FIXITFRI07_1_01
Disclaimer: [00:00:00] The following podcast by Fusion Family Wealth LLC, Fusion, is intended for general information purposes only. No portion of the podcast serves as the receipt of, or as a substitute for, personalized investment advice from Fusion or any other investment professional of your choosing. Please see additional important disclosure at the end of this podcast.
A copy of Fusion's current written disclosure brochure discussing our advisory [00:00:15] services and fees is available upon request or at www. fusionfamilywealth. com.
Voiceover: Welcome to the crazy wealthy podcast with your host, Jonathan Blau, whether you're just starting [00:00:30] out or are an experienced investor, join Jonathan as he seeks to illuminate and demystify the complexities of making consistently rational financial decisions under conditions of uncertainty. He'll chat with professionals from the [00:00:45] advice world, entrepreneurs, executives.
And more to share fresh perspectives on making sound decisions that maximize your wealth. And now here's your host.
Jonathan Blau: Hello, everybody. Welcome to [00:01:00] another episode of Fix It Friday. Uh, we're happy to come to you today with some information about the Standard Poor's 500 Index, which is a measure of the 500 largest companies in America and the world that trade here in the United [00:01:15] States on, on the stock exchanges, uh, domestically.
Uh, Performance chasing and what biases, uh, to avoid in order to succeed, uh, by avoiding performance chasing, which in my, uh, long history of, uh, [00:01:30] advising clients, uh, is one of the surest ways to underperform. So having said that, the reason I wanted to come with this topic today is because I've noticed a level of complacency.
On the part of investors that, that reminds me of the [00:01:45] complacency I saw almost 25 years ago at the height of what was known as the telecom. Media and technology bubble in the stock market. And that bubble was basically, um, uh, ended with the [00:02:00] implosion of the value of, uh, and stock prices of companies like America Online, Lucent Technologies, Cisco Systems, which was the company that made all the routers for connectivity and the internet, um, age, and no other company [00:02:15] made routers at the time.
So investors came up with a narrative to justify overbidding. Uh, at very high prices on Cisco systems, continued, uh, record growth as if it wouldn't continue from 2000 all the way for the next 20 years. [00:02:30] And instead what happened was in 2000, Cisco systems was valued at about 500 billion. Analysts of the day were predicting the valuation would hit a trillion.
And as we sit here today, Cisco systems, which is a great company. It's valued at [00:02:45] 250 billion. So it's valued at half of what it was at the height of the technology mania, uh, almost a quarter of a century ago. Uh, and that's a lesson, one of, one of a few lessons I want to share today. So the complacency I saw back.
When I was an [00:03:00] advisor, early in my career in 2000, uh, was, was very similar in a lot of ways. Investors had come off of a period of roughly five years from 1995, uh, 94 to 2000, where they made very, [00:03:15] very high double digit returns. Uh, a number of years where it was exce in excess of 20% a year, and it began to feel very easy.
That there was nothing else they needed to do than to simply concentrate their bets, their investment [00:03:30] bets in one area of the global stock markets. And that was the large company, U. S. stock area, particularly the subset, subset that was technology stocks. And in those days, the S& P 500, [00:03:45] uh, was, was, um, 33 percent represented by only 10 companies.
So in other words, if you put 500 in an investment back then into the S and P 33 percent of the 500 or [00:04:00] roughly over 150 went into only 10 companies. It was very concentrated. The opposite of what we want to do when we invest for the long haul, which is to diversify our, our investments in great companies, uh, by virtue of owning stocks in them and.
In [00:04:15] those days, the top seven companies of the S& P 500 represented 22 percent of the value of, of the index itself. So, in other words, for the 500 that you put in, uh, A hundred dollars and change went into only [00:04:30] seven companies. So the level of complacency then caused a big problem. Investors were selling all of their investments that weren't in the technology sector and then those top companies, uh, because they considered.
The, the things they were selling [00:04:45] to be losers when in fact, the things they were selling, which were international companies, small company stocks, as opposed to the large company were actually simply just undervalued compared to the larger companies. They were cheap. Uh, and, and what they were doing is selling those [00:05:00] companies and using all the proceeds to pile on ever more to the companies that were selling at record high valuations and concentrating their bets.
And what ended up happening is from 2001 to 2009. They got hurt four ways. [00:05:15] Uh, the first way is all of the S and P company, uh, exposure that they, that they piled on at the beginning of 2000 ended up losing over 30 percent for the next decade from 2001 to 2009 technology stocks [00:05:30] represented by the NASDAQ index, which was the focus concentration.
Uh, in, in those names I had mentioned, like Cisco systems and AOL and so forth. And those went down almost 70 percent for the decade, but to make matters worse, the second way they got hurt [00:05:45] is many of the things they sold to, uh, to, to, to change their mission from investing to speculating on a continued trend of those technology companies, continuing to grow.
Uh, well above average, uh, which was really [00:06:00] just a speculation at that point, not, not an investment. What happened is all those companies, they sold the emerging markets for the next decade, went up 200%. The small caps went up almost 80%. And so what,
Voiceover: what,
Jonathan Blau: what the third [00:06:15] thing that hurt them was, is they determined that what hurt them was that investing doesn't work.
It's too risky when in fact it was speculating that killed them, not investing. So we, when we have regret aversion bias, we go to what's called status quo bias, uh, in order [00:06:30] to avoid the pain of what we just, what happened to us regretting that, we just leave it in cash, status quo bias. So let me bring this all back to today, today, um, like 2000, the S& P 500 is very concentrated, but instead of [00:06:45] like in 2000 representing 33 percent in one sector.
The same sector, by the way, technology, today we're 40 percent in one sector. So if I put 500 into the S& P today, 200 goes all into technology. [00:07:00] The top seven stocks today, which are known as the Magnificent Seven, companies like Amazon, Facebook, Microsoft, NVIDIA, uh, Apple and Tesla, uh, and Google. Those are the Magnificent Seven.
They represent, those seven stocks, 33% [00:07:15] Of the value, uh, of, of the total, uh, index, which by the way, all of the companies in the S and P 500 today are worth 50 trillion. So seven companies account for, for over a 16 [00:07:30] heading to 20 trillion worth of the 50 trillion. It's much more concentrated than, than the market was back in 2000 when everything collapsed.
This is not me predicting a collapse. This is me saying to pay attention to history and to not [00:07:45] let complacency take you away from the game that you need to play so that you can retire comfortably, stay comfortably retired, and leave the legacy that you want to your children. Uh, the people who, Change games and [00:08:00] focus on overweighting back in, in 2000, uh, experience that last decade.
And for those who are retired and had to draw, let's say three or 4 percent on their portfolios, most of them never recovered from that. So when you're investing, you won't, you want to pay attention to [00:08:15] history. So how do, how do we, um, how do we deal with this? The other thing, by the way, is there was a study recently released by JP Morgan.
And they showed that every time in history, when the, the measure of stock valuation, known as the price to earnings [00:08:30] ratio, the higher it is, the more expensive stocks are. The average has been about 16 times earnings for the last, uh, period of 50 years or so. The current is 22. What JP Morgan found is anytime the price to earnings [00:08:45] ratio was as high as 22, the next 10 years of returns, uh, was plus or minus 2 percent a year.
Investors think that by piling on to the recent trend of what's doing really well, that they're increasing their [00:09:00] future return profile. All they're doing is increasing their future risk profile and doing it dramatically. They're exposing themselves to a potential lost decade kind of scenario. One of the things I noticed, and this is important for investors, [00:09:15] is when we diversify our portfolios during times like this, in order to justify making a concentrated bet, but still be able to say we are diversified, what we do is we, we create what's called, what I call a dino.
D I [00:09:30] N O, diversification, and I get, I steal that term or invented that term by, by the term RINO, which stands for Republican Name Only, is a term used a number of years ago when Republicans, uh, were not following the Republican, uh, principles. So they were called [00:09:45] Republican in name only. DINO is diversification in name only.
So I have four different funds. All of which have the same top, uh, 33 percent of the money in the same seven companies. And I've seen this more and more because many [00:10:00] times advisors also will like to give the investor what they're looking for and what sounds good instead of what is good for them. So they'll say, Hey, look at these funds in their past three, four years.
They outperformed or did as well as the S and P, uh, yet they all own the [00:10:15] same thing. So you're diversified in name only. Four funds with different names. The best analogy I can give for that is if I was in business and all I did was sell umbrellas and we're coming off a period of extreme rainfall and I'm doing great, but I know based on long term [00:10:30] averages, we're going to have a drought at some point.
So I say it's time to diversify. The way to diversify isn't to say, Hey, I've been selling a black umbrellas. I'm going to now sell yellow, green, orange, and red umbrellas. I'm diversified. No, I'm not. That's a dino kind of diversification. I've got [00:10:45] to buy a suntan lotion company so that when it stops raining, people buy suntan lotion.
If it stops raining, having yellow, green, red umbrellas will not help me. Just as when the, uh, when, when the companies that are leading, uh, at the top portion of the S and P [00:11:00] 500 today fall, uh, owning a number of different funds that are similarly exposed to that risk, uh, in the, at the same level, isn't going to protect me.
Uh, so, so. What I would say is in some, uh, try to be aware of avoiding some [00:11:15] key biases. So there's something called the law of small numbers. When we look at a recent trend and reaching up to be five years, 10 years of returns, what we tend to do is extrapolate based on that trend. A future predictable, and that's the key word, [00:11:30] predictable trend, where none exists.
So don't assume that, that there's a future predictable trend. A good sports analogy is called the hot hand fallacy. Basketball player's having a great game. Every time he gets the ball, he's making a three pointer or two pointer. So now everyone assumes [00:11:45] just keep throwing the ball to him. He's got the hot hand.
Eventually. It is something called mean reversion. His long term average will be reached because the next set of shots at some point will be missed and his average will reflect his long term average. That's called the hot [00:12:00] hand fallacy. Try to avoid that. Try to avoid making conclusions that are based on the law of ignoring the law of small numbers.
When we look at, uh, at a coin toss, for example, we know there's a 50, 50 chance of heads or tails, but that's. That's [00:12:15] assuming there's thousands of coin tosses. If you toss 10 times, the odds are higher that you might see six or seven tails in a row. Uh, don't assume that if you see six or seven tails in a row, the next one is likely to be a heads.
It's not. The next coin flip has the same 50, 50 [00:12:30] odds. So we tend to, uh, to, to ignore the law of small numbers. You got to look at data over long periods of time. And, uh, and we saw in, in 2000 to 2010 is that the S and P failed for 10 years. If we factor [00:12:45] that into our, to our perspective today, we won't let what it did the last 10 years make us misbelieve that it's likely to outperform everything for the next 10.
In fact, the opposite is true. Um, avoid confirmation bias [00:13:00] searches. Uh, don't, when you're looking for a search to see, hey, is this too, is this too risky what I'm doing? Don't look for, don't search and say, why investing in the S& P today is not risky, right? Look, do the opposite search. That's called the confirmation [00:13:15] bias.
You're trying to confirm your recency bias that you think it's going to continue by only searching for why it's not risky, why it's likely to continue. Search for the opposite. Uh, that'll, that'll, that'll help you avoid becoming overconfident. Um, remember the game you're playing when, [00:13:30] when we're investing for retirement and to be able to retire comfortably and stay that way someday and leave money for our family, grow our portfolios.
We're playing what I call the long term compounding game. And you have to recognize that when we're talking about compounding, it's all about [00:13:45] not finding what might be the best returning, uh, investment for the next three years. Cause those come and go, uh, just like the hot hand fallacy, right? Suggest. But you want to find the best average kind of return that you can sustain for the longest period of time.
[00:14:00] Uh, that's compounding time is what does all the heavy lifting. One of the best kept secrets in investing is that, uh, finding, uh, kind of average investments and letting them return those average returns for long, long periods of time leads [00:14:15] to extraordinary results. I think Warren Buffett had said is made over, over, um, I think 90 percent of his money after the age of 65.
It's not because he got smarter. It's because of the fact that he started investing at about 11 [00:14:30] years old and the compounding was working for him. Don't create dino portfolios. If you're going to diversify, diversify properly, small companies, large, uh, different styles. There's a growth style of investing where you're buying [00:14:45] companies that are expected to grow better than average.
There's a value style where companies are selling. Below their current, uh, their current valuation, that's fair. And those styles go in and out of favor at different times. Keep both of them always. Don't try to anticipate [00:15:00] based on, uh, guesswork when, when one might do better than the other, we don't know.
Um, and, and finally, I leave you with what Howard Marks, one of the greatest investment minds of the last 50 years has said are, are a few of his guiding principles that have [00:15:15] served him over the last 50 years. One is it's not what we buy. That counts most. It's what we pay to good invest. Good investments don't come from buying good things.
They come from buying things well. [00:15:30] And finally, there's no asset that's so good that it can't become so overpriced that it will become dangerous to your long term objectives. And there are few assets that are so bad that they can't get cheap enough [00:15:45] to be a bargain. Um, Last thought I want to leave you with, because this is, this is actually a powerful, um, a very powerful kind of, uh, emotional, uh, bias, I call it.
Um, there's nothing more disturbing [00:16:00] to one's wealth, to one, sorry, there is nothing more disturbing to one's well being and judgment as to see a friend get rich. Oftentimes we're performing. Performance chasing because we've changed the game we're playing. We're looking at how much [00:16:15] someone else might be making and saying, gee, I should be able to do that too.
I'm as smart as they are. And, and so watching friends get rich is, is damaging to our wellbeing, but also to our judgment. And that was said by a guy named McKay, who wrote the. [00:16:30] Pop, popular delusions and the, and the madness of crowds, uh, highlighting all of the, of the financial bubbles and, and, and impact, uh, going back to the, uh, the tulip bulbs in Holland and the 1600s.
So hopefully this podcast is [00:16:45] helpful, uh, to keep, to keep, uh, your investment program in perspective and prevent you from falling prey to, uh, to, to ultimately to what I call outcome bias. Just looking at the fact that, Hey, the S and P has been doing the best for the last three [00:17:00] years, that outcome is attractive to me, and all I need to do is invest in the S& P.
When we have outcome bias, we're not looking to the input. Is the input prudent? Am I well diversified? Is this really likely to continue for the next 10 years or has reversion to the [00:17:15] mean, the fact that things that have done well for the last five years are likely to underperform for the next five, going back to their mean or average?
Have those things been repealed? Could be, but not, not a good bet and successful investing is about doing consistently the [00:17:30] things that have the highest probability of working over time. Uh, not, not, not, um, not what's working today, but what's worked for the last a hundred or 200 years. So. Thanks again for tuning into this episode of fix it Friday.
[00:17:45] Remember you can access a crazy wealthy podcast and fix it Friday on our website, crazywealthypodcast. com. Uh, you can also access it on all your favorite podcast venues like Apple, Spotify, and, uh, and wherever you [00:18:00] generally get your podcast. Until next time, Jonathan Blau signing off.
Voiceover: Thank you for tuning into another episode of the Crazy Wealthy Podcast. For more [00:18:15] insights, resources, and to sign up for our newsletter, visit crazywealthypodcast. com. Until then, stay crazy wealthy.
Disclaimer: The previous podcast by [00:18:30] Fusion Family Wealth LLC, Fusion, was intended for general information purposes only. No portion of the podcast serves as the receipt of, or is a substitute for, personalized investment advice from Fusion or any other investment professional of your choosing. Different types of investments involve varying degrees of risk, and it should not be assumed that future performance of any specific investment or investment strategy or any non investment related or planning [00:18:45] services, discussion, or content will be profitable, be suitable for your portfolio or individual situation.
Neither Fusion's investment advisor registration status, nor any amount of prior experience or success should be construed that a certain level of results or satisfaction will be achieved. If Fusion is engaged or continues to be engaged to provide investment advisory services, Fusion is neither a law firm nor accounting firm and no portion of its services should be [00:19:00] construed as legal or accounting advice.
No portion of the video content should be construed by a client or prospective client as a guarantee that he or she will experience a certain level of results if Fusion is engaged or continues to be engaged to provide investment advisory services. A copy of Fusion's current written disclosure brochure discussing our advisory services and fees is available upon request or at www.
fusionfamilywealth. [00:19:15] com.