. Fear is one of the ones, the emotions that they’ll play to. “Oh, you know what? You need to do this for safety. You need to do this. Protect yourself. You need this as kind of a backstop to your financial plan,” or whatever terminology that they use. Yeah, they’ll use your emotions against you and greed.
JW: Okay, so let’s move on to humility.
PW: Humility is a good one. This is a tough one for a lot of people to handle because it’s hard to be humble.
JW: Well, I think that the opposite of that I think is where we usually talk about is just the idea of overconfidence. Thinking that you’re able to do things that the massive amounts of evidence show that’s not likely to happen, which means beat the market by picking the right stocks.
PW: Or just managing portfolios. If you look at somebody that is in an industry maybe that has taken a tremendous amount of education, and they’ve gone through a lot of schooling and thinking, “Well, I did this. And this over here is really easy because I’ve read a couple articles out there.”
And I use the example all the time of index funds because I think that kind of wakes people up. Because they’ll read an article on an index fund and they hear that it beats the market and they don’t realize what happens or it beats the average active trader in the market, I should say.
More to Investing Than Meets the Eye
Then they go, well, this is all you have to do, just do this. And then they don’t recognize that in some areas indexing doesn’t work very well at all because of the size of the companies.
What happens to the securities lending revenue? How do they handle, for example, a profitability premium in investing? And people are like, well, what’s that?
Well, see there’s more to this than meets the eye. How about changes in tax laws that happen about once a year? How about changes when you’re managing a portfolio? How about changes in the funds themselves drifting into different styles or different areas or regions of the market?
How about making sure that the financial plan fits your personal situation. Know how social security is taxed, how Medicare premiums are taxed, about those types of things? And how does the financial plan fit in all of that? There’s a lot more than meets the eye.
JW: Well, and looking at things that we tend to think, well, there’s the things that you know, the things that you don’t know. And of course, there are the unknown unknowns, and those are the things that get you.
PW: The things you don’t know that you don’t know. Yes.
JW: Yeah. But people never really think about that. They just think, “Oh, well, I have all this information, or I know something about this company.” And your brain really can play tricks on you.
You can have a track record. “Well, I picked this winner, I picked this winner,” and your brain is going to discount you for sure where you failed. And so it’s going to play up the winners in your mind and it’s going to just kind of set the bad stuff off to the side.
Psychological Biases
PW: Yeah, no question. And then we find what we’re looking for, confirmation bias. Or there was recency bias.
People will go, “Hey, this area of the market is rocking right now.” And you go, this is what’s happening. It’s what you need to be doing. And then all of a sudden it totally changes because that’s what did well yesterday. Yeah.
JW: Yeah. It’s right there. And I love bias stuff. I think that explains so much about where investors go wrong. And that just starts getting me thinking about false patterning, which is just huge.
False patterning happens when people see a little bit of data and try to extrapolate it into the future.
But when you look at it statistically, there’s absolutely no meaning to the data. Yet people try to make something out of it and say, well, because of this, this is going to happen, and then they’re surprised when it doesn’t.
PW: Right. Right. And I hear that all the time on talk radio. As much as I love when they talk about their views on what the government should or shouldn’t be doing, I don’t like when they get into investing markets, and they get into planning, and investing, and all of that.
We’re going into a recession, they’ll say. Oh, did you know that during most recessions, stock markets go up? No, didn’t know that?
You know why? Because you’re falling for somebody’s political slant on the way you need to vote. Yes. It may be that somebody in politics could be bad for the economy, but it doesn’t mean that they’re going to be bad for the stock market. Just recognize that.
JW: One point I always like to make too regarding that type of stuff is that if we’re talking about it, then that information is already out there in the world. And that means all the hedge fund managers, mutual fund managers, individual stock traders, everybody out there has access to that same information—so it’s already going to be reflected in whatever prices are.
Discipline: Unshifting Strategies
PW: Yeah, no question about that. Okay. So what’s another attribute of good investors?
JW: Well, I think this is one of the ones that is kind of common when we talk about investing: discipline.
Meaning you can’t shift strategies all the time. People tend to switch out of their funds every three years or so, every maybe three and a half years, so people are always all over the board moving things around and worrying.
PW: I want to do something before something happens. And that sounds good. But many times you’re being reactive because you’re reacting to information on what might happen, and you don’t recognize that it’s reactive.
I don’t want to be reactive, I want to be proactive.
As you said Jim, what happens is that markets will have reacted to that information even before it becomes reality. So if I take action in anticipation that in six months something is going to happen, the stock market reacted today to what was likely to happen in six months.
So you are, again, being reactive because the news is out there. I hope you get that.
JW: And discipline is fed by all this other stuff we’ve been talking about. It’s fed by having enough knowledge in terms of knowing that you don’t have to react because you know how things work and how markets are going to work.
PW: Yeah, I like what you just said there. You said that before you even start investing, we educate. But even after the fact, we continue to educate.
And some people go, “I’m already doing this, I don’t need to think about it.” And I go, no, no, keep tuning in. Stay involved, because we’re going to talk about what’s going on and putting it in perspective for you.
Because here’s what is likely to happen if you don’t continue getting reinforcement of that education. Evan always likes to say, he says, that’s the reason I go to church every Sunday, I forget.
If we don’t continually update that information and help you put it in perspective, you’re likely to take action that’s going to be adverse to your own financial wellbeing.
JW: And markets are going to go up and down that stuff that are always going to tell you that’s going to happen. And to wish that away would be to wish away the excess returns.
Patience: Know How Markets Work
We talk about being goal focused, long-term, disciplined investors. And that is just one of the main characteristics successful investors are going to have. So I really think out of these seven, that’s one that I really think is one of the most important.
PW: And some people say, “I’m just too old for this.” Well, there’s a whole video on my website on that if you think you’re too old for this. When we talk about market downturns and things like that, I put that in perspective regarding the length of downturns historically. Okay, what are the last two, Jim.
JW: Patience. I think it really goes along with discipline because you have to have both together.
Patience means knowing you’re not going to make money in the market every day.
You have to know and accept how the market works.
PW: Yeah, 96% of returns in the market historically, going back to the 1960s have occurred in 0.9% of trading days. One study showed two to three days per year give you all the return historically to the stock market.
Yeah, that’s pretty daunting. And you don’t know when those days are going to be. So patience is a virtue for sure.
JW: And then finally, and just kind of makes everything else happen as courage. You can sit in cash in fear and earn whatever the meager returns and never see your numbers go down. And sometimes that feels like the easiest thing.
But the problem with that of course, is that you’re going broke slowly because the prices are going up at a higher rate than the money that you’re getting. Plus you’re probably paying taxes on that return.
Then you are again losing money very, very slowly over time. That adds up phenomenally, your purchasing power can get crushed.
PW: So is it like death by a thousand bee stings or something? What is that term by thousand cuts, a thousand cuts, I guess these things, whatever, which takes more courage.
That seems to take a lot of courage for me to stick all my money in fixed income investments that basically right now, and you go, oh, but banks are paying 3%, 4%.
And then the inflation rate is going, well wait a minute, the inflation rate is like 6%. So you’re losing money, but it’s just done by a thousand cuts and you’re actually losing money in a really painful way, little by little.
Reaching Success
JW: I always think of it as that basket of goods that you can buy with X amount of dollars and that basket is slowly shrinking over time, even if the numbers are going up a little bit.
PW: So why do people do it? And I have my answer to it.
JW: Well, yeah, it’s fear. I think that’s why they do that. They’re afraid of the numbers going down. They’re afraid of those short-term, historically temporary downturns.
PW: What’s successful? Here’s my answer to that. And yes, I think that’s absolutely correct. But as I’m thinking about this, one of the things that I taught my kids when they were little is if you want to be successful, delay gratification.
Whatever you’re doing, if you’ve got a list of things you have to do in a given day, take the thing that you want to do the least and do that first.
That is going to be how you’re going to be successful.
And if you think about it, I have basically delayed the pain and the pain is much worse. If I have an investment portfolio that doesn’t keep up with inflation, I go broke, but it’s not until 20 or 30 years from now.
And then you go, “Oh, gee, if I had only known.” Well, the reality of it is that when you’re looking at markets, markets historically have given rewards to people that are willing to put up with the pain and the ups and downs of the market and fixed income investments because there is no pain of that short term, up and down, pay nothing. And that’s the problem.
JW: Irrational fear. And I don’t want to discount it because people really feel it and they’re really afraid of seeing a statement where they see a negative number and feeling like, “Oh, I lost money, I shouldn’t have done that.”
But that’s always happened. It’s always going to happen with markets. But it’s about maintaining your lifestyle over your whole life. Short-term fear can be devastating to your ability to keep living that life, to keep buying that same amount of goods.
PW: And you put up with a little bit of this pain of the ups and downs of markets. Now you don’t put everything in there. When you invest, you diversify.
It’s critical because when we try to avoid pain then we end up bringing upon ourselves the very thing that we fear the most.
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