Episode 78 - ‘Superforecaster' Warren Hatch
Greg & Colin talk with Dr Warren Hatch, CEO of Good Judgement Inc. Dr Hatch discusses superforecasting, what it is & how it is applied today.
EP.78 - Warren Hatch
Welcome back to the Free Lunch podcast with Greg and Colin. Just like every week, Greg, it's you and me. It is, yeah. Last week we interviewed David Rozelle and talked about some investment lessons learned by way of being an avid adventurer. That was kind of a fun discussion. It was
Very interesting guy,
And he talked about the risk in retirement and how it's not necessarily climbing to the peak of the goal as in retiring. But it's the descent where people tend to perhaps make mistakes. So some might say that the most important thing that somebody could do would be forecasting for potential risks out there right on. So on that note, we are pleased to have Warren Hatch join us today. Warren is the CEO of Good Judgment Inc. Dr. Hatch joined good judgment as a volunteer forecaster in the research project sponsored by the U.S. government and became a super forecaster. And he's now the CEO of the commercial successor Good Judgment Inc, so his career has gone a long ways. We were reading that tea started on Wall Street, where he worked at Morgan Stanley before co-founding a boutique investment firm. He earned his PhD from Oxford University, so he's probably pretty intelligent, I would guess. And he has a chartered financial analyst designation. He has a charterholder. So but now the pinnacle of any great career, Greg, is to be a guest on the Free Lunch podcast, so. Welcome to the pinnacle of your career and welcome to the show.
Thank you for having me, and it's great to be at the pinnacle here where you reside.
Well, and speaking of where we reside, where are you joining us from today, Warren?
I'm in New York today.
Ok? Tell us your story! Colin gave a bit of your background with Morgan Stanley and so on, but how did you end up here where you are today?
Well, it was kind of on a lark. So the author of this book, Super Forecasting, along with Dan Gardner, is Phil Tetlock. He's a very distinguished psychologist, and he had written an earlier book called Expert Political Judgment and Political Science was my old academic background, and I really liked that book. The point that he made was a lot of experts will make forecasts, but when you go back and match their forecasts against reality, they're not so good. And he documented that with a lot of evidence and empirical data. The one thing that he also found was that on shorter horizon, some people actually can make good forecasts. So that's what he started planning next. And a decade ago now, the U.S. government had just come off of some pretty important forecasting failures with 911 that happened and they missed and weapons of mass destruction that they thought existed, but did not. So they were getting type one and type two errors that were very consequential and did some serious soul searching for ways to improve their analyst capabilities to make forecasts on shorter term horizons. Improve on the wisdom of the crowd was what they set out to do. So the government sponsored a competition among five university based teams, one of which was Phil Tetlock and Brad Miller's team called good judgment. And it was right around them that I thought, Well, I wonder what Phil's up to. I liked his book. I went to his web page and down at the bottom. He had an announcement looking for volunteers to join this new research project he was taught. Do you like to forecast geopolitical events? And I thought, Well, who doesn't? So I signed up having no idea how big the project was or how deeply involved I would end up becoming, and I went from there.
Wow. So your background, then you were in the investment business with Morgan Stanley. And you know what it's like dealing with individual investors, and we all want to know what's going to happen. The basis of investing seems to be, where are things going? How are we going to predict what's going? Is there going to be inflation or interest rates going up, things like that? So how important is it for investors to understand forecasting and how can super forecasting help make better investment decisions in your opinion?
I wish I knew then what I know now when it comes to forecasting because there are so many things that I learned to do that I have to unlearn to do later on. And one of the big things is that forecasting and finance often is done very generically. So is there inflation? Oh, I think there is, and you might select a few anecdotes and be very focused on what's going on at the moment. But what we know from the data is that you want to go and find comparison classes. What kinds of similar environments might we find that will tell us something useful from the past or other countries will tell us something useful about what we're trying to understand today? And that very basic step is something that can be very helpful for any investor, individual, professional, institutional. You start with a base rate because all too often people will say this is special. This is different. My security is special benefits that no one else has. Don't bother me with the macros, don't bother me with the industry group, but really, that's a conclusion to be made, not an assumption to start with. So something that fundamental, I think, is very powerful for all investors,
Just for our listeners. You're talking about general forecasting. As Greg said, we're in this environment where people are looking for certainty in what is forever an uncertain world. They talk about, well, what's the market going to do next year? And we often talk about how things like the past can't repeat itself, but it certainly can rhyme. But what is the difference between forecasting and can you describe exactly what super forecasting is to the layman listener?
For me, forecasting is simply thinking probabilistically about the future. So very few decisions we make are going to be an absolute yes or an absolute no. They're going to be within the range somewhere in between. It's a world of maybe and what we want to do when we think probabilistically is be as precise as we can. And that's why we use numbers instead of words. So will there be inflation? Let's turn that into something more precise. Will inflation a year from now be more than three percent? So we've got a date. We've got a timeline. And now we can express it with a probability. Let's say it's 87 percent probability that that will be the case that becomes meaningful. That's something precise. We can all understand what that means. We can keep the track record of whether I'm right or you're right or Greg is right and then get more confidence in the forecast we're all making. So forecasting is just thinking probabilistically about the future. Really, every decision in that sense is a forecast, and what super forecasting is about is a data driven empirical process that we know leads to better forecasts, both for individuals and for teams. There are steps that anyone can take some simple, some more complex, but all of them can have incremental improvements to the accuracy of our forecasts based on what you might otherwise get and by accuracy. I should emphasize too, is you're getting the best possible forecast right now. And if you can get the best possible forecast right now before the competition, you have time. And having that time advantage is why it's really worthwhile. So if you're an investor and you can beat the crowd to the best possible forecast, that's where profit is.
And can you tell us a little bit about how the wisdom of crowds contributes to super forecasting?
There are things you can do as an individual and starting the base rate comparison class really important riding down your thinking, going back and checking how reality to what actually happened so you can get feedback and get better, then it really gets turbocharged when you get a group of people who are doing the same thing so that they can pool limited information and so that they can identify information that may not be useful noise. In the terms of Daniel Kahneman's new book, you want to filter out the noise and boost the signal, and having well-constructed teams can help you do that. One great way to do that been around for decades, by the way, is you ensure anonymity. This is something the Rand Corporation pioneered. They call the Delphi method, and you can do it on any team where rather than having a direct interaction, you get anchored on the high status individual who's in the room. And I saw this when I was at Morgan Stanley. That's one of the things I wish I could go back and say, No, you're doing it wrong. Back then, we'd sit around a big table and we've all been there.
Big table. There's high staffs, individual sits down and says, Oh, what do you think about? Yeah. And immediately, we're not thinking about what we think. We're thinking about what the estate is, individual things. And then there might be some discussion where we hear from the loudest voice in the room who may just mention the latest headlines that may or may not be relevant to the yen or whatever. We've all been there. So instead, what you do, you anonymize it, you invite everyone to offer their view. So should we invest in yen? Why circulate it? Then we hear from everybody, and then we can benefit from everybody's individual perspectives and synthesize them and then come up with a group view about whether it's a good idea to invest in yen. Having heard from everybody, not just the high status individual, not just the loudest voice in the room. And that's a quick process. Again, that's the keyword process that anyone can do to improve their team's efficiency and accuracy when it comes to forecasting.
You talked about Kahneman, and certainly behavioral economics is a big discussion point with us, and we've had numerous people on the podcast talking about that. How do you use super forecasting to sort of get over some of those subjective behavioral or cognitive biases that people have to come up with more objective forecasts?
I guess that is what we're trying to do is turn kind of subjective guesses, hunches into something objective and measurable. And while we do that, we want as much as possible identify and mitigate some of these cognitive biases that we all have. And there are things the academics still debate how much you can actually do something about it. But what we do know is awareness can be very helpful. So an example, a really easy, straightforward. Most people are overconfident, but most people will think I'm not over. Confident. That guy is over confident. It's not a problem I have, but they're very easy ways to establish that we all fall into the overconfidence trap. And the thing is, though, is that once you're aware of it, when it comes to overconfidence in particular, there are things you can do to improve. You can learn to calibrate yourself. So if you have an 80 percent confidence in something, you can get feedback on, whether you're 80 percent confidence actually aligns with what the world says. If you have enough feedback over enough time, you can learn that maybe that 80 percent confidence you have really is more like 50 percent. And having that piece of information can be really beneficial for anyone to know. Well, I think I'm 80 percent confident, but it's really more than five 50 that slows you down. And doing that process of slowing down means you'll go back, check your work, make sure that your assumptions are actually well-founded. There are others, too, that we all fall into on cognitive biases that are many, many of them.
I know one of the examples we've used in the past is it's something like 80 percent of drivers believe they're above average drivers, which of course, statistically is impossible. So we like to tell people, look, on average, we're all kind of average making an average number of good decisions in an average number of bad decisions. And I assume then if an average person had the powers that you put forward, the super forecasting powers, you're seeing that it would just give them a better chance. Is that correct?
Yeah. And it really is getting the feedback. That's ultimately what is really beneficial to get people to recognize that where they are in the distribution. And you're right. Most people think they are above average on anything that they're doing and that everybody else is below average for everything they're doing. And the reality is somewhere in between for most things, and that actually goes back to the base rate again. So a comparison class, the right place to start is we're all average. That's where you should start and then convince yourself that you're below or above from there. But we should start from the assumption that we're right in the middle of the bell curve because that's the base rate.
I'm sort of fascinated by this whole concept. And again, as I say, super forecasting is new to me. We've talked a little bit about investments and certainly from our chairs, we can really see massive opportunities for super forecasting in the investment world. But what are the types of questions does your company address? Obviously, you've mentioned some geopolitical. What are some of the things that you might be involved with forecasting?
So we do two main things, really. So we know how to convert these hunches into quantified probability estimates that are the best available. So we do two things. One is we can show people how to do it. And so we'll do a lot of training and go through interactive exercises to do that. Some of the things we're just talking about. But the other thing we do is we have from this research project a panel of super forecasters, the top two percent that we creamed off the top. And I'm one of them. That's how I got involved, too. And they provide the best forecast available and we have them working on client questions. So the kinds of questions that we're forecasting are the ones being posed by our clients. Many of them are in finance. So anything that you might think about that will affect your investment outlook. Odds are good that we're doing something on that. So what is the inflation outlook and we're also doing work on tariffs on China. What's the probability they will be lifted? What's the probability also about the U.S. election outcome next year or the French election or the midterms next year in the French election? That's coming up as well.
So anything we really try and find something that's otherwise dominated by subjective guesswork and not otherwise available in hard data. So like oil prices, you can go to a Bloomberg screen and get a pretty good estimate from the futures markets about where they're going to be a year from now. But who's going to win the midterms? That's a little bit different. Or what will the future of Northern Ireland be within the United Kingdom? That's a little bit different. So we'll tackle those sorts of things where there's a lot of information, a lot of opinion, but it's very consequential to decisions to understand what the probability truly is. And that's where we try and focus our energies. And by the way, every year we do bring in new blood of super forecasters and our main training ground is good judgment open where we have similar kinds of questions, where people will go and anyone signs up and they start forecasting and they build up their own track record. And then once a year, we'll invite the best to come and join the professionals
Raises an interesting question in our line of business. Of course, one of the things that we try to avoid actually are people buying investment products. Based on historical returns, so you can't buy last year's performance, and but of course, that's an ongoing issue because in a lot of cases, strong performance in one period, whether it's three or five year period may not be followed by strong performance subsequently. So with super forecasting, you track that. Obviously, you said you track forecasts against actual results and you see who rises to the top of that group of super forecasters is that success rate is that continue through time, do you find?
So it's a skill like any other, really. So you learn to play a violin or ride a bike or forecast and being comfortable with probability estimates about the future. These are all skills that most of us are not born with innately, but most of us can acquire and learn. And like any skill, once you've learned it, it takes a lot of work to get there. But once you've learned it, it kind of becomes part of who you are. If you learn to play the violin, you're a violinist forever more. Now, if you don't play the violin for a while, you might get a little rusty. And it's the same with forecasting, but you pick up the violin again or start thinking about probabilities again. You'll find it still there.
One of my favorite commercials, I reference it all the time with my kids is this insurance company, and I think like an elephant steps on a car or something like that. And the one guy says, Yeah, well, what's the chance of that happening? The other guy says, Well, one hundred percent because it happened. I always like to use that with my kids when something has happened. So I may say, what was the chance that happening? One hundred percent because it happened. But what you're saying is to replicate that forecast going forward takes an inordinate amount of skill or how much luck plays into that.
And that's part of the feedback you get because there's a lot of randomness in the world and just where that dividing line is between probabilities that you can measure and randomness that you really can't. That's kind of the art of that. All we know, the science, the process, steps that you can take and the art is to kind of find that dividing line that you were just finding. But just imagine in that situation, roll the tape back five minutes and then ask the guy, is the elephant going to stop on the car? And they'll ask that across one hundred situations where an elephant is about to stomp on the car. How often is the elephant really going to stomp on the car? I would submit it's not 100 times out in the real world, it's probably something less than that. And knowing kind of what that looks like, what is the probability of those sorts of events occurring is where it really comes into play. It's easy to be accurate in hindsight. It's tough to be accurate with foresight.
Oh, hindsight bias is the best bias, isn't it?
It is a good one. It is fascinating to how quickly things can turn into, Oh, I knew it all the way along. You can see it in real time whenever we run into a lot of uncertainty. And then suddenly we now know how things have resolved and all the experts are out there saying, Well, of course, it was inevitable.
It sounds like you'd be a good person to know when we're down in Las Vegas. May be betting on the sports book or something could certainly improve your odds.
Well, here's the thing is that we know this because we've seen them. The good poker players make very good forecasters of kinds of topics we're talking about now. They're very comfortable in probabilities and they can get very granular, so they recognize something significant by going from 60 40 shot to sixty three. Thirty seven percent shot that small spread. They get understand and they've learned it, so they already have that part of the skill. They become very good forecasters. Now going the other way, not so much I can tell you right now. If you see me in Las Vegas, you'll be able to fleece me and nobody's time. I'm not get
One question for you, and maybe some advice from you is one of the issues we have. Of course, all the time is we at times use probabilities in terms of our investment choices. Do we select value stocks over growth stocks? Certainly based on history, there would be an expectation, for example, that value stocks could outperform, but it's a probability and getting ourselves, including our clients or investors, to understand that, well, if something's there's an 87 percent likelihood of something happening, there's still a 13 percent likelihood that it won't happen. And then when it doesn't happen, it doesn't mean the forecast was wrong. It just means that there was a low probability event that happened. So how do you educate people on understanding probabilities and making decisions still based on probabilities, even though it sometimes doesn't work out?
That's a great and subtle point that often can be difficult to convey. And you're right. So in a world of probabilities, unless you say zero or 100, the way you're wrong is if you have poor calibration that we were talking about earlier. So if you're saying eighty seven percent probability of some. Something of occurring in this case values relative performance, then across one hundred questions. Eighty seven times that should occur. And the other 13, it should not. Now you're well calibrated, I can have confidence in your eighty seven percent probability estimate. The other key thing then, too, is if the world splits off into 100 different universes, 13 of them will go one way. Eighty seven go to the other. So the way to deal with that certainly surely is to not make huge bets. Don't bet the ranch on one call. You have a portfolio approach because if you have a portfolio approach where eighty seven percent of the time you'll be right in 13 percent, you'll be wrong, you're going to be pretty happy. And that's something investors become very comfortable with. So if you think about in terms of a portfolio where not every stock you're going to pick, or whatever ETF or mutual is going to be a winner. What you want to do is over the long run, have enough winners to offset the losers, and that's probabilities.
It sounds a lot like so the former French three factor model, which is a big thing in finance. It talks about expected returns. So the equity premium, the value premium that you talked about, Greg, the size premium and I know the the evidence that it shows is that over the last, I don't know, 80 years, the equity premium added something like eight percent in expected rate of return. But then Fama is also the first one to say, but that's expected rate of return, and that's not really what happened or will happen. What happens is whatever happens. So I don't know where I'm going with this, but we deal with it all the time because we've got investors that are invested in these portfolios with a tilt towards equity, small company value stocks, and they're expecting a premium, but they don't always get it.
And in fact, over the last three to five years, they did not get it. I mean, it just didn't work out that way. So interesting times, you know,
Here's how you take a super forecasting approach to that sort of situation is you would recognize that over the long period of history, that might be the base rate, right? That's what history shows. But then you would like you just did also recognize that within that period of time, there's smaller breaks of time where things go differently. So it's not a consistent data set to where it's just the same thing all time. You cannot just extrapolate the past in the future, but you can see periods where things went one way versus another and that can then spark, of course, what sorts of environments were we in in those different periods and identify what the risks might be that we're in one environment where value underperforms versus another will outperform, and that will give you the other forecast questions to be considering. The history will teach us to focus on whatever those might be. What are central banks doing? What are the economy doing? These very basic things and get smaller and smaller to more consequential forecast questions you might want to ask yourself, but then you'll do another thing. So that's just looking at the past. Let's look to the future. If we look back a year from now and see the value has underperformed, let's ask ourselves, why might that be what happened between now and then? That led value to underperform? This is a process called pre-mortem.
You imagine the future and then look back and you say, Oh, well, there might be this, or there might be that, and those can become forecast questions. And I've got a great example for you is that in September 2019, we were doing a workshop at a financial firm in Canada and we were going through this exercise. Their forecast question that they were working with was What will China's growth look like next year, those consequential to their portfolio allocations? And they came up with a number in a probability for that number and then they did this pre-mortem exercise. And so if they look back and growth disappoints, why might that be? And they had a discussion went back and forth in the anonymous framework we're talking about and somebody said, Oh, well, now maybe there could be something like SaaS again, and they go, Oh yeah, so we should mark down our forecast a little bit because that could happen now. They didn't get it. They didn't say 100 percent chance that that would occur, but they did zero in on some risks that would matter if they look back. And so come December, when the headlines started to shift ever so subtly, who was better prepared to act on that information? Those guys were.
Well, fascinating. And maybe one specific question will Trump be reelected in 2024?
Wait, are we going political now?
No, I'm just wondering. I'm sure there will be some discussion around your boardroom tables or actual committed assignments with regard. As to that question, and you don't need to answer it, of course, but I'm sure that will figure prominently in the next couple of years for you guys.
Yeah, and that's a consequential one. And what we would do with that question is take a base rate. So well, first, how often do presidents win reelection? And there's not a lot of data. There's not a lot, but there's a little bit. So that kind of gets us a starting point of maybe two times out of three. They would get reelected. But let's also look at other political systems around the world. How often do prime ministers stay in office after an election? And that starts to give us other base rates to get us kind of in a zone where we want to be and then we'll kind of narrow in to other possible base rates. So is a real active president the right base rate? Maybe not. Maybe it's a president who was out of office, have one term Mr Term and then came back, how often do they win? And off the top of my head, I remember there's some guy in the 19th century that won, but I also know that Theodore Roosevelt tried the same thing and he lost, so maybe to be 50 50. But then we might even narrower and say, there are some people who don't think that he lost and he is president, in which case he's not eligible to run for a third term.
Yes, it's a good way of not answering the question there, Warren.
My own view for what it's worth is if he ran and became the nominee, the odds would be one in 10 that he would go through. I think it's just stacked against him if he actually got that far.
Well, interesting. We'll come back and revisit this in a few years and see how we made out on that one.
Greg, we should move on to our speed round.
We should. Yeah. These are just quick questions and no pressure
Because Warren, you already did all the hard work. This is just for fun, so there's no right or wrong answers to this one, unlike the last question you just answered.
This may be more fun at your expense, I'm not sure, but we'll start with the softball here. What do you do for fun when you're not working?
Read and watch movies and have naps and do crossword
Puzzles over what you had me at naps? So what are you reading right now?
Right now, I'm reading a book about the heart called Pump Wow, which is pretty good, and I've got another one over there. By Stuart Ritchie called science fiction's awesome.
And here's one. So Colin and I both grew up in small Midwestern towns. I always wanted to say that I grew up in a small Midwestern town. Regina and Collin grew up in Saskatoon, both in the province of Saskatchewan. Your question? How do you spell Saskatchewan?
No pressure. I used to have a pen pal in Saskatoon. Oh, there we go. Ok. It's a ringer here. So SARS key. You can't even spell my own name.
I have to tell you, it's a bit of an unfair question. We ask it of every U.S. guest we have, and I think it's like one for 10. But literally, there's places.
How do you spell Missouri?
I don't know. Am I? Ss Oh, you are high.
High? Oh yeah. You got there. Nicely done. Better than me. I should know better. Give me Alberta or New Brunswick.
Ok? How do you spell Alberta? All right. No. Listen, just a couple more here. Just for fun. Do you ever wear a tuk when you're out and about in New York City?
Oh, you know what it is? What is it? The allies, that's right, it's the hot yeah, it's wool hat with maybe a pom pom on the end of it. Very good. Very good, Greg, you got one last one
When you were in university. Did you ever eat Cady? No, you may call it macaroni and cheese dinner in the United States, Kraft dinner in Canada. We all grew up on it, lived on it for four or more years.
And that might not be a fair one because I don't know if they have Kraft dinner at Oxford, do they?
They actually started importing it when I was there. You get it on the shelves, but otherwise you get like pasta shells and put butter in that kind of. Right?
Well, listen, Warren, thanks again for joining us today. That was a lot of fun and a very interesting discussion on super forecasting, and we really appreciate you taking the time to do that. Yeah.
So thanks. Yeah, thank you. I think we've all learned a lot from today is so appreciate it very much.
Thank you and CEO of our on good judgment open forecast inflation.
That sounds great fun. Yeah, we'll be there. Ok? All right. Thank you. And listen. So thanks, Terry, for joining us today and next time we are going to have a fellow named Jonathan Eng. Join us! Jonathan is a will, an estate lawyer, and he's going to talk about, I don't know, dying and what to do about it. Awesome. All right. Thanks.
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Episode 76 - “Boo”, Spooky Investment Stories
We talk about scary things that have occurred during the month of Oct in markets. We discuss the October Effect and potential “Black Swan” events.
EP.76 - Spooky and Scary
Welcome back to the Free Lunch podcast with Greg Kraminsky and Colin Andrews. Greg, good to have you back.
Nice to be back.
Of course, you took a week off last week. I did, because last week we had Erik Ristuben, chief investment strategist from Russell Investments, who spent an hour with us talking about all things to look forward to in 2022. And we covered things like inflation, interest rates, currency, global stock markets and others. So, this episode was actually an audio recording of a webinar we did a few weeks ago. So, if you want to watch the webinar, it's available for distribution, so let us know and we can send you a link. I thought it was a pretty good webinar.
It was great. Erik's an entertaining guy he knows so much so he can just talk knowledgeably about almost anything you ask him,
Like when he told us about how the economy and the markets are like two drunk guys walking up a hill tied together by a rope. Exactly, yeah. But here we are November of 2021, just a few days removed from Halloween, and well, of course, the end of October, October 31st. And Greg, that's an important day in our world.
That's right in the banking and finance industry at the end of October is the end of our fiscal year.
And so, what it means is that we partied like it was nineteen ninety-nine right on November 1st. Kind of like our own version of New Year's Day. Well, I guess we didn't really party, but we certainly are thankful for the results of the past year in markets. And here we are in October or at the end of October, a few days removed from Halloween, as I said, and it got us thinking about scary markets and scary times. We were like that. Mark Twain famously quoted, and I read October, this is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August and February. So, Greg, let's look at some spooky and scary things that have happened in the month of October in the past. And before we get into that, I just want to talk about the October effect because the October effect is a perceived market anomaly that stocks tend to decline during the month of October. I don't think that happened this October, but we'll get into that. That's right. The October effect is more of a psychological expectation than an actual phenomenon, as most statistics go against the theory. Some investors may be nervous during October because some large historical market crashes have occurred during this month. Maybe you can start us off with some examples.
Well, for sure. Yeah, because as you say, I think when you look at the facts, the facts are that October is not typically on average the worst month of the year, but there absolutely have been some incredible volatility that we've seen in certain October's. Let's start with kind of a big one. And here we're talking about the stock market crash on October 24, 1929. It's a while ago, so that's a while ago. And of course, people will recognize that as kind of like the beginning of the Great Depression. I think that was Black Tuesday, and there was also a Black Thursday in 1932. But overall, from top to bottom, the markets declined about 89 percent from top to bottom. And actually, it took until nineteen fifty four to regain the highs of 1929. So, it's important to remember, though, that that crash that happened or began in October of 1929 came after a five-year period where the stock market rose 400 percent leading up to 1929. So, a very remarkable rise in stocks, followed by an incredible drop.
But it was so long ago. Do we actually care about it? I mean, I know it's statistically important and stuff, but yeah,
It just highlights that markets can go through incredible volatility. Going back to one which I was at least alive for didn't have much money in those days, but black Monday, October 19, 1987. So that was a big day because the Dow dropped 23 percent in a single day, and that was pretty shocking for people that actually had money in the stock markets in those days that was precipitated by what people believe was program driven sell orders. So, lots of program trading that kicked in when the market dropped a certain amount and then the orders piled on. Also, important to remember that when you look at the five years leading up to Black Monday, nineteen eighty seven, the market had tripled in value. So once again, you're getting a fairly significant drop after a long period of rising stock prices.
I know Black Monday happened. I was in Grade nine, Greg, and you're in Black Monday.
So, I had graduated high school. I'll tell you that. But it's one of those things, though, that when you don't have skin in the game, when you don't have money invested, you don't tend to pay as much attention to it. Now, I was working at the time and it was all in the news, of course, but again, it didn't affect me personally all that much. But again, interestingly, the 1987 Black Monday stocks dropped 23 percent in a single day. But if you had been invested at the beginning of 1987 and we're still invested at the end of 1987, you'd still be up about six percent on the year up ad, which is a pretty good year, and it just talks to the importance and the value of being fully being invested.
That sounds like 20 20.
Thirty five percent decline in the market and two weeks and finish the year positive.
That's right. And since I've been in the business for a very long time now since the mid-90s, October has proven to be a problematic month from time to time. So early in my career, the Asian currency crisis unfolded beginning in July of nineteen ninety seven, but really kicked into high gear in October November. And I think the international stock markets bottomed out late October, early November of that year. And during that time, the U.S. market actually was doing just fine. So international diversification didn't work well that year, but it works well in most years. And then looking more recently in twenty eighteen, so we're talking. Just three years ago, the market actually lost six point nine percent in October, which at the time represented about $2 trillion dollars in market capitalization. What caused the market to sell off back in twenty eighteen? Not a lot of people actually remember because it just seemed like a blip. But back then interest rates were rising. The U.S. dollar was strong and there was a trade war with China that was going on, and all of those kinds of conspired to cause the market to sell off. And ultimately, it did to sell off 20 percent from top to bottom in twenty eighteen. There's some nasty October's
You missed one. Over and it goes back much further than the Great Depression, it was Tulip mania. Oh, I know that neither of us are around for that one.
Well, let's see who was in the. I think it was the sixteen hundreds.
Or hundreds, somewhere around 50 or something like that.
All right. I missed that one.
So, I know that many will say that the length of time since this means that it's somewhat irrelevant, but maybe not. What's the difference between meme stocks and tulips? I mean, aren't they both basically worthless and driven on hype and speculation on steroids? I mean, Tulip Mania also came to a crash in October, which is interesting.
So, there's many other examples of bad things happening in October. And well, October can be a volatile month, as we've seen from your examples. The average returns tend to be better in October than in many other months. I mean, even just recently, September comes to mind.
I think in the Trader’s Almanac, September is one of the worst months for stocks,
And because of the results of September, we saw things in the press, in the media talk about volatility in October that we would expect,
But how did the markets do this October? Well, the S&P five hundred, which lots of people talk about the market as the S&P five hundred. It's just an easier way of saying it. Yes, it was up three percent in October, and year to date it's up about twenty two percent from January.
That's pretty decent.
That's pretty, pretty right on. I say I call that a return. Yeah. And in the last 12 months, it's actually up over 30 percent. Yet we have publications like Forbes magazine at the beginning of October, they wrote October Stock Market Outlook. Is the S&P five hundred ripe for a correction? Did it? I guess not. No, I think they missed it. But another one from Fortune magazine that was printed the first week of October. After a rough September, investors can expect one thing for October volatility.
No, I don't think that happened.
Well, not unless they meant on the upside, and MarketWatch wrote the first week of October. Stock market's volatile October history means it's time to steady yourself for a black swan event.
And what's a black swan?
Interesting that you would ask that I looked it up on Investopedia just to get the correct definition. And they say a black swan is an unpredictable event that is beyond what is normally expected of a situation and as potentially severe consequences. I mean, it sounds like COVID.
It does. Yeah, right? I guess that would have been a black swan. Yeah.
Remember, there was all kinds of things that have happened, and I know this isn't October, but I want to bring up another one that was kind of timely back in twenty twelve. We heard things about the end of the Mayan calendar. Do you remember that?
So, the Mayan calendar was supposed to end, or it ended December twenty first twenty twelve and there was lots of people out there that said, that is when the end of the world is going to happen.
Who did it? Did that happen?
I don't think so because we're recording in 2021, right? You know, nine years later, OK. So, I know it wasn't October, it was December, but it was still a crazy thing to think. And I remember we had someone call in to the office and they were certain that this event was going to happen. They were talking about with certainty, and they went on at great length about the certainty of this event. And the problem was that they had a bond that had recently matured, and they needed to reinvest it. So, what do you think they asked for, Greg?
You tell me?
Well, they asked for what are the bond yields like? I want to reinvest my money in a new bond. And I went through the short-term bond yields with them because remember, they just told me that the world was going to end December 20, 2012. Right? So, I went through the rates with them. They said, Well, that's not good enough. The rates are too low. And I said, Well, the only way you're going to get a higher rate is to go out longer than December twenty first of 2012, to which they said, go for it. Now this doesn't make sense. On one hand, they're telling me that the world is going to end. And then on the other hand, they want to bond that matures after the world ending to get a higher yield.
Well, I guess maybe they were just hedging just in case they were wrong on the outside chance that the world didn't end on December 21st, 2012?
Well, yeah. So, did they really think that the world was going to end at their core? I know that that's an extreme event and it was December, not October, but right on. I thought it was a good story.
It's excellent. And let's talk about there's other scary things that have happened to investors in the past. Scare like that. Exactly like that. And we were thinking talking about how typical a horror movie, usually there's some poor unsuspecting individuals entering a situation fraught with risk and being totally aware of what's lurking ahead of them. But the audience knows, and they know something bad could happen. And sometimes the eerie music gives it away, as we've just heard, and sometimes the filmmaker fools us, and it actually doesn't unfold the way the audience expects. But the same thing can happen with investing like there is certain behaviors that can sometimes work out OK. But like a horror movie, often danger lurking in the shadows can take you down. Take, for example, there's a couple of ways that single stock investing can really be scary.
So, you're talking about like a concentrated position. Absolutely one stock of one company.
There are actually two kinds of risky single stock investments. So, there's what I would call the speculative kind. Ok, so this would include like a flier like meme stocks. And I know we've talked about GameStop and AMC, but those kinds of things that basically you're investing strictly because you think the price of the stock will go up, not because it's tied to any fundamental sort of factors like so not tied to company growth or earnings growth or earnings momentum or anything else. It's just a belief that this stock is going to go up in value because there's tons of interest in it. And I was thinking about Breivik's story again. We've talked about bricks in the past, but of course, this is something that's close to my heart because this all unfolded shortly after I started in this business. If anyone remembers back then, bricks ran up in value based on the belief that a tiny Calgary company had stumbled upon one of the largest gold deposits in the world in an area in Borneo not previously known to have large gold discoveries. And that fervor gripped a lot of people and actually like a horror movie, you see a lot of horror movies taking place in small towns, and somehow something gets into the drinking water or a cloud or a mist falls over the town, and all of the townsfolk are affected
Like a Twilight Zone kind
Of thing. Exactly. There's a little town in Alberta called St. Paul. People might know that to be, I think, a little bit northwest of Edmonton. Well, the bridge fervor really caught that town. I believe there was a bank manager or someone in a respected position, got on board and encouraged a lot of the town folks to invest in bricks. And at one point it was a town of millionaires. But unfortunately, as we all know, bricks turned out to be too good to be true. And I think one of the tip offs was when the chief geologist jumped, fell or was pushed out of a helicopter from 600 feet.
Yeah, that would do it.
And that was shortly after a significant a major gold company was brought in to review the assay results to see if the gold find really was as good as they said. And of course, it turned out not to be.
So, this is the how to become a millionaire type of scenario.
Yeah, that's right.
You start with like 10 million.
Exactly. So, the whole town got on the bandwagon. It turned out not to work out very well, and some lucky people sold out before the truth came out. And of course, others didn't. So that's the speculative kind of investment. And then there's actually a risky type of single stock investor that's totally well-intentioned. So, you might have somebody who either works for a company or just has some kind of knowledge of the company, and they believe the company has got incredibly strong earnings and appears poised to do well in the future. And in some cases, you can get blinded, or investors get blinded by things like a high dividend yield, and they end up concentrating their portfolio in that stock because no other stock that they look at has the same dividend yield with such a high quality. And I think you've had experiences with that with clients in the past where they'll end up with a very concentrated position, thinking that that could be their answer to all their problems with a high dividend yield.
And, and it can this is that get rich versus lose everything scenario. Sure. Talked about like, sure, if you actually want to get rich in the stock market, you actually need to have concentrated positions and they need to work out. So, yeah, the example that we've talked with in the past is I had somebody who referred a family member, and they came in and wanted to talk about their investments to which they were invested in exactly one stock, to your point. They happen to work for the company. I won't name the company. It's a local oil and gas company paid a pretty healthy dividend. And when we suggested that they sell that share and diversify it, they said no because the dividend is paying their mortgage payments. So of course, what happened is the company's stock price went down about 90 percent. The dividend got cut to basically zero.
And, and probably not because it was a bad company. No. So the reasons for going in and for feeling strongly positively about the. Company in the first place didn't change, but the situation changed in the oil and gas business, typically it's the commodity price goes down.
Exactly. It had nothing to do well, practically nothing to do with the management of the company. This was a forty-three dollars stock at the time that traded down to, I think, under a dollar at one point.
That just highlights this what we've talked about in the past, and that is concentration risk in a portfolio and typically concentration risk. We've talked about behavioral biases in the past, but it's the overconfidence bias. It's this feeling that, you know, something may be that either other people don't know or you're just incredibly confident in a company based on your maybe inside knowledge or something else. And it's just impossible to consider all the potential things that could go wrong. That's scary. And there is another scary situation, and it sounds a bit like the brick story, but I'll say when investors get mad. Now, of course, I'm referring to the scam Ponzi scheme by Bernie Madoff in the U.S. that came to light back in the Great Financial Crisis Time. Yeah, and basically
And it came too late because of a liquidity issue,
Right? That's right.
Yes, the world was going through a liquidity crunch and people wanted their money. Isn't that what happened? And then there was no money. There's no money
To pay out. And so why were people attracted to Madoff's investments in the first place? Well, it seemed to be a bit of a prestige thing. Oh, I'm investing with Madoff and everybody wanted to get on board. And one of the things that was part of the story was that his funds basically provided returns of one percent per month forever for years.
So, it's impossible.
Exactly. There was no down months, and it just kept cranking up 12 percent a year, one percent a month. And of course, he was fudging the statements and things like that, and there were people that did identify that the fact that it couldn't possibly be true. There were some people that had an early call on whether or not that was a scam. But I guess what I'm talking about is people willing to suspend their own judgment in favor of wanting to believe there's nothing wrong, nothing unusual about the situation. And so, like the unsuspecting people in the horror movies, when you suspend your own judgment, it can cause problems. So, if people sat down and said, OK, well, really, what are the odds that this tiny Calgary based gold company found one of the largest gold reserves in the world? What are the odds that somebody has found a way to structure investments to get one percent per month every month with no drawdowns, no bad months, regardless of how many downturns there may have been in the stock market? And so, if you suspend your own judgment, then there's a risk there, and that can often happen when you're talking about concentrated stock portfolios. But let's not just talk about the stock markets because there are some very scary things that can happen related to planning.
And we've talked a lot about planning in these podcasts, both financial planning and we started a miniseries on estate planning. I just want to recall a scary estate issue that I was aware of with one of my clients. And basically, what happened is this client had a will in which he named his children from his first marriage as beneficiaries of his non-registered account. So, he had obviously, like many people, he had a riff, and we didn't have tax free savings accounts back then, but he had a riff and other accounts. But he had a non-registered account and again, the children from his first marriage were named as beneficiaries. The client unfortunately developed cancer, and when he was presented with that diagnosis, he panicked and decided to put his non-registered investments into a joint account with his wife, a second wife. And he did that because for estate planning purposes, he didn't want to have those assets go through probate or what have you anyway? On his passing, the wife immediately claimed the assets because they were in joint name, and that's basically what a joint account allows you to do when one of the joint holders passes away, the assets passed to the other joint holder. So, the wife essentially had the assets, and the children were entitled to those assets under the will.
How'd that work out?
Well, I don't think it worked out well because there was some acrimony between all of the parties and the acrimony was in the end. It should have been unnecessary, but these are anxious times and stressful times, and things get heated. And I believe and in fact, there was subsequent to this particular issue. I believe the federal government, or the Supreme Court has even ruled that the will takes precedent over estate planning things like naming joint holders of assets and things like that. But the point is that it was something that he had originally planned and properly executed in the will and then decided to do something that was not consistent with the will. And it just means you really have to pay attention because then you cause problems for beneficiaries and at a very stressful time in their lives.
What about another scary thing that well?
Inside of that, some other scary things would just be retiring. For example, without a plan at all, we had our retirement miniseries, which focused a lot on planning for retirement, not just financially but lifestyle wise, but retiring without a plan. A lot of people believe that they've got a number in mind. Well, they need X amount of dollars and then I'll be fine. And what happens is when you proceed on that basis without a plan, you can miss things. You can ignore items such as inflation. I mean, most people tend to downplay the effect of inflation over time. This oh, inflation two percent a year, whatever, or five or five it is right now. But when you spread that out over a 25- or 30-year period, it's a lot bigger number than you would have expected. They also might underestimate housing expenses, medical expenses, possibly the need for long term care. And not only that, they fail to sometimes account for the variability that potential variability of investment returns. A lot of people build plans saying, Well, OK, I just need five percent on my money and I'm good. I'll have income for life. Well, as we know, you don't always get five percent. You might do better some years, but you might do incredibly badly other years where you're down 35 percent. And those investment returns are not guaranteed. And so, you need to look at, well, what are reasonable rates of return and what happens if you don't meet those expected returns? So those are other things that again, they could be scary if you find yourself in retirement and all of a sudden you feel that your financial resources are not what you thought they were.
Well, and actually, if you hadn't done the planning and you're just picking a stock return to focus on. I've seen people like that over the years, as have you who they say, Well, I need 12 percent a year or some number. It's like, Well, where did you get the number from? They said, Well, that's just the number I thought that I needed. But when you do a plan, they might actually need a zero percent return based on their asset base. And if they're trying to get 12 percent, they're trying to get above stock market average returns. Exactly. So, they're taking way more risk than they need to, which sounds a little scary. Great.
That is scary.
Speaking of scary, one spooky thing happened to my family, my son, who was just turning 18, was due on October 30, first back in 2003. Three. Wow, that's scary for all kinds of reasons to no one. Look back and say, wow, 18 years, that's gone by pretty quick.
Yeah, that is a bit scary.
And he's an adult, which is scary. So anyways, that's just a personal thing.
But before we leave that, my question is this. On October 31st of 2003, were you getting everything ready to head to the hospital or were you handing out candy to trick or treaters coming to your door?
Oh, we weren't going anywhere. It's a tough choice. Yeah, no, it was. He stayed in there an extra week. So yeah, we handed out candy. Excellent. Anyways, what can investors do about the October effect? What can they do about all these scary things? Well, I don't know. Nothing because it's already over. October is gone. So, what can you do going forward is how it should be restated and when we talk about future October's and future scary times, and we've mentioned this before many times, I think it probably starts with planning, Greg.
It does. If you have a plan, there's people feel a sense of lack of control when there's no plan because you're in a situation where things just happen to you. Events happen. There's been no preparation, no thought to give in to. What if this happens and how will we react? And so, it's scary.
Very scary. So have a plan. That plan is going to dictate how much risk you actually need in your investments, which is going to determine your asset allocation level. Diversify your security. So. Greg, are we recommending concentrated stock portfolios?
Absolutely. We're not.
No. I mean, because you're taking on way more risk than you probably need to reduce your fees and expenses as much as possible. And other than that, yeah, you should just hand out candy on Halloween and not worry about the stock market on that day. Exactly.
Or any other day for
That or any other day. Because even if the market, even if you got up tomorrow and the market was down, pick a number 10 percent tomorrow, are you going to do something about it tomorrow?
Well, likely not unless you're going to start lining up to buy stocks with some of those other assets that are doing better.
So, a rebalancing trade? Exactly. But I don't know. Nothing is going to happen. That's going to probably cause you to make any panicked decision based on an event tomorrow.
Part of it is being aware that of course, it can happen. It can happen any time. It very often will happen without any prior warning. Or it'll happen so slowly that you don't realize it's happening until you're well into it already. It's like
Weight. Exactly. Of which I have much experience with.
Hey, look yourself in the mirror every day you don't notice. Yeah, that's right. A quarter of a pound per day,
If only it were a quarter. But no, I think it's one of those things that by doing those things, we talked about these events, we know they're going to happen, and we're prepared for them and we'll deal with them as we've planned right on. Excellent. Well, so much for Halloween in October. And let's move on.
Move on. That's right. So, thanks for joining us today. Remember to rate our podcast if you happen to be on a service that allows you to do that. And if you have anything that you want us to talk about in future episodes, please let us know.
Until next time,
Then all right. Next time.
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Episode 75 – Erik Ristuben, Looking Beyond 2022
We interview Erik Ristuben, Chief Investment Strategist at Russel Investments, about the landscape going into 2022 . Enjoy the show!
Hi, everybody. Before we get started, we're just going to do a short sound check on our end. So, it'll be an awkward pause for a moment while we do that, So please bear with us.
OK, we got that out of the air, So, welcome, everybody, to today's presentation. We're really pleased to have Eric ..., Chief Investment Strategist with Russell Investment's join us for today.
Before we get started, we just got a couple of housekeeping items.
Number one, I just wanted to remind everybody that you can't see each other, you can't hear each other.
As a matter of fact, nobody knows who's on the webinar, except for us, of course. So, feel free to enjoy the presentation.
Whatever attire is comfortable Normally we would have this presentation at a fancy restaurant and we would serve some nice food maybe a nice bottle of wine and things like that.
But obviously Durian Covert Times things are different so we're we're doing this digital or virtual presentation I believe.
This is our fifth one in the last 18 months and as such. We tend to do them every three months or so.
It's something we should be better at doing, but when you do something every three months, you're not always great at using the, the software.
So we're going to do the best we can, hopefully, today goes off without a hitch but if it doesn't, it is being recorded, and it will be available for distribution at at a future date, so you can feel free just to enjoy the presentation and share the link when it's done.
So my name is Colin Andrews.
I am a Portfolio Manager with the CM Group at CIBC Wood Gundy, and I'm going to give a short presentation just a look back at our last webinar that we did and just set some of the foundational aspect for for Eric's talk today.
So, for today, we want to talk about why people invest, and Eric is gonna get into that a little bit, but, you know, why do people invest, you Know, when we think about investing, there's a few avenues that we can, We can do that with a few conduits for capital as it's called, and one of them is to purchase stocks. We can buy stocks because we want to receive in return from our investment.
When we purchase stocks, we become equity owners in a company. And it gives us certain things like the right to vote at the general meeting. Or perhaps it gives us the right to receive a dividend from some of the cash generated from that company. But that's just one way of investing.
The other way of investing is to purchase bonds.
And when we purchase bonds, we are essentially becoming the bank, too, a company, or a country, or a province, things like that, where we are lenders of our money to that company. And in return, we receive interest payments. And the third, and most common way of investing is actually to do both to have an allocation to stocks and allocation to bonds.
And that asset allocation. And the level of which you hold things are just going to be based on.
How much risk is appropriate for you and trying to achieve your goals?
So I just wanna talk with the stock market real quick. When we talk about the stock market, lots of times, people reference things like the Dow Jones Industrial Average and you see it in the news every day. It's reported.
The Dow did this. The TSX did that. The price of oil was here, the Canadian dollar was here. But just a quick reflection, the Dow Jones Industrial Average is only the 30 largest stocks that trade in the US market. So it's not a true reflection of the overall market.
But you'll often hear things like if the Dow was down one day, perhaps the commentator will say something like, There are more sellers and buyers in the market, and the Dow Jones was down today. I just want to comment on that. This is mathematically statistically impossible to have more sellers and buyers in the market, because in order for there to be a transaction, there has to be a seller for every buyer and fire for resellers, just that.
Perhaps one side might be more motivated than the other, which forces the price in a certain direction.
But so quite often, if we know that the Dow is only 30 largest stocks, you might think of the market as being the S&P 500, which is the 500 largest stocks that trade in the United States. Of course, a better representation than the Dow. But it is not the overall market is.
In the US, there are roughly 3600 stocks that trade on a daily basis.
So, you know, when we look at the Dow 30, we're sort of ignoring a majority of the market, but let's face it, it's a big world out there. They were just talking book. That was the US stock market.
The global stock market is, well, it's massive. And Canada only makes up a small portion of that. Canada is only 3% of the global stock market, whereas the US represents somewhere around 54%.
So whatever happens in Canada does affect us as Canadians, but it doesn't necessarily have a huge impact on the rest of the world.
Ironically, most Canadians have a majority of their wealth invested in Canada, which doesn't make a lot of sense if you had something like 90% of your money invested in, something that's represented by 3% of the market, and the size of the global stock market is about $70,000 billion. So it's, it is a very big global market.
The problem is that, know, we know what the stock market is. We know we can buy stocks and things of that nature, but we don't always know what to buy, what, what to invest in. So we get these these things that come out. Like Forbes puts out a magazine that says 365 Ways to get rich.
Usually aligning the stock market with wealth creation time puts out something that says, you know, you might be worthy of being rich based on your religious beliefs.
Money since put Soda Magazine about getting Rich now without even trying, which I think is pretty difficult but, Or you might read the Millionaire Next Door, which has some some good principles in it, but it still doesn't tell us how to invest.
So Money Magazine might put something out there about, well, here's what you invest in, here's the best options for this year, but as we know, being invested in the market itself has rewards people over long periods of time and we go through different crises. We've gone through one just in March of 2020, the global pandemic and Economic locked down where we saw the US market fall 35% in two weeks. It was a very impactful, sell off, and do sell offs occur pretty frequently pretty regularly. So this 50 year chart just shows some of the past crises.
And what it's meant to show is that as long as somebody's state invested, they are rewarded over that long period of time by staying invested.
But the issue is, we have all these headlines that surround us and things like, Currently, we hear about Bitcoin or Ethereum or .... What are those things, should we be investing in them?
Couple of years ago, it was all about wheat stocks.
Last year, it was all about a short squeeze on AMC Theaters and GameStop and, know, participating in a Wall Street Bets Forum on Reddit with our Diamond Hansen. A group of other like minded investors.
So these things, I believe, to be, in most cases. noise.
And I know Eric is gonna get into that a little bit, but Is the problem is, It's a really complicated thing and our brains aren't always wired for this stuff.
No, we we think that well like March of 2020, when the stock market was down, 35% to two weeks, that was. that was a tough time. That was a scary time for a lot of people.
And when we have those types of issues, there's a, there's this bias or biases or heuristics.
It tends to want us to flee when there's financial danger.
We tend to want to flee and sell stocks exactly the wrong time.
So you know, we're not gonna get into a lot of the behavioral finance aspects today, I just want to make people aware of that, that these things exist and their mental shortcuts. And some of them are there for a reason like when we were in caveman days and bienstock by saber toothed tiger clean was probably the right.
Brain function to get out of that situation when we're in a stock market and it's got a very fast decline. Fleeing might not always be the best option.
Quickly, we will just talk about the bond market. The bond market is much bigger than the stock market globally.
Canada, is only 4% of the global bond market.
And the bond market has a lot of power, and its size is roughly $128,000 billion. So it's roughly two times the size of the global stock market. Yet, We never, but we tend not to hear about bonds that often.
Maybe recently, we've heard about things like interest rates in the US. 10 year Treasury movie, Not things of that nature.
But normally, if you turn on the news, they talk about the things I mentioned the Dow Jones Industrial Average, the TSX, the price of crude, and the KT dollar. But perhaps we'll spend a little bit time on her presentation talking about the bond market, but with that for today, I want to introduce our guest speaker. He is, as I said, the Chief Investment Strategist at Russell Investments.
And I want to thank Eric ...
for joining us for today's presentation.
Good morning, gone. I will actually ask you to explain what Diamond hand was. But you did that.
Yes, And the fact that I actually don't know, and I'm very happy to admit, I don't know, probably should tell the audience what I think of read it as an investment of source of investment ideas.
It's, it's usually people trying to convince you to buy something that they already own, which is something you should always be a little bit leery of.
Yup, I like to talk about the caveman days. I think you probably heard me tell the story when I was a kid. I you know. It'd be the answer is I think It's the same database, because I've always lived near the border by life. You'd be at 6 30 on Sunday evening it would be Marlin.
Perkins: You know, you know, the Wild kingdom and it'd be followed by the wonderful world of Disney at seven We all saw those pictures of the African playing with the zebra herd of zebras on the African plane. And they always eventually they went to the shot of a single zebra on their own.
And we quickly realized, Nothing ever good happens to that, that that zebra. They're not elected zebra queen, or, or anything else, where they're usually horrible things happen to them. And that idea of staying with a herd, and when you had your picture of the brain out there, that is an incredibly powerful thing for us as human beings.
It is, However, as a general rule, as it relates to investing, it is a wealth destroying urge, because we, we want to sell on the herd of selling. And that's what the market is falling dramatically.
So I think that, you know, people are often looking for reasons to, to invest my view, is, you should always be invested, and you should have a longer term view of kinds of things. And kinda what you're investing, can change modestly over time.
But as a general rule, I completely agree with your, your View that in the end, it's the disciplined investor that actually generally does the bath. So hopefully, what we talked about today will help people get a sense of comfort and allow them to be disciplined, because, you know, I've noticed in my lifetime that media companies generally don't lead with everything, is great in the world. Don't worry about anything.
They tend to, they tend to lead with stories That, just going to people, right? Because if you scare people, don't watch abroad. So, Yeah.
Yeah. I think to keep that in mind. You know, the last, you know, two years, you know, a lot of things to be afraid of legitimate. We afraid of the virus impact, as you mentioned, that was stunning, stunning.
Down, a drought, fall in economic activity and therefore, stock prices.
In fact, it is in our my, it will almost undoubtedly go down as the shortest recession, in certainly US equity, US market history, it's going to end up being about a 2.5 to 3 month recession.
But it was huge in terms of its impact.
And we'll kind of all a little bit shellshock coming out of that is, you know, we're all kind of, you know, peeking out of the foxhole to see are things that are safe and and there's a constant kind of, you know, refrain of new things to be afraid of so far this year. It's been a great Yeah. I mean, it's been a great year. Or yeah, the TSH is up 23, and change 23% and change on a year to date basis. Yeah. Oil has been very, very good to people in the last in the last year.
And oil has been, really, really strong, because economic activity globally has been spectacularly strong.
The US market, US economy, We're expected to grow about 6% this year.
That if you think about what we think the long term average growth rate for the US is likely to be over the next 20 years, that number is around 1.7%.
So, 6% growth is three times bigger than what we think is going to be the average growth rate of the United States.
Similar numbers, Canada, the US, I mean, if you look at kind of a broad Europe, if you will broadly in the world, that is pretty much what you're seeing. The pattern, particularly the developed world.
Really, really strong economic activity, when we look at, you know, you know, current data around how business people are feeling about their business, all those surveys are strong.
They're not as strong in the last couple of months as they were in the summer, in the beginning of the summer. But they're still really strong so the the and that that actually is what's leading to this, you know, to put it into Canada perspective.
That's it's leading to this almost insatiable demand for raw materials and oil. Right it is this the fact that we were the kind of the global economy went from zero miles per hour, 100 miles per hour in a very short period of time.
That's created some difficulties, frankly, in the supply chain and other places for the economy. So when we start thinking about what's happened so far this year, it has been a spectacular year of economic growth.
It is. then it's very, very strong euros of equity returns even after what we saw in Qatar, from May to December period last year, which was all like ridiculous least drawn.
Give me a sense of it in the year on year, between February of 2020 in February, or I guess March of 2020.
And in February of 2021, the small cap Index from the in the US, the Russell 2000 doubles, in terms of over 100% return.
So, I mean, you've seen a really big response, and, and so people are saying, well, are stocks too expensive now, Well, yeah, they're expensive.
But the thing that's also happened along with that really good economic activity in those really good stock returns, is that corporate earnings have been spectacular over the last, you know.
Certainly almost a year now, probably a year when you look at the earnings growth that we've seen in Canada, Italy, US, Europe. We're talking about just absolutely monster numbers.
And so, you know, if you think about, kind of, in the long run, right?
In the long run, what drives equity valuations, like, what a company's stock is worth, it's what is their ability to maintain earnings, now, and into the future.
Though, the greater probability they are able to maintain high levels of earnings in the future, the more valuable the docket, not, this is not rocket science.
And in the long run, that's what drives companies valuations in the short run, Lots of things, like short squeezes on AMC and dry spot.
But you have to ask yourself if you're buying a AMC yes. Ask yourself, am, I really, is this really a smart thing to do to buy a movie theater chain in a world where digital streaming is becoming the norm?
Isn't that kind of, like, why shares of blockbuster in just before cluster went away?
Yeah, I go to the movie theaters, I hope that by going to Blockbuster satisfied with that, but I do Title, I go into the movie. Get the pop, or the experience of seeing it with other people. Good thing. But, Yeah. Can I just take it back to just for our listeners, people that are attending today?
The questions we get pretty regularly, and you mentioned it in a roundabout way just a few minutes ago, are based around inflation like, inflation numbers are running really high, much higher than historical norms, and some are calling it transitory inflation, Some are calling it hyper inflation. What's what's your take? What's Russell's take on where inflation is and where it's going?
Well, yeah. I know there are people who are out there saying Maybe it's hyper inflation, I can tell you right now, categorically. It's not hyper inflation.
Hyper inflation is paying you know, $2 billion each marks in the late twenties for a loaf of bread that hyper in place.
This is But inflation has been running hotter than the Federal Reserve would like it.
As an American, I have intensely aware that I talk about my country a lot, even when I talk to Canadians, and I talk to Europeans and I talk to people in Japan and Australia, I talk about the US a lot.
And I was really happy you showed those charts earlier about there's a reason for it is that there's lots of reasons for it.
We're half the world's market capitalization of the equity market of that. You know, debt market, we are an uncomfortably large portion of the debt market. Even at the national level?
Probably closing in on $30,000 billion of that, 123 julianna that you said it wasn't the most recent numbers. But, you know, from our national debt is about a quarter of it.
So, you know, we think about it is, and the other thing is, is that, because the US Dollar is the currency of the world, and what that means basically is every central bank in the world, the Bank of Canada, right?
European Central Bank, the Bank of Japan, every central bank in the world, holds some of their reserves in US Dollars.
Right? Because they're all queries and dollars, primarily Lots of market clearing dollars.
And, and it's that that PI currency, is the reserve currency.
So that is both a very much a privilege and an advantage for the US.
But it's also no, it's also got responsibility with it. And one of the things is we're often responsible for exporting inflation.
See? You have the reasons inflation, guess what, folks are going to export it to everybody else.
Thanks a lot for that, by the way. We tend to be patient zero a lot, Which is probably not the greatest thing in the world. I apologize for a lot about the bad, I apologize. For the global financial crisis, I apologize.
So, when we have an inflation issue in the United States, right? And and currently, you're right, absolutely inflation's running uncomfortably hot in the US.
We think most of it's transitory, right, And we think the Federal Reserve is viewing it. Most of it is transitory.
Now, I'll tell you right now, we were wrong about how quickly it would be proved to be transitory, right.
You know, we thought it would take as long as it's going to take to get those inflationary forces out of the market, but when you look at what's causing that inflation or have been causing the inflation, most of it was in parts of the economy that really weren't going zero miles an hour a year ago, You know, lodging, airline, car, purchasing, car rental, right, used car market.
I mean, all of those things were on the balls of their fate last year, and, and because, know, the economy opened up.
Because consumers around the globe, largely in face, in part, well, largely thanks to what our governments did, to keep us in good financial knickers consumers, right?
All those benefit programs that were put out, as soon as we felt it was safe to go out and buy stuff, new, probably going to go out and buy stuff and that's what we did. And we had the money to do it.
And so really disinflation has been, it's a demand shot, right?
It's the very little bit about a year ago and just ridiculously high demand now.
Everybody carrying the system has to adjust and, and that is when you think eventually those adjustments are made, there's lots of reasons for it. Historically, that's been the pattern.
If there is demand, you know, somebody will find a way to meet that demand.
And so what you'll find is supply eventually rises up to the level of demand, and inflation begins to alleviate itself. But the one kind of wrinkle in that is if we are paid more, right?
If wage wages are rising at a higher rate, that actually can lead to persistent inflation.
So, when we've seen persistent inflation in periods in the US, In pretty much every country, it's because wages rise to meet those new price levels.
Then, price levels go up again, and so then companies have to pay people more.
And then, it's this, it's this kind of vicious circle where you become the official spiral, where because we can afford to buy more, we get paid more, and then they raise prices because we're paid more, and then, you know, one thing to get to. And so when the Federal Reserve gets worried about inflation is win, win.
Win, that those wages are moving up.
And that's been something that's going to watch what in the United States because the wage tracker that our lineup that does, our federal reserve is actually an amalgamation of lots of regional banks, and each of them have their own specialty. Atlanta. The thing that we look for them to do is this wage tracker.
And the wage tracker says the average American worker is, is wage growth, is running at about 3.9% a year.
Meaning, that I'd have a time where they're being paid.
Um, and when it gets historically to four, that's when the fed becomes concerned.
Because that's when this wage price spiral can kind of start to really take hold, and so what they typically do is when they get close, before they become a little more reactive, how do they become reactive? What what measures do they put into place?
So right now, money is free and they're making more money, freely available at a kind of historical levels and they're doing it two ways. one, interest rates are at zero, right.
But the second thing is, they're purchasing assets in the open market.
What purchasing asset's does?
I just it's a little confusing for investors because interest rates and prices are inversely related in the bond space.
So the, if you see, if you see a drop in interest rates, that mean that, that you see that bond prices go up, and if you see a rise in interest rates, bond prices go down, which, you know, seems a little less intuitive.
So, because they are buying so many bonds, what they're doing is they're creating their own demand for bonds and that keeps interest rates low because they're out there buying the bonds and they're driving the price, they're driving the price up and the interest rates down. That's kind of that moment. That's what quantitative easing is if people have heard that term, that's what it does. That's what it's meant to do.
The first thing they typically do and they've always done quantitative easing twice in the US.
So, this is our second go round with the global financial crisis, right? Exactly, yeah, So, yeah, it So what's the first thing they do when they get worried about inflation, Right? And the economy potentially overheating.
They start, they start buying fewer and fewer bought.
And then the natural expectation is that that'll allow rates to rise.
And I think they announced in September that they were going to start by their start this paper.
What the paper is just means we're going to taper off our buying of bot.
Over time, we're gonna go from here to here, and then eventually we're not going to buy any bonds at all.
And they announced that they're gonna start to taper, and that was probably really a reaction to that, that, that wage number. Right?
That, they want to begin to prep the market.
You know, if you think about it, is pretty money, is like a sugar high for the market, and it can be very disruptive. It helps When you're in crisis, it becomes this rapid. Going back to the beginning, to kind of take the free money out of the system, slowly.
We'll do that paper over time.
Then once they're done with that call, and the next step, is we're actually going to raise the interest rates in the price of money.
And what that does is when you raise the cost of capital that has a tendency to slow down economic activity, right?
To keep it from overheating, to keep it from creating that wage pressure that we get to inflation.
So, but let me let me take it back to our individual investor level. No. Because in Canada, the overnight lending rate between the Bank of Canada. and the big banks is zero point 25%. And so you call it interest rate zero. I mean, zero point two five is pretty close to zero. But, you know, there's some debate or discussion of whether or not the bank of Canada will raise rates to 0.5%.
And it's sort of worrisome to some investors.
You know, in some people, use terms like interest rates will go up 100%. Or interest rates are going to double, which, of course, is mathematically. If you go from zero point twenty five to zero point five, they do, but what's your take on where interest rates go?
Maybe not in Canada. Maybe in Canada, if you have that number, but, just globally, like, you mentioned, rates are going to go up. What do you mean by that? Is it a quarter of a percent?
Well, there are, as you mentioned earlier, right? They already went up and the third quarter kind of as a result of probably that, that better. Now, it's with that they were going to taper.
And, by the way, I mean, you put you've noticed this too, right over the last, it's more than the last decade, but the, over the last decade, the fit between Canadian interest rate in US interest rate are unbelievably type, though, like we tend to mirror each other in the movement of interest rates pretty closely. There are lots of reasons.
You're our largest trading partner, where your largest trading partner like, but there's a reason for that. Yep, so when I talk about rates going up, We think the Fed, we think so first of all, the overnight rate is academically interesting, but in your real life makes no difference at all that much at all, right? Like how many people in your how many of your clients are borrowing money overnight?
Hopefully, the poor planning events are following that.
We tend to get, so we tend to care about like interest rates on a 10 year loan or a five year loan, a little longer loan, or maybe a 30 year loan with mortgages, right, I know.
So, those weights that are the ones that matter and the Fed doesn't get to control those. The market gets the control loads.
All they control is that overnight rate between what banks basically charge each other and what they charge the banks to lend money.
And so we think those rates right now, there are around 1.5% in the United States, and we think they may move up over the course of the entire market cycle this time.
So I, 2.25 to 2.5.
Um, and, you know, there'll be some ups and downs.
There's always volatility, but we know our expectation is, is that in 12 months, maybe they get up to like 1.8% in the US. And I think you kind of think about equivalency for Canadians and won't be exactly the same number. But there'll be the same relative.
No goal rollout of area. We think that's the most likely bad, Right? Which, your 10 year Treasury, which is the 10 year Treasury, 1.5, 2, or something like that, today rates.
And, and there was, there was some worries in the markets a few months ago, or a month ago. I can't remember exactly when it was, but the US tenure went from 1.15 to 1.6, and then pull back, and now it's at 1.5 is what you're saying that that's probably going to go to 1.8 over the next 12 months. Something like that.
Something like that. Yeah. It's there.
So, yeah, about that early move in the year was really the market taking like low inflation expectation at all at the end of last year and said, you know, inflation is probably not going to be zero.
And so they readjusted their inflation expectation, the latest rise has nothing really to do with inflation expectations, it's actually more around what they think the bed going to do.
So, they're going to go up, that'll put a little bit of negative pressure on bond prices, but if they go up 28 basis points over a year, you're still gonna get positive bond returns. I can tell you, I did the math. Yeah, yeah.
So, yeah, you know, the good news, you know, about Bob, you're absolutely completely wrong about the reputation of the economy, will be strong next year, both in Canada and the U S if we're wrong about that, I'm going to be really happy you on board.
Those are the things that offset your equity, your, your, your equity risk in terms of your total portfolio And, you know, and we're thinking that Canada is probably going to grow about 4% next year.
The US, around 6% next year.
So it's still well above average in terms of what the long term trends are, but not quite what we're doing this year, but still strong growth.
I think it's important to understand.
The reason the Federal Reserve is is taking some of that free money out of the system, is because business is really good, right? Business is so good that we have to hire people, and I got to compete with you to hire somebody by shop, right?
And then, because labor is not, it's been a little tighter than we would have expected.
That means I gotta pay him more than you are, then, for you to keep them. You're gonna have to pay them more to stay.
And then you're probably going to pay everybody that has that job that works for you, that amount of money.
And that's that wage pressure, Know, hopefully, none of the members of our staff are listening to that, you know. The reasons, I don't think monies are a good reason to allude to to change a job. The other reason everyone I know those are above that didn't like how it worked out.
So the so the reality is is that the fed is doing that.
So that growth doesn't become overheated.
It's, that's always important to keep in mind. It is just, but it's this weird relationship in financial markets.
We're good news can be bad news and bad news. Can't be good news.
It sometimes, it's really hard for individuals who don't live and breathe just like you and I do, for the kind of follow the thread, but in general terms, we actually think, and the other thing that's a huge advantage for like, the stock market, if you're thinking about over the next five years or so, is we just started a new economic cycle.
So, I am very confident that we are farther away from the next recession today, Then, we were in December of 2019, because we just started a new economic cycle, right, for the system, just reset.
And so, we have, we have spare capacity in our labor markets relative to where we were then spare capacity in a lot of areas, and that means you're tend to be longer, the next recession seems to be pretty far away.
And to give a sense of empowerment for investors perspective, what that means is a 20% drop in equities is fairly unlikely in the next, yeah, certainly 2 or 3 years.
It can happen, but it's, it would be unwise. Very unlikely. If you look at kind of historically.
I always tell people that you should always be brace for a 10% drop in equity because they do it a lot like, well, it doesn't happen almost every calendar year at five to 10% drop in equities at some point during the year, 5 to 10, yes, 10%, six out of ten, so, more often than not.
So, you just know, it's a bad thing that's going to take you from 10 to 20 and these, yeah, This is literally true.
But it's a, it's the way, I think, of the world.
to go. from 10 to 20. You need a recession.
Like, you may hit 20, but a day can hold if you don't have a recession.
It just won't, right.
I've got a couple of questions from the audience, actually, and I'm trying to monitor them as we're as we're speaking. But one came in earlier, and it was, and I'm just going to read it.
Given the current state of the energy energy industry in Canada, going forward, how will that affect the overall economy?
Um, I'm not sure what they mean, is that, I guess the question would be, if, there's two ways I can interpret that, right? In, business is good for oil oil, magic oil, you create an oil companies. Right now, globally. Right, price is high. Much higher, than it has been. Profits are. good.
They've gotten a little more disciplined about how they, they bring new capacity aligned in their level of investment.
So generally, oil companies are much better nek than they were a few years ago, so that's a good thing.
If they're alluding to kind of ESG issues, you know, environmental social and governance issues that are very much front and center for a lot of investors.
Uh, And, you know, I think I think there's a lot of people that are thinking Well, ESG, Dooms Integrated Oil Company.
And, well, first of all, integrated oil companies globally are the largest investors in alternative fuels of any company in the world because they're not Giddy it. They know who's coming in. They're beginning to try to diversify their business model.
The second thing is, is from a policy standpoint, if you're really dedicated to Europe, is dedicated to ESG.
one of the best ways to catalyze that movement in the economy is to make energy expensive.
Um, right, so you have a financial incentive to do the change.
So, these people who are talking about the cattle tourism, the the apocalypse Armageddon That's going to have integrated oil companies and oil companies in general?
Yeah? Maybe in 30 years. Yeah. Over the next 10 years, there's a good chance business is going to be pretty good Considering that people are still burning coal.
Isn't that a whole other part to that argument But OK, I got it. Thank you branch.
And I have another question from from the audience and it is if you look at strong government actually in the face of the pandemic it seems the US Government in particular will not allow the market to go down. And in Canada, the housing market seems like it's gotten too big to fail.
Do these examples mean we should do anything differently as investors? Should we consider stocks less risky?
So, the death of the Canadian real estate market, the rumors of the death of the Canadian Real Estate Market, has been greatly exaggerated for awhile I show you should treat who, I know you go read article. He wrote actually two versions of the Article, one for Canada on the Property.
So I would encourage you, if you haven't, you know, maybe May kind of highlight that for your clients. They have a deeper read for somebody who's looked at it more seriously than I have.
And then you get it from a US perspective, right, because this is Drumbeat. Because real estate in the US has been really, really strong.
And, basically, his comment in the US, one was, if you get US House prices are unsustainable, you should look at my friends in Canada and good Lord, look at the Australia. Like. A chart. It probably varies with Sydney at that. And they happen, that's for 20 years.
So I think, yeah. I mean, I think, you know, any time something is, is, is high, It contains risk. So if you're thinking about your, your total portfolio.
No, I don't, I'm not saying it's cataclysmic for their homes. I'm just saying that, you know, they're, they're not cheap, equities aren't cheap, either, You gotta kinda do roadmap as to which one do you think is more expensive?
No, I think that the reality is that real estate, conceptually fits between equities and bonds in a portfolio, kinda permits return potential.
And so I think if you think of it that way, yeah, kinda thinking about your total portfolio. This is where your team really does all the work, right?
It's helping people understand their own situation, their total wealth portfolio and help them, you know, kind of merge the two. The problem of housing is you've got to live in it so you can't live off of it.
Sorry, I didn't mean to cut you off. Let me ask a follow up to that, and it's it's something I was thinking about we also get a question all the time about how, you know, the stock markets at an all-time high. Is this a good time to invest, And, you know, isn't it a bad time to put money into the market when it's at an all-time high?
And quite often we talk about things like, yeah, but so is the milk production is also at an all-time high in the world, but, you know, I don't know where that goes in there, But, what, how do you approach that question?
Where are the markets at and, you know, talking about peak growth? And are we there?
How would you approach that question?
So, go back to that one of the charts that you showed, right? You actually hit it right on the answer to that question, right. On the head, and your, your, your, your charts to start? Just lock your soft ball. That's that's yeah. Let me show the chart that I was, I can't remember the effect of the S&P 500, but is distinctly sloped up into the right?
If you really look at that chart, what you find is the market, you know, establishes new market highs.
I'm an extraordinarily regular basis.
At some point, in the future, so far in the past.
At some point in the future, it is going to establish an even higher high, that's what they do, right? That is your economy expand.
You're capitalizing more and more economic activity, right, which means shares, you know, stock prices go up as the economy expands. I mean, that's the relationship.
So, the fact that you meet new high, particularly after you've recently had a recession, it's not particularly troubling for folks like me, right.
It's whether or not the economic activity underlying economic activity support Those stock prices is there, and whether those companies are able to translate that activity into earnings.
And remember, I said, early on, earnings in the long run, the capacity of a firm to create and maintain earnings into the future is what drives the stock price go, know.
And if the, if they are able, if the economy is expected to grow and they have shown the ability to translate economic growth into better earnings, you know, over time, and that's, that's why over 20 year period stocks usually beat all comers.
Again when I say usually, I mean almost always there's only a few notable exceptions in terms of the data and those around a quarter by quarter basis on a 20 year rolling basis and that was in the global financial crisis.
Let's talk about different factors of return and stock price.
Another question we often get is value stocks versus growth stocks and how growth stocks to lead the way for quite a while we hit this global pandemic and Economic shutdown and value stocks led the charge out of that. Where do you think we are in that cyclical relationship of value to growth?
So we like we still prefer, on the margin, right. Value Overgrow.
Right now, value stocks tend to be more cyclical.
And all that, when we say a second ago, what that means is their earnings tend to be more influenced by the, the economic cycle and the growth rate of the economy.
So, when, when the economy starts to improve dramatically, as we saw, it goes into recovery, Their earnings value companies, usually their earnings grow much faster than the growth company, Um, because they're more, they're more.
Like, if you think about, kinda, particularly the tech that we had, The last thing you do is, is, is, is, is cut down in your Facebook usage, right?
I mean, it's just like their earnings are not hugely influenced by the site.
Those kind of big growth companies, that, the positive and the negative. But that, you know, in that context is positive.
Where at all Company, Right, is a value company That is highly favorable stock. When the economy starts expanding, your oil goes up in the profit for, and that's been the case, this last year, right, or value stocks have been out earning, in terms of their growth rate, gross box.
Basically, since we've had this recovery, that's a normal relationship.
We think the the opening trade in the US is largely not completely over, but it is getting into later stages, because our economy is filled in that hole of damage in 20 20.
Other economies, yourselves included happened, like, you still are, in that early recovery phase. And that usually is good for cyclical stocks, which are more or less value stocks that are highly correlated between the two.
Not all value stocks are cyclical, but, latimore, let me ask you another question I get all the time is, in Canada, we've been trained, well, trained over the years, that, you know, you should invest in dividend paying stocks, because that's the way to go, get paid the way to something that we hear all the time.
What is your take on, should you focus on a dividend strategy or just collect dividends as a natural byproduct of being invested, OK, so there's lots of questions around that, right? It really depends on where you are in the life cycle of your investment and your sense of comfort.
Like, I know a lot of investors, I'm sure your clients, some of your clients, are among them.
They don't like to sell things to fund their own kind of expenses in retirement, right.
So, they want the income that naturally comes off their investment to fund their spending.
Right, And so, but those people, high dividend yielding stocks are more attractive and and and sen.
There are more old people in Canada now that have been in the past, or more old people in the United States that have been in the past were aging demographics.
Yup, That that preference, you know, has had a tendency to probably reward high, dividend paying stock.
The middle row, that's really important to understand for people who looked historically at what I dividends have done.
High dividend stocks. They've done really, really well.
But the bomb proxy, meaning what you get paid looks a lot like interest rate, looks a lot like in interests and so they tend to have, they tend to be influenced by where interest rates are going.
And in a 30 year world where interest rates did nothing but go down in the US and Canada, that's been the path for both of us.
Those stocks get that tailwind.
We're now in a world where interest rates aren't going to keep going down. Right. You cannot go lower than zero.
You can, but that's not healthy and it's not good for anybody in the long run. So this is the tailwind for dividend stocks. I'd just be aware of it, and if you think of it as a bond replacement, which I unfortunately, I think a lot of investors do, you gotta remember their stock.
Yeah, it's like, there's not going, There are not bonds, and if you're only going to buy those stocks, you tend not to own, you know, a large portion of the market, and a lot of those growth companies, right?
His drug companies, as a general rule don't pay high dividend because they'd rather re-invest the money in their own businesses and give it back to you, because you're gonna earn more, if they do.
So, it's, I think, it's more of a financial planning issue for me and a comfort level with how do you want to fund your spending in retirement.
Pre-retirement, you should always own high dividend yielding stocks.
But, my opinion, probably not more than what the market is, You know, the composition of the market, yeah. I subscribe to that as well on the markets. Don't, don't try to be smarter than the marketers.
Maybe you are, but I know I'm not. Anyways, the, Let's talk about, we've just got 10 minutes left here.
Supply chain issues, you you talk, you touched on supply chain issues and it's something that's relevant and real can you just expand on that a little bit?
So, there's, there's tons of issues, right? There's a huge semiconductor chip shortage, right? But, you know, again, the companies in that business will figure it out. I get more capacity alive and to meet that demand because it's in their best financial interests. If we could sell more, let's do what we can to sell more. And there's a lab you can open up on factory tomorrow, or you can't. You know, there's there's a little bit of a lag but are beginning to do those things.
The other thing is there have been shipping challenges.
You know, I took a picture not far from where I AM this morning. I took a picture of the of the lineup container vessels going into the Port of LA, and in fact, one of those ships evidently drop the anchor on the pipeline, the offshore oil rig here in California. So there are a little bit farther off shore than they were few month ago when I was last year. But that line extended, In fact, the last paper in that line right now is fully 25 miles away from the Port of LA, and there's just a line of them all to the port of LA.
So it's a lots of different pieces, but eventually what happens is, it's kind of related to that growth peaked growth bang, we rolled over in terms of peak growth.
Know? This year, the US is going to grow it, you know, You over the next 12 months, you know, this year, 6%. We're going to slow down next year, right? So we're not grow, because when you come out of recession, you're that's when your fastest growth rate.
So being passed, peak growth is not like that should concern people all that much, but the question is, the number is still positive. That is, it's still over what the averages. And we think it's going to be solidly that.
What happens is that once you pass the broke, the demand function comes down a little bit, Supply is naturally coming up to meet the demand and eventually find equilibrium.
So, you know, it, you're beginning to see some signs in terms of manufacturing in China and some of the shipping things that are happening. But that's beginning to happen. But it's taking a little while.
I think that's just a function of just, the massive demand globally, is people who got it, started living their lives again.
Interesting, OK, two last questions, and then we'll get you off the hot seat here.
But one came in, What about changes to taxation?
There's always talk about capital gains, inclusion rates, and things like that, or do you see any major changes to taxation where you are, where we are?
Major, depends on who your categorization of major is.
I mean, yes, I think, yeah, I think they are gonna go up.
As capital gains, there is no evidence in the United States or any other country, that the Capital Gains Tax has any effect on stockmen.
Right. Because the capital gain results, it relates to anything you get, all, right.
Just people think of about a stock, You have a home, and you sell a for-profit, You get a capital, same capital gains tax.
If you own a bond and you set up a profit and use other thing, you know, it is a non discriminatory equal opportunity tax. So, it doesn't like that.
It doesn't work equities more than it hurts anything else.
It just lowers your return, which is great for you as an investor, but yeah.
You only get to vote to control that by represented you're lucky, you're representative.
The, in the US, The one tax that, that does matter is, obviously, the corporate earnings tax, and, and that is likely to go up. I don't think it's guaranteed to go up, it's currently at 21.
It's probably going to go to 25 and ... at the highest.
That will be a drag on earnings, but not an enormous drag relative, certainly. So, you know, last quarter earnings in the S&P 500 grew by 90%.
I think tax rates go up 4%, it's probably about a four to 5% drag on earnings growth.
So, yeah, yeah, it's not great, but it's not, probably going to fundamentally change the picture for investors.
A lot of that in the world. So taxes are probably going to go up.
Will you just lead into my last and final question?
Global debt levels, we get this one a lot.
Should we be concerned about where global debt levels are and what can be done about it?
I think concern is probably a good thing.
I wouldn't keep me up at night.
Debt is an interesting thing, because debt insolvencies are two different things, so like when you think about home prices in Canada, right, the headline is on home prices, and it's relationship, generally, to your income.
But what it doesn't factor in is the cost of the debt.
You're paying really low interest rates, so when you look at kind of your, your daily life, how much of your overall budget that you're spending to own your house?
When interest rates are low, it's pretty low, and that's what's kind of fuel disability for, for housing prices to move up.
Paper governance, right?
Yeah, we have a shitload of debt, but a lot of it is like 2% or lower interest rate.
If I'm concerned about it, I'm not saying that's a great thing, and no, don't worry about it at all, But, debt is this weird thing.
It, it's only because it's a chronic issue for most economies.
And but there's a point at which it becomes critical and potentially gray, you know, Japan has debt to GDP ratio of 250%.
High, and the 10 year interest rate on their, their sovereign bonds? or, you know, you know, they're, they're laminated at less than 50 basis point, but that half a percent. I mean, when I say lessons that, he basically went through, usually, like, 10 to 20.
So when the Japanese government money for 10 years in Europe, those numbers are negative, right? So.
It's an interesting thing. It has an effect Japan in any real way. They owe most of that money to themselves. The vast majority, as do we, in the US.
And as you use Canadian, it, It's kinda chronic.
It's a chronic issue because then your budget that you use the service that the rus productivity gains.
Kind of a west growth you'll experience. So, think of as high debt levels.
The one thing that is inextricably linked to high double, what the debt levels are probably incrementally lower economic growth rate Not necessarily apocalypse but no lower than you could have been.
There's a point at which your lenders decide, Yeah, we're done. Now with the critical issue. We don't, let me touch on that, just a quick follow up, like, I hate to bring it up, but every grant is an issue, right? A debt issue. And I think there's like 170 lenders that are at stake here. Can you just touch on the significance of that?
So, ever grand, so, any, in our industry, most of us have been talking over the good portion of the last decade, around the fact that there's a troubling level of debt in China.
That, because of the way the economy is run, they have been able to largely suite those issues under the rug, although, kinda everybody knows there there is the rug has a huge lump in it. So, you can see the lump, but you can see exactly. What's under the hood?
But, the reality is, is that, um, I think this is one of the the inferences, you know, that we're going to see over time.
Of that, kind of everybody knew it was an issue.
The issue, actually, coming the way mm. We don't think it's a layman of that.
Like, I don't think the market thinks it's the lame in light of that, that that, But the Chinese government certainly has enough money to paper over it and shove it back under the rug if it wants to.
I don't know. I think I want some pain experience, because they want people to stop taking that much leverage.
Real concern we have around ever grann's, it somehow starts a wave of Chinese being less willing to buy property.
If they become less interested in home buying, and the whole buying visit slows down, significantly, whole building for every country, but for China, in particular, is a hugely important growth engine for your economy.
So, if you do see kind of the this lack of competence and housing, then, really dramatically affecting the propensity of Chinese to buy homes, and that then leads to a slowdown in home building, that'll slow their economy More than we would like to see. And I'm sure more than the Chinese government would like to see, That's the number one risks that we see right now.
There was an article I saw this morning that little bit of a chicken little article saying, Oh, my god, this guy falling in his house prices fell 0.08% last month.
Point 0 8, OK, I'm not sure that I'm not sure that's the point at which I'd be terrified, but it is, it is, you know, if it gets worse, it will be, there'll be a problem, not a cataclysmic problem likely, but it kinda lower growth rate China. And there are a lot of second largest economy in the world that's gonna affect us.
Well, listen, I think that we should, maybe wrap up your talk there. That was, that was really interesting. I hope you see the screen. I tried to find the diamond hands lake leanness of Eric ...
on. Some pony in kind of visual that you said that I did. Yeah. There's about 12 of them.
Well, in all sincerity, Eric, thank you for taking the time to to spend this hour with us.
It was very valuable in answering questions that people ask all the time because they're important, and it's always great to have it come from somebody like yourself.
I appreciate happy to do a column.
Alright, and I just want to let everybody know that a couple of items here, you can follow us on Twitter, LinkedIn, Facebook. We do have a weekly podcast. This episode will be posted next week on the podcast, it's called SEM pre-launch. and thank you so much for everybody joining us today.
And we look forward to our next webinar, Eric, you'll be off the hook for that one. But we're going to come back to you for commentary quite regularly. I'm sure. I hope you're open to it.
All right. Thanks very much, everybody. Have a great day.
Episode 74 - In the news…headlines reviewed
In this episode Greg & Colin review the biggest headlines investors are faced with currently, from oil prices to the US debt ceiling. Enjoy the show!
EP.74 - In the News
Welcome back to the Free Lunch podcast with today's hosts, just today's Greg and Colin, Greg for a change for a change. Yup. Maybe on episode seventy four, it's not quite a change. It's maybe a stable or a staple. That's right. Last week, we continued our discussion about estate planning.
We talked about. I remember we call it something like, I'm dead now. I sure hope I was organized or something like, Exactly. And listen, anybody that wants to know about how to be organized in preparation of their estate planning, go back and listen to that one. But today we're going to talk about things that are back in the headlines. We get a lot of calls and questions from clients, friends, relatives about things that are in the news, and there's a lot. So we're going to tackle some of those today. Greg, you might have noticed there's some things like Chinese property developers and bonds maybe defaulting right? An item. We've heard a lot about inflation worries, both home and abroad, maybe interest rates. Debt ceiling has come up, most notably in the U.S. foreign exchange valuations, global supply chain issues. I mean, we could go on and on. But Greg, where do you want to start this conversation today?
Let's dive in.
Although I just as you were reading all those things that occurred to me, people always talk about, there's this saying that the stock market climbs a wall of worry and all of the things you mentioned. And we're going to be talking about a little bit detail. There are all things to be worried about, and it's one of those things that there's always if you want to worry about things, things that could be detrimental to the stock market, there's tons of things out there. In fact, just about everything out there is bad news. It's not usually good news. Good news doesn't
Make the headlines. Let's talk about
These things because this is what's getting people's attention and causing them to worry.
So you never see a headline that says things are pretty good right now.
No, that's right. No news today.
Nothing bad happened and have a good day.
You mentioned Chinese property developers and let's say, three weeks ago. Who among us had ever heard of Evergrande? I know I hadn't. No, not a chance. No. Probably not. Too many people in this neck of the woods. Well, evergrande, as it turns out, is one of China's largest real estate developers, and it's also one of the world's largest businesses by revenue. They employ about 200000 people, making them a very big company. And it was founded by a Chinese billionaire. I'm probably not pronouncing this right, Suzanne. And he was once actually China's richest man. So the company made its name in residential property, but it also has investments all over the place electric vehicles, food and beverage, sports and theme parks. A very diverse company now, but certainly
Most of its business in residential
Property. And as it grew, it
Financed much of its growth through debt
And reportedly has over something like $300
Billion in debt, which isn't
Unusual for companies to finance their
Growth through debt. Not at
All. The issue stock or debt?
So what happened, though, is a couple of weeks ago, the company disclosed to investors that it might default on some loans that were coming due if it was forced to raise money quickly. And so it sold
Some assets to cover some loan
Payments coming due. But many people are concerned that they won't be able to meet the obligations because of the loan maturities that are coming up fairly rapidly in the next year or so. So what happened? Well, the bond ratings agencies immediately downgraded the company's debt, which has lots of ramifications. Obviously, it inhibits their ability to raise more money through debt and also has a fairly detrimental effect on the stock price. So these companies shares trade on the Hong Kong market, and the shares have fallen about 85 percent this year. Pretty significant, pretty significant. And in stark contrast to, as
You know, there's been a
Real real estate boom over the last couple of years. Covid inspired
In many cases, and a lot of
Real estate companies are doing extremely well, but obviously debt is a big issue. So at this point in the whole evergreen issue, the Chinese government has stepped in to stabilize the housing markets because they need to protect thousands of people who have purchased apartments that are as yet unfinished. And they also have to protect workers in the housing industry, which apparently makes up about 20 percent of the urban workforce in China. So this is a big deal.
This is a big deal in China.
Yes. But remember,
China is also a communist country. True. So it's not a free market. That's right.
Yet it is the second largest economy in the world. And so if Evergrande was to fail, there would certainly be cascading effects on the Chinese economy. What typically happens in situations
Like this is lending
Standards get tougher, making it harder for companies other companies to get access to credit, which leads to a credit crunch, which we're familiar with from 2008 2009.
But wait, we have to emphasize that the issue there is not the same as the issue in 2008 2009, which was a global credit crisis.
Exactly. So this definitely
Would have a big impact on the Chinese economy. Investors would probably start to pull money or want to pull money from the Chinese stock markets as they see that as less attractive. And in the case of Evergrande specifically, Evergrande does borrowed money from something like, I don't know, 170 different. Lenders, which means any kind of default by Evergrande or a bankruptcy would certainly send ripples through the entire financial sector, so absolutely bad news for the Chinese economy if Evergrande were to go under. But obviously there would also be
Ripple effects that were felt
Around the world, as I say, because of China being the second largest economy and significant trade partner to most other countries in the world.
The second largest economy. But if you look at the global market capitalization by stock market, China, I believe, is less than three percent
Of that's right, not a big chunk of the global stock market.
Yeah, absolutely. I'm not trying to say there wouldn't be impact, but yes, it might not be as much as people think it might. Well, let's talk about something else. We've been hearing a lot about inflation and interest rate levels. There's lots of articles that are out there on this. They come out almost every day. I mean, we see them all the time, for sure. Now it's a funny thing, though, because as a stock market investor and I've had this conversation with many people over the last few weeks as a stock market investor, we actually want some inflation. As a consumer, we don't. There's a bit of a paradox there. It's a funny equation because inflation leads to higher corporate earnings and stocks are priced based on the future earnings expectations or cash flows of a company. That's in theory, how a stock is priced based off their future cash flows. Exactly. So during times of inflation, you expect those earnings to go up. So therefore you expect the future cash flows to go up. So therefore you expect the stock price to go up.
That's right. Within reason, and that's why you say a little bit of inflation as opposed to
A lot of inflation. That's right. Well, listen, too much of anything is not good. So as an investor, a little inflation means a higher expected rate of return in stocks. Now, the current inflation rate in Canada is approximated to be around five percent, which is a little more than double what the normal inflation rate is. So some are calling this a period of hyperinflation. But remember in March of 2020, and I know we've talked about this in a few other episodes, we didn't have any inflation due to the global economic lockdown. We actually had three months of deflation.
That's right. So that is
Why a lot of people are calling this a period of transitory inflation where it's just making up for that period of deflation in 2020. And this is just sort of a
Catch up period. They call that the base effect.
So when you're comparing to a year ago period that happened to be very low or either in deflation, then it's going to make prices today seem a lot higher. But they might not be higher than they were two years ago or a lot. They wouldn't be five percent, maybe higher than they were two years ago, but relative to one year ago, they are definitely higher.
That's right, because central banks monitor and adjust money supply to deal with inflation. That's what they do with the money supply. It's one of the tools they use. So the general target is around two percent for a rate of annual inflation. So whenever you hear the U.S. Federal Reserve or the Bank of Canada comment on their inflationary targets, it's usually around two percent. But there are periods of time, as we just mentioned, when inflation is good. So when the economy is not running at capacity, meaning there is an unused labor or resources, inflation theoretically helps increase production. So more dollars translate to more spending, which equates to more aggregated demand. So, Greg, more demand in turn triggers more production to meet that demand. So right earnings kind of get better. And there's times when inflation is bad because inflation, as we talked about erodes purchasing power or how much of something can be purchased with the currency because inflation erodes the value of cash. So if you're on a fixed spending budget, historically you were getting, I don't know, some rate of return on term deposits and you're using that to pay for your groceries. But now interest rates are hovering close to zero. In term, deposits are hovering close to zero. And your groceries have gone up 20 percent. That's what they talk about eroding purchasing power.
Exactly. Yeah, that's right.
So where does this all mean to current interest rates?
Because there is a link
Now, the Bank of England has just told the market to brace for some interest rate hikes. It's thought they may do this because inflation in England is running around four percent, which is a little lower than in Canada, actually. And they believe that an interest rate hike will slow things down a little. So there was a Bloomberg article posted just October 12th, and I quote a combination of higher energy prices. Supply chain disruptions and rising wages in some industries has undercut the Bank of England's original view that much of the jump in prices will prove transitory. The central bank last month said it expects inflation to exceed four percent in the last quarter, more than double its target.
That's big what is
And that's what's happening here, too. So where am I going with this, Greg? Should we expect some interest rate movements from the Bank of Canada, the U.S. Federal Reserve? Things of that? What do you think?
I would think so. The thing everything
One is following right now is step one, which is not necessarily raising interest rates, but cutting back on the quantitative easing, which we've talked about in the past. And so this massive. Round of bond buying by central banks, which tends to keep interest rates down in the longer terms, not just the overnight rate,
But longer term interest
Rates, so they're going to slow that process down and by slowing that process, that's obviously going to reduce demand because they're purchasing a lot of these securities. And that could cause
Interest rates, prices to
Interest rates to start to creep up. And what's going to happen
Is interest rates are creeping up anyway because the central bank can't completely control long term interest rates. And so we've seen in Canada, in the U.S., 10 year bond yields are up to one and a half to one point six percent again, and they were one point two percent just a couple of months ago. And so the market will set those interest rates even if the central banks don't do anything because those rates are set on inflation expectations. And if you expect inflation to be higher than interest, rates will move higher to allow investors to earn a real return.
Yeah, but I mean, do we really care? I know that's
A flippant answer. But in Canada, the overnight lending rate between the Bank of Canada and the big banks is zero point twenty five percent. So if they raise it to zero point five percent, some would say wow, they doubled the interest rate overnight or the interest rate went up 100 percent, but it went from zero point two five two zero point five,
Which is the typical increment
Anyway. So it seems like a lot on a relative
It's not a lot in absolute.
The banks like to see a steeper yield curve, and so all of that would be good for the banks.
So, Alison, this stuff is super important. I'm not trying to say just ignore it, but just know that it's not like we're the only ones talking about inflation and interest rates.
No, absolutely. And the whole
Purpose of this episode is just just be aware of what's being talked about in the news and see what implications that has for all
Of us. But I like that when people say, Oh yeah, but it went up a hundred percent. Yeah, it went from zero point two five to zero point five.
Yeah, exactly. Doubled overnight.
On. Another thing that people have been hearing a lot of in the news
Lately with regards
To the U.S. and it was just resolved. I believe yesterday is this thing about the debt ceiling. So what exactly is this debt ceiling that caused such a commotion in Washington and for anybody that follows the
Politics saw that the Democrats they needed
To increase the debt ceiling and the Republicans were holding back, and there was some brinkmanship going on there that finally got resolved when the Republicans agreed to raise the debt ceiling. So what is the debt ceiling? Well, listen, the U.S. government spends more and money than it collects in taxes, so basically it borrows to make up the shortfall. The government in this happens obviously with all governments, but we're talking about the U.S. here. They borrow money by issuing bonds, and the debt limit is the total amount of money that the U.S. government is authorized to borrow to meet its legal obligations. And those legal obligations are Social Security payments, Medicare benefits, military
Salaries, interest on
The national debt, tax refunds,
Etc. So a lot of obligations
Of the U.S. government, and it's important to look at sort of what the debt limit
Is and what it does
Not do is it doesn't authorize new spending. So the debt limit basically just allows the government to finance existing legal obligations that Congresses have made in the past.
This is not part of
The current government's
Plans to spend on
Infrastructure or anything else. This is just to pay for things that are already approved and being spent and this debt limit. I think it was about one hundred years ago where something that Congress established this limit on how much debt the government could accumulate, and they establish that limit just to prevent governments from spending too much more than they could afford to. But I believe the debt limit has been raised something like, I don't know, 75 or 80 times in the last hundred years
Because that's just the way it is.
So what would happen if Congress failed to increase the debt limit? Well, I think the economic consequences would be pretty massive. So first of all, if they didn't increase the debt limit, then the government wouldn't be able to do any additional borrowing. And it would not be able to meet its legal obligations. Meaning, as I said earlier, so Social Security payments might cease for a time. Military salaries would see some child tax credits wouldn't get paid, et cetera. And that would cause a real problem because all of those people that receive those benefits would have a real cash flow problem
That would cause a real problem in the world because the U.S. Treasury bill rate is known as the risk free rate. So in essence, if they didn't raise the debt ceiling and they defaulted on their payments, all of a sudden, the global risk free rate is no longer a
Risk free rate. Well, that's right.
And what would happen, obviously, is interest rates would skyrocket because investors would demand a higher interest rate, given that there would now be risk seen in holding U.S. government bonds, whereas currently, as you say, they're seen as no risk. So a recession,
Is it a big surprise? Surprise that they actually got the deal done, though, I mean, don't you feel like they were going to get the deal done regardless?
Yes. I mean, listen, this is
Just an opinion.
Everyone has opinions about U.S. politics, I guess, or many people do, and I certainly do. But it would seem unlikely that if pushed to the edge, either side would allow the U.S. government to default on its obligations because the consequences to all Americans and all political parties and everybody involved would be massive.
Certainly, it would trigger a recession.
And that's not me talking. That's Janet Yellen. What does she know, though?
And you know, listen, even back in 2011, there was a standoff in Congress over the debt ceiling, and just that standoff caused U.S. debt to be downgraded
For the first time. I think it was
Recently downgraded to, wasn't it?
Well, I know it was back in 2011.
I don't know if there's
Been any further downgrade since, but obviously it would be very, very bad. And basically, if there was a change in risk profile of the U.S. government bonds, then all other borrowing costs would go higher. Things like credit cards, car loans, mortgage rates, et cetera. So if I was to take a line from Ghostbusters, if they failed to raise the debt limit, it would be bad.
That is a good line.
Yeah, yeah. And for that reason again, is this something that investors should worry about? I mean, I guess it's important to be aware of it. And of course, as we know anything could happen during the last U.S. administration. I mean, they did stop paying federal workers for some time until there was an agreement on, I think, extending the spending or whatever that process was. So it's something that could theoretically happen, but we believe would be relatively unlikely to happen.
Are you talking with that time period of December of 2018 to January of 2019 when the U.S. federal government shut down? Yes, I am. And what happened in the stock market during that roughly 30 days of government shutdown, do you know?
Well, I know that the stock market hit rock bottom on Christmas Eve. Twenty eighteen from Christmas Eve and on it started to improve fairly dramatically.
It was up 10 percent.
The government was shut down. Nobody was getting paid and the stock market was up 10 percent in that 30 day or so period.
All right. Let's move on to foreign exchange
And in particular, this strong Canadian dollar. And Greg, I'm going to make a hypothesis here that the strong Canadian dollar that we're experiencing is all because of the strength of oil.
And I'm going to tell you why. Please do
So. The key dollar right now is trading around 80 cents for every U.S. dollar, and back in March of 2020, it was trading at around sixty seven cents. So it's quite an improvement. Nineteen and a half or so percent improvement in valuation. But if you look at the price of oil now, the Canadian dollar is very linked to the price of oil.
Would you agree? Agreed.
So oil back in March of 2020 was trading at thirty two dollars per barrel roughly, and today it's trading just under $80 a barrel. And just in the last 12 months, it's gone up something like 60 or so percent. So here's the question is the Canadian dollar strengthening versus the U.S. dollar, or is the U.S. dollar simply weakening versus the Canadian dollar? And what does it have to do with the fact that oil is up 60 percent in the last 12 months?
Good question. And actually, it could be some of each.
But I think they don't call the
Canadian dollar petro dollar for no reason.
Yeah, like the Canadian dollar and the Aussie dollar are very similar currencies
In that we have a
Large amount of natural resources. That's our main exports
For our countries.
And so therefore our home country dollar is impacted by the valuation of those commodities that are exported. So some are calling this or would call it a risk on trade, meaning that it is correlated to a rise in equity prices based on a rise in commodity prices. And that makes sense. So if you think of it, when the price of oil was thirty two dollars a barrel, I assume oil company stocks were probably low. And if you look today and oil's at $80 a barrel, you would assume that oil producing company stocks have gone up
Quite a bit, which they have, which they have.
So there was an
Article put out just on October
12th again by a place called Interchange Financial. I'm not promoting them, by the way, but it was an interesting article. I'm going to quote them a little bit. The Canadian dollar is holding its impressive gains and trading near its highest level since July against the U.S. dollar and near its highest level since twenty seventeen against the euro. The loonie strength is primarily due to surging oil prices. So that makes sense from what we just talked about. The price oil's gone up quite a bit. The value of the Kiwi dollar has gone up quite a bit. And so I would say that my own opinion, I'm sure there are those out there with conflicting opinions. Sure that this movement in Canadian dollar pricing should be enjoyed by those that are going to be traveling to the U.S. because I'm not sure if it's actually sustainable at this price level for a long period of time in. Short for your time, who knows, but it's got to be linked to the price of crude. What do you think that summary?
That's pretty heavy stuff.
Heavy oil, heavy oil stuff. There you go. Well, actually, that leads into the last part of our discussion today because there is an issue of supply chains. You can say it's linked to the energy market, but tell us about supply chains in the world.
There's a lot of talk these days about global supply chain issues, and anyone who's tried to rent a car or take delivery of an appliance recently has probably experienced these supply chain issues firsthand. So before we get into it too far? Let's talk about what is a supply chain. You're an MBA type of guy. I'm sure you've been through this. But the supply chain,
Like there is a limited number of people taking their MBA courses, creating a supply chain. Sure.
What are you talking about? Absolutely.
There's very few people like you out there. So a supply chain, it's the entire process of making and selling commercial goods, including every stage from the supply of materials and the manufacture of the goods through to their distribution and sale. So I think most people can sort of get that like if you want to make pencils, you have to get whatever it is the lead for the inside of the pencil and you've got to get the wood and you're going to get rubber to make the
Erasers well and
You need a little bit of metal around the
Rubber. That's that's right, you know. So whenever anything that's manufactured or produced or dug out of the ground, it needs to get to the right place on the right time. So why are these supply chain issues so prevalent now? Well, the answer largely lies in Covet. When you look back to March of 2020, the world essentially shut down in the spring of
2020 and well into the summer. And so what happened is that
Lots of factories that manufacture key components of everything shut down. So for example, I think even back then, you were looking maybe to buy yourself a new bicycle and it was virtually impossible. You cannot buy a bicycle, you cannot buy a skateboard, which I tried to buy from my daughter, and it's because the manufacturing was all shut down. So what happened? So all these
Manufacturing companies shut down?
And if you look at in the rental car industry, when COVID hit, a lot of those rental car companies sold off their fleets because nobody was traveling, the cars were sitting idle anyway. These companies figured they could go buy more cars later when things got back to normal. But what happened is because of the shutdown of many factories and in this case, semiconductors
That are used in vehicles new vehicles. There's now a worldwide shortage of those semiconductors that again resulted from the plant closures in Asia last year, and therefore millions and millions of cars that should have been built were not built because of the shortage of those semiconductor components. And so now you've got a lot of competition for new cars. Rental car companies need to replace their fleets, lots of individuals want to buy
New cars and
There's tons of demand and there's just not the availability of those new cars
Anymore. Let's talk about that
Supply demand curve there, because you just point out, I mean, the demand stayed constant, but the supply shrunk, so the price has to go up.
That's right. We were
Talking about this a number of
Episodes ago when we were talking about inflation and used car prices do not figure into the Canadian inflation numbers, but they do in
The U.S. and used car
Prices are really moving up their skyrocketing because of the lack of availability of new cars. So fewer new cars, then more demand for used cars and the prices go up. So the other thing with COVID, what
Happened and it was
Counterintuitive, but consumer demand for stuff. And when I say stuff, I mean all sorts of things where there's bicycles,
Exercise equipment, motor
Vehicles, people weren't traveling, they were staying home and they were reallocating funds from what they might have spent under normal circumstances to other things like whether it was renovating their homes, buying exercise
Or leisure equipment,
Things like that. So what happened is this demand for lots of things exceeded the ability of manufacturing facilities to keep up with. And so we're seeing these supply chain issues are filtering down through all sorts of products. I have a good friend who's been waiting for a new refrigerator and stove for about the last six months, and if he's lucky, he'll get it in the next two to three months. That's not the way it used to be. There's other issues in the supply chain, so it's
Not just the manufacturing
Of these things, it's the transportation of products and materials. And so what happened is there's now shortages of shipping containers.
Well, because they're all being used to build houses now.
Yeah, right. Yeah, exactly. There's congestion at international
Problems in the trucking industry, there's shortages of drivers, so there's not enough drivers to drive the trucks that you need to get on the
Road to move stuff around.
And this is all contributing
To that supply
Chain crunch. And then on top
Of it all, if you remember back,
I think it was back in May or something here in the spring, there was a massive. Containership named the Ever, Given, not ever Grant, as we were talking about earlier, this ship got stuck in the Suez Canal, which is a major shipping route for products from Asia to the West, and it took six days to free it. So to recover from those six days of no ships moving through the Suez Canal, it took
Months to recover.
So anything can happen, and you look at what supply chain issues have affected mentioned autos, certainly food, if you can believe it, carbonated beverage. There's a shortage of CO2. Iphones, electronics, bicycles, Christmas decorations, sporting shoes
And sportswear due to problems in Vietnam
Were. A lot of these things
Are made, so supply
Chain will affect the availability of goods. As you pointed out, the lack of supply or shortage of supply. Strong demand. Higher prices. And therefore we've got those supply chain issues feeding into the inflation discussion that we just had. And again, are these transitory likely because issues like this usually get resolved, the supply demand imbalance usually finds a way to even out over time. So there's transitory issues around shipping ports, shipping containers, truck drivers, but these will work themselves out over time. Will it have an effect on, say, the markets, possibly in the short term? Will it make a dent in the long term trajectory of the markets like lean on?
Well, I ran
Into this when I was looking at some
Rental cars. You mentioned rental cars. Yes, we are looking to go away after Christmas to a certain place and been there many times. And rental cars for a week usually cost about, I don't know, thirty dollars a day. So what's that? Two hundred and ten dollars for a week or something like that? Get so much there now.
I'm going to guess more than that
Just by a lot. Yeah. So the same seven day period, if you pay now to secure your price, it's eleven hundred dollars for that week right on.
So about three to four times
Or five five x, that's quite quite a change. But OK, look, we've been kind of doom and gloom and that kind of stuff about some of the stuff. But the point of it is what can you do about all of it? And we've talked about this many times. We're going to sound like broken records, but it's because it's what works. I'm going to start us off here, Greg. Number one, focus on your asset allocation. That question should have been answered in your financial planning or financial planning discussions about determining how much risk capacity and risk tolerance you have and you need to achieve your goals. So when you run into a short term situation like a hopefully a short term, a supply chain issue, it's not putting you off your long term retirement plans right on.
What else can we do? We can rebalance
Our portfolios regularly.
So once we've
Got an asset allocation strategy in
Place, the portfolio
Is not going to maintain those exact proportions. And so over time, we have to make sure we don't drift too far from the asset mix
Strategy and rebalance back to it
Exactly and ignore the headlines or instead of ignoring them, treat them as entertainment advice. So the question that we get, like I said about Evergreen, that's interesting to follow. I'm not sure if it's going to have much impact on us here. I hope not, but it's interesting to read about.
Absolutely. And as we've always talked, make sure that you're paying the lowest fees and
Expenses that you can
Those high cost investment options out there, and there's low cost investment options
Sure you're heading towards the appropriate cost for the nature of the investments you're making. That's key.
And that would include tax tax
Rates to monitor your tax rates.
And lastly, I would say, as we're heading into while we're well into the fall, we've been through Thanksgiving. We're on our way to Christmas. I was just reminded the other day that Christmas is less than 70 days away. Just kind of crazy to think about. Well, rest and digest. So don't get caught up in these headlines. Know that if you've done the proper plan and you've laid the proper foundation, just having a longer term perspective will help.
That's right, and I think it
Gets back to the
Discussion we had back in the early days
Of COVID, and that is that it's easy to imagine bad things happening. And that's the wall of worry that we talked about earlier. And there couldn't have been much more bad to worry about than when we got into this global pandemic, and the entire world essentially came to a halt for a period of time. That was pretty bad. And if you look at how it worked out, one of the strongest stock markets we've had in decades ever. And so while you could predict all sorts of bad things happening, in the end, things generally work out because over time, what happens, economies grow, companies become more profitable
And things just in the end.
They generally have taken care of themselves, and you sometimes need to wait it out. But there's really not much you can do other than have the right strategy and, as you say, rest and digest.
Well, I think that does it for today. I think we've run out of time. So thanks for joining us today. Remember to give us a reading on your well, wherever you download our podcast from. And if there's any topics you want us to cover, just let us know we're happy to dove into pretty much anything you reason. All right, till next time
Episode 73 - “I’m dead…I hope I was organized!”
In today’s episode, we discuss the importance of organizing your estate while you can! It's time to get organized and prepare for a what-if moment!
EP.73 - I'm Dead Hope I Was Organized
Welcome back to the Free Lance podcast with Greg Kraminsky and Colin Andrews. Greg, here we are again.
Another week, another podcast episode 73.
I should say nice, which is considered when we started this, we started this at the sort of the beginning of the global pandemic.
That's a lot of content during These many months.
And yeah, May of 2020, I guess was our first podcast.
So yeah, well, Listen, there's lots To talk about, and I expect We'll have a little celebration when we hit number one hundred.
For sure, we will. Now, last week, we talked with Sarah Newcomb. Sarah is the director of behavioral finance at Morningstar. And that was a fun conversation, and I would encourage those to go back and listen to it if you didn't listen to it last week. But two weeks ago, we started this conversation about I'm dead now. What? And today we're going to sort of carry on with that conversation. During the previous episode, when we discussed it, we were talking about the importance of having an
Estate plan, having the will And the Personal directives and enduring power of Attorney things like that. But we have This little book that we give Out to people. It's just a planning book for people to fill out on their own. And it's just a place for them to document, well, anything important in their life that they want to leave information for.
It's really handy, and it's something that we suggest people start to do, maybe even before they have their first meeting with the lawyer. Let's say if you're starting to work on estate planning and you need to meet with a lawyer to have the three documents prepared the will, the power of attorney and the personal directive. And it's just a good way to essentially take inventory of what you have. Not only physical Assets, financial assets, Things like that, but how you want things to be taken care of when you're gone. And so this is really a great place to start. We're going to be talking about a lot of individual items for people to think about. So for anybody listening, don't feel you have to jot these down as we talk because we do have these books available that help you get things organized.
There's a lot of online types Of programs available as well, but this is just a nice, handy little reference book that everybody Can take home and start planning.
Well, I think that's the point is that it's just about getting organized. It's the same thing when we do a financial plan with somebody, you have to organize all of the Data Before we do the financial plan. So this is just organizing your affairs for when you're not able to have a voice.
Well, that's right.
And I think we say I'm dead now. What? This could also Apply to people that become disabled or incapacitated and aren't able to handle their own affairs, and that's where the power of attorney, of course, comes into play. But again, you want the power of attorney to be aware of most of these things as well, because they will be taking over for you when you're not able to write on.
Well, let's kick it off. Where does somebody start, Greg?
When we're talking about estate planning and pulling together information that will be beneficial to somebody who's looking after your affairs after you're gone? We start with personal information. People will need obviously your date of birth, maybe social insurance numbers, things like that. So all of that personal information needs to be identified medical information.
Now, why would somebody need medical information for somebody that's deceased?
Well, it's a good question.
I guess there might be people that need to be notified of your passing and other things like that. So or I was thinking Like for the next generation, if your parents have a pre, what is it called like when you have something an underlying medical issue? Oh yes, that maybe could be passed down.
Sure. Possibly genetically inherited Or what have you? You certainly want to identify a number of key contacts. And so those key Contacts from the standpoint Of actually handling your estate, you would want to Identify the executor Or executors. It's very important Your estate lawyer and your Accountant because all of those people will be absolutely critical in administering Your estate and making sure your Wishes are executed. But as well, There may be family and Friends and other people that you'd like to have Contacted if you were to pass away.
Now, don't you find, though, that in today's day and age of the internet
That the passing
Of somebody, the information that somebody has passed like that flows pretty quickly to most
People, right? It can. And this is just
A way to make
Sure that some very specific
People are notified
People that you would want to know, like who would you want to notify? Not naming them
Specifically, but like what types of people?
Well, I mean, I think it would
Be people that I am
Or was friends
With no longer
In my close circle of where I live. I have friends across the country
And you're just
Well, you know, but one one in each place,
Just people that, you know,
Possibly extended family that maybe you haven't seen in a long time,
Like a strange family, maybe could
Be. So what else? How about insurance policies?
Well, that's probably pretty important information for your beneficiaries to
Have access to. Absolutely. Because insurance
Pays out. Pretty quick upon the death of somebody.
It does. And, of
Policies, in many
Cases, in most
Cases, there is a
Named beneficiary on insurance policies and which means that, as you say, it can be paid out very quickly without waiting for the estate to be probated.
How does that factor in funeral arrangements with insurance
Policies and covering that cost?
Many people will have insurance
Policies, permanent insurance
Policies specifically to cover those what we call last expenses not only to cover the actual cost, but many people actually do make funeral arrangements in advance. And that's just done to make it easier for their family and for the executor to deal with that aspect. If there are funeral arrangements, obviously you'd need to identify the funeral home, what to be done with
Your remains, whether
You want to be buried or cremated, et cetera. So all of that needs to be identified.
And I guess you'd have to identify things like your dependents.
Yeah, that would be important.
And again, keep in
Mind that I think a lot
Of this work can be done in advance of drafting the will because then when you go to see the lawyer, you'll be able to identify. These are the people that I want to have as beneficiaries or these are my minor dependents, possibly people. That guardianship might need to be arranged for. So, yeah, you want to know who they are.
Any relationships, what their relationships
Are, where they're
Located, if they're in town,
If they live independently or
Separately, et cetera.
And any health care history, as we talked earlier, it may affect them.
Your beneficiaries probably want to know where your will is located.
It's kind of important, and I usually would suggest that there will be located in a couple of places. One copy with the lawyer and another copy
Somewhere accessible to your family or
To your executor.
Well, especially if they don't know who
The lawyer is. That's correct. I know we
Have a number of client relationships where people have given us
Just an electronic copy of
Their wills, and it's just an in case situation, just in case somebody can't find it. We have a copy that they can act on.
Exactly. Well, what other kind of documents might you want to have in there?
Well, you probably want to know things like, I mean, this might sound kind of silly because you're dead, but your driver's license, your passport, where is your passport located? That's an important government document. Your birth certificate. Any marriage or divorce certificates. Things like your address book all your contacts. Probably something where if your family is trying to reach out to people that you know, another one that really comes up quite often is what about your computer, your log into your computer that has access to a lot of your information?
So important, because when you think about how much is done online
Right now, I mean, sort of investing in banking
Is done online. Many insurance policies are paid online. There's just so much of what we do is linked to our phone or our computer, and every one of those sites has a username and
You absolutely want your executor or family members to be able to access that information when you're gone,
Because it's a little awkward going to the funeral home with somebody's smartphone to get a facial recognition of them while they're laying in the casket, right? I mean, it probably be easier to have the passwords that would be easier. Yeah, yeah. So what about financial information?
Yeah, I mean, obviously, financial information is going to be very critical to the executor because the executor has a big job. And basically the job is to identify all assets, identify all liabilities, ensure that a lot of things are taken care of
That would otherwise be left hanging.
And so you obviously need to know where the financial power of attorney is located. And again, that might be more important in the case of somebody who suffers a disability and isn't able to handle their own affairs. But that's valuable information bank account information, credit card
Information, any other charge your credit cards that you might have your investment
Portfolio, where is it located? Who is the
Advisor on the portfolio?
There's other accounts, as we mentioned.
I mean, your wallet is
Full of them,
Either your wallet,
Your digital wallet, frequent flier points, reward
Programs, all sorts of things that probably will want to be canceled
Or redeemed or redeemed if possible.
Where are your tax records? It's important to
Keep tax records for seven years or
More. They've got to be somewhere.
Is there a safe deposit box? And if there is, where's the key?
And then obviously a list of
Things like any debts that you
Might have mortgages,
Loans, lines of credit leases, things like that, all that has to be identified.
I mean, and there's also other things that are owed to you from others that need to also be identified. So I know I've done a few of these in the past where you've done personal loans to family members or friends or things like that.
Your estate probably wants to know if there's money owed to yes or to it. Yes. Any judgments or possessions. So if you've, I don't know, lent something to somebody of significant value? Sure. Probably should be documented.
Somewhere. Exactly so again, that just will help the executor as they
Go through the process of filing probate to understand where all those things are. Now a lot of people are
Involved in or
Of commercial businesses. And obviously there's a lot of unwinding
To be done in that case. And so obviously, you need the formal
Documents, the name, the
Location of the business, the location
Of any other assets that the
Business might own. If the business rent space, then you need to know the landlord information for the business information about the employees.
What else? The accountant, the lawyer
In any kind of buy
Sell agreements that might exist between business partners. And again, the same things
We talked about on a personal basis
Bank information, credit cards, key customers, royalties, licenses, utilities, all sorts of things that businesses would be involved in that you might have the most of the information on. In many cases,
Information is in a desk somewhere,
And it needs to be
Identified where that information can be accessed well
And on the internet to the business website information. I know we ran into this a few years ago. We had to update our payment processing for our domain, for our website, which is markets hyphen works in case anybody's interested, exactly. But the company where the domain was purchased from the had an old credit card and old information, and I remember trying to update the payment on it. And the guy I was speaking with basically gave me three chances to remember the password. And if you don't remember
The password, you're locked out like, I don't mean
Temporarily, I mean permanently.
So it's really critical for those social media
Sites and websites for businesses and personal that people have access to that.
No, exactly. The other thing is
You're pulling together all of this information as
You start thinking about who are your beneficiaries
Going to be and what they can expect or what you're planning to leave to those beneficiaries. So as we talked earlier, there could be life insurance policy payouts. What type of policies? Who to contact for that information? What's the amount? Who's the beneficiary named on that particular insurance policy? And where are the papers or the
Information on those policies?
And there might be some employer
Benefits and social insurance
Payments. Final payments from those beneficiaries want to know what they can expect from a financial standpoint. So we've talked a little bit about
Some financial issues.
And what about
Stuff? People own a lot of stuff
And that's really got to be identified. Personal property,
Real estate houses
Or recreational properties who
Time shares even
Timeshare is sure who are the
Owners or their co-owners or their property owned
Individually, where the legal
Documents relating to
Those where are the keys, et cetera. So real estate is obviously a big thing for many people.
I find people believe that they have very simple estates, but when they start itemizing all of these items, that it becomes clear that it's not so simple.
Well, that's right for, I
Would argue, virtually anybody, possibly with the exception of the commercial and business information
We talked about. Every other
Item on the list we've talked about so far is relevant
For sure. I mean, because even when let's say you have a kid that you helped buy their first home or whatever.
Well, I guess that's
An asset that needs to be declared. But yeah, so even things like vehicles like as you said earlier, do you lease them? Do you own them? Do you have a loan on them? What's the ramifications on a lease leased vehicle for a deceased person? I actually don't know, but I guess you'd need that information. You need to have access to things like, I don't know, keys for sure.
That would be important.
Any insurance information on those vehicles to cancel or renew and somebody else's name, I suppose. But where are they stored? People often have storage units just for random things. And do your beneficiaries know that you have a storage unit?
It's like that show.
What's a storage wall?
Yeah. Yeah, that's right. Yeah. Storage wars.
Not recommending it or not recommending it, but no. Basically, these were people that went in and bought storage units from deceased people
Or people that just abandoned the storage lockers. And obviously,
Death would be one of the main reasons why you might abandon it. Your executor doesn't know that it exists.
Or do you have a safe? I know you talked
About safety deposit boxes, but there's lots of people that have small safes in their home.
Sure. Does somebody have access
To the combination to that safe or even know where it is? And are there any valuables in it? I don't know. Not like Indiana Jones rare jewels, but
Then people have rare items
That are of extreme
Importance to them that they do either hide away in the house or put in a safe or a safe deposit box. And you'd like to know not only is there a safe deposit box, but what's inside it or likewise a safe in your home?
Yeah. Well, I mean, is there a Wayne Gretzky rookie card in there worth $6 million somewhere that you don't know about?
I think I had one of those, but I can't remember where it is now.
Yeah, I don't
Want to talk about that. I had one of those years ago. Well, there you go. Yeah, anyways,
And when we're talking about insurance and in many cases, insurance that needs to be canceled or reassigned, it's not just life
Insurance, but lots of people have some sort of health insurance through Blue
Cross or some other provider like that. They might have dental insurance or benefits through a company plan.
Certainly, we talked about
Motor vehicle insurance. All of those things are important to identify who's the insurer because of course, changes
Need to be made.
This one will hit close to home for you. But what about your pets?
Well, that's right. If you have
Pets, you want to know that they're taken care of and they need to be taken care of right
Away. It can't take. They can't wait
For probate five days, five or five or seven days for somebody to get into the house. Let's say if you live
Alone and take care of your animals, and so you absolutely
Need to identify the pets type of pet their names, I guess good to know
Who the veterinarian is and who's going to
Take care of the pets,
And hopefully you will identify that so that
Somebody's looking after your affairs. As I say, when you're not able to, for whatever reason, we'll take care of them. Very critical.
I guess whoever's left is going to need to know what to pay, what to close and what to cancel. I mean, in today's day and age, there's so many auto subscriptions that were parts of. I'm just thinking and not promoting, but things like Netflix, Amazon Prime and many others that are just automatic subscriptions. But you have other ones like what about just your basic utilities, gas, electric, water, things like that? Do you have a landline? I should ask you, Greg, do you have a landline? Not anymore. Not anymore. So no. Welcome to the 21st century.
We cut the cord and it's been great.
But there are lots of people that have landlines,
And is that a
Bill that needs to just be canceled
And what about charities like people often give sort of automatic amounts to charities? I suppose when you're no longer here, that needs to be adjusted.
That's right. And again, what
About here is getting down
On paper or digitally all of this information.
So when you
Go and meet your lawyer and talk about what you want to be
In the will, you can identify all of these things.
And so it's really not only is this a beneficial exercise to go through for somebody left behind because unfortunately, and we always talk about estate planning, we always talk about getting hit by a bus.
The reality is that somebody out there may not
Make it home tonight, and all of this information has to be documented and identified, regardless of the will or in advance of the will. Even so really critical for sure. And you mentioned email and social media accounts.
In my case, I have an email account that my wife doesn't use.
And so obviously I need to have identified
And password so that she would
Be able to go in and monitor my emails and respond to things that might come in that need to be responded to.
And the social media aspect. I know a couple of these companies are in hot water right now over maybe some business practices,
But if you've got
Like Facebook, LinkedIn, Instagram, Twitter, Snapchat, Tik Tok, I don't know, not promoting any of them as investments, by the way. But just the reality is when I look at the younger generation like my kids, all they know is social media. It's funny. Both of my kids know the passwords to my phone and iPad and laptop, things like that.
Credit cards, pretty
Much, but I don't know the passwords to their phones, and they won't give them to me.
No. And if you ever did find out they would just
Change them anyway. Yeah.
But the point
Is like there was a case
A few years ago where somebody had, well, they had downloaded thousands of dollars of movies
Off of Apple
And they passed away and their spouse didn't know their Apple ID password. And it became a problem in the estate. And I don't know what came of it, but because they won't reset the Apple ID password for a deceased person
Anyway, it's just something to be wary
Of. But other than that, I mean, you also want to write down things like your wishes. What do you want the next generation to either know about
You or wish for
It's really an opportunity to get all that to plan in advance for that time when you actually won't be able to say those things,
Whether it's how you want
In many cases, we find
Most wills deal a lot with financial assets, but a lot of wills don't deal specifically
With property your belongings.
I have a
Couple of rare guitars. What would I want
To happen to those because they likely won't be addressed directly in the will? And so this is a place for lots of those kinds of things to be addressed. And again, what you're doing is you're just planning for the future.
The whole idea
Of estate planning is to be able to have your
Executed essentially from the grave. So things like. Your wishes? Any last words? Very important. As you mentioned at the beginning, we do have a planner that we can make available to
People to try to organize
All of this, essentially exactly in the order that we've talked about. Many people don't like to use paper. They like to store things digitally and you can do the same thing online. There are many different types of
Programs or spreadsheets out there that set up these kinds of lists.
But I think the important thing is just to do it one way or the other.
And now I clearly get this isn't the most exciting thing
To talk about.
This is probably not our most exciting episode, but it's really important.
Well, that's right, and it really is one of the
Critical key first steps when you're doing your estate planning. I mean, how can you plan for your states if you
Don't even have a good, solid
Record of everything you own, everything you owe and how you think you'd like things to be handled when you're gone?
And that really is the starting point.
And listen, get after it, because
I can say humbly that I haven't completed this yet. Myself started it, but I haven't completed it.
What's your problem?
Well, you know, it's one of those things that's easy to put off until you start to panic. If you start feeling some
Chest pains, you might speed up filling out
That book. Yeah, yeah. Well, anybody
That wants, as you say, a
Copy of that plan or let us know we do have many available
In, I shouldn't
Say anybody because there's actually quite a few people that
Listen to the show now right on
More than just our extended families, which is cool, right? Yeah. Very cool. And if there's other topics, I mean, I guess we'll wrap it up there for today's conversation. But if there's other topics that people want us to address, I mean, we're always open to addressing them, for sure.
And listen as we go forward
In the future. On this subject, we will be bringing in experts in the areas of drafting a will thinking about, well, exactly now I know everything
I own and how I want things to work.
Now we need to put it on paper, not to mention the power of attorney and personal directive, which get into all sorts of other areas. But yeah, so stay tuned. We'll have more on that.
Sounds good. All right. Well, I guess that's it.
Yeah. Hey, just before we sign off,
What's going on in your life? Any good books you're reading, shows you're watching?
Yeah, I guess we usually ask those questions.
The only books I'm reading are focused. Your own
Studies? Oh, I'm studying for.
Told you the University
Of Chicago in the CMA program.
So just reading about
Probabilities and portfolio
So it sounds fascinating. I actually quite like it, but it wouldn't be
Reading. And what does seems stand for? Well, you know,
Because you have it right, right? So you tell us
That's the Certified
Yes, it's relatively
Intense going through the
Process, but certainly valuable in the areas
That we work.
I'll tell you, I actually have been watching a few shows,
Though I've been getting caught up
Wow. So name from the past.
Yeah, I noticed that it's got a reboot.
They're coming out with new episodes starting shortly. I don't remember when the last
Dexter was filmed,
But it was quite a few
Years ago. Right on being also
Keeping up with billions. Ok. Comes out every
Sunday, and I show
Sort of about what we do, but not really.
I think I'm about four years behind on that. I think I watched the first season.
Well, you got four more seasons
To go then. Fantastic. Actually, the last episode I watched the season ending episode. It is quite a cliffhanger.
Oh, so you've only
Got to get through about 60 episodes to get
How about you?
I'm actually reading for a change, a really interesting book that is more biographical in nature. So it's called Code Breaker, and it's about Jennifer Doudna,
Who people may not have heard of. She won the Nobel
Prize in Chemistry in
2020 with one other researcher. She's the one
Who really helped develop what they call the CRISPR
Technology, now CRISPR.
Basically, it's a gene editing tool that bacteria use to protect themselves from being attacked by viruses.
But the process, the CRISPR
And the enzyme that's
Attached to it actually allow
For gene editing
In animals. It's now being
Used for treatment of various diseases. It's been used to try to treat people with sickle cell anemia, I think is one that's
Been used for and they're working on HIV as well. This is the new
Age of gene editing, and I think over the next many years it will
Become probably the
Technology that's used to treat lots of
Diseases. So. Fascinating. Book this guy.
His name's Walter Isaacson, and he's written biographies. I think the most recent one was on Steve Jobs. So interesting
Book. But again, not fiction,
But still pretty entertaining.
Oh yeah, super light reading for somebody with a master's degree in genetics like yourself,
That goes back a long way, and I think it's safe to say whatever I learned is out of date and I've forgotten it anyway. Yeah, yeah, that's it. That's all right. Can be busy.
Cool. Well, then I guess we'll catch up with everybody next time.
Thank you for listening to the Free Lunch podcast hosted by the CCM Group at. Would Gandhi to subscribe to this podcast to get more realistic insight on investing or to connect with one of our talented partners? Please head on over to market work. We'll see you next time on the Free Lunch podcast.
Episode 72 - Arm chair research with Sarah Newcomb
We interview the Director of Behavioral Science at Morningstar, Sarah Newcomb. We discuss such topics as hostile envy and overcoming struggle.
EP.72 - Sarah Newcomb
Welcome back to the Free Lunch podcast with Greg Kraminsky and Colin Andrews. And Greg, last week we talked about estate planning in our episode that we titled I'm Dead Now What? And that was a fun conversation. We're going to spend a few episodes in the future revisiting some of the more intricate details around this topic. But today we're going in a different direction. We're not going to discuss death and dying per say, but maybe death and dying of markets. We'll get into that a little bit, but today we're going to speak with an industry expert. Sarah Newcomb is a Ph.D. behavioral economist for Morningstar, and I believe she's actually the director of behavioral science at Morningstar. She's an accomplished author, having written a book called Loaded Money Psychology and How to Get Ahead Without Leaving Your Values Behind. I like that, so I hope we get into that.
So. I recently listened to Sarah on an interview with Daniel Crosby's podcast Standard Deviations, and was thrilled that she agreed to join us for today's discussion. So welcome to the Free Lunch podcast, Sarah.
Thank you. It's a privilege.
Well, Sarah, just to get started. Where are you joining us from today?
I am in central Maine in a little town of about 40000 people, about an hour from Acadia National Park, surrounded by woods and mountains and ponds and rivers.
That sounds relatively idyllic.
It's pretty great. I saw a frog yesterday. A bunch of mushrooms. I love it.
Oh, nice. Just to get started. Tell us your story. How did you end up where you were today?
People get really excited about those three letters. Ph.d., But I like the definition of expert that is an expert is someone who has made all the mistakes that can be made in a certain area. And I definitely feel like that's how I got into this. I found myself in my mid-20s, having had to wait until I was twenty four to even take out student
Loans without a cosigner and go to school. I went in undeclared, so I was meandering around for a while in my early adulthood. I found myself with a degree in math, expecting my daughter and young family. And I couldn't get my finances together. And I thought, OK, hey, it can't be about numbers because I love numbers. I love the problem solving aspect of math. And so I thought, if this is a logical exercise, then clearly I'm failing it and there's something going on here other than the numbers. So I thought, Look, I am tired of being poor. Being poor is exhausting. And I had known nothing but financial struggle from early childhood. And I thought, Look, if I can understand the fundamental theorem of calculus, I must be able to learn how to manage money in such a way that I'm not struggling all the time. And so I decided to learn how financial planners manage money because I thought if I learn from the pros, then I can do the right thing with my money. But it was in the course of training to become a personal financial advisor that I took an elective in psychology, specifically psychology of financial planning and the psychology of clients, the psychology of wealth, the psychology of class tension, the psychology of money. And that was where I finally was able to start to unlock my own dysfunctions with money because it's not about interest rates and numbers, those are important. What it really comes down to is the stories that we tell ourselves. Because of those numbers, you give someone a number. All sorts of judgments fly through their mind and they'll be subjective. They're very much dependent on who that person grew up around and the culture that they were steeped in, the stories that they listen to, the people that they compare themselves with, their mental state. All those things are brought into every one of our financial decisions. And yet we treat it as if each one is just a math problem.
And so for me, that was one I thought, this is what I want to do. I want to dig into this. I can't be the only one.
Can I ask you? You brought up the word struggle in your answer there. Having come from a background, a family with. It's not like we didn't have food on the table, but we didn't have a lot of extras and my kids have a different life. They haven't faced struggle. And so when we accomplish something as a couple, my wife and I, I can appreciate it. But I don't think my kids appreciate it because they haven't had struggle. Is that kind of what you've experienced?
Well, I mean, I can only see things from my personal vantage point. We can look at some research to how do people respond to things from this background versus that background. But I do think there is something to the fact that I think that privilege.
And let's just dove right in, privilege is blind. That's the issue with privilege, we don't experience privilege as the presence of favoritism. We experience it as the absence of barriers. And so when those of us who have had to work harder for what we have than maybe our children, we may appreciate it more because it was harder when the cost was, we paid a higher cost in effort or whatever to get to the same opportunities that our children may have. First of all, let's remember that that's why we paid that cost because we wanted to give them opportunities that we didn't have. So good job, you. And that's what intergenerational stability and growth is supposed to be. Then helping them like, I think you're right. You cannot see things unless you experience them. You can sympathize, but you can't empathize when you haven't experienced struggle. It doesn't mean that you're necessarily set up for financial failure or that your psyche is somehow
Going to be negatively impaired because you didn't struggle. But I do think we have to point out to those of us who have maybe moved up a class or agreed. We do have to sort of point out to our kids maybe what advantages they have over others, not so that they will feel guilty, not so that they will shame themselves or make others feel bad, but so that they can recognize when you have resources at your disposal throughout your life, there are going to be more opportunities to you when you have a safety net at your disposal. You can take more risks. Those are privileges. What it means is you work hard and then you see the results of your labor. And that's great. That's great. Where we get into trouble is when we turn around and we say to other people, just do what I did when they face barriers and the terrain that they're walking is very different terrain than you walked. That's where privilege gets us into trouble. We don't need to be walking around modulating ourselves because we are giving our children opportunities or because maybe we have opportunities that others didn't have access to. I think we need to not judge others by the same standard when they're walking a different path.
Interesting. Well, clearly your background obviously played prominently in your writing of your book loaded, and you've got some insights there into how your personal experiences shaped your attitudes and things like that, and how you can build a healthier relationship with money. Can you give the listeners kind of like the Coles notes, as we say here?
Or maybe cliff notes in the U.S. version,
That's the dead giveaway that you're talking to two Canadians. We use the term Coles
Notes Coles notes
Versus cliff notes. Yeah, go ahead.
Yeah, the cliff notes
Of this are that, first of all, I
Want to sort of structure. Behavioral economics involves both social psychology and cognitive psychology, so social psychology is how we relate to ourselves and others. So even how we relate to money and our belongings is part of social psychology. Cognitive psychology is about sort of how we categorize information in our brains, sometimes unconsciously, sometimes consciously. Both of these types of psychology have links to financial decision making. And so all these areas are very rich in being able to understand how our attitudes toward money develop, how they're influenced by our cultures and our societies, and then how we in turn relate to our world, relate to money, relate to other people who have it or other people who don't. And so there's a whole tapestry of deep research here that I can't possibly sum up in a few sentences, but I can say this
By the book. That's what you're trying to get by the book.
Sure. But we tend to like to polarize. We like to go binary. We like to demonize wealth. We also like to demonize poverty. We like to glorify wealth. We like to glorify poverty. We do these things often on. Sometimes we do both at the same time. We have what I love being referred to as a hostile envy toward the wealthy, and that hostility is often manifested or seen in negative attitudes and biases against those who have wealth. The envy is in how we tend to unconsciously judge. And this has been shown in study after study. We tend to think that wealthier people are more friendly, more competent, are cleaner. These are the kinds of biases that we've been shown to have. We just associate poverty with all sorts of negative things, but then we have many cultural stories. A glorified poverty and that even say that poverty can be a path to enlightenment, and so we have these mixed messages about both poverty and about wealth, where wealth in many of our stories are parables are fables,
Even our scriptures.
In many cultures, the reward for good living is often wealth. And yet they also seem to communicate. Wealth is only OK when you don't seek it, because if you seek it, then you are black hearted, you are motivated by greed. So we have this extremely moralistic relationship with both poverty and wealth. We can see it in many aspects from the laboratory, at universities to conversations at church, and to pretend that these things do not affect our financial decisions. Would, I think, be really overlooking a lot of important information?
Fascinating. Wow. Well, listen, I think the best thing for people to do is to read your book, obviously, to see how they can keep their values
While still improving their
With money. Wait, Greg, are we
Promoting Sarah's book? Yes, absolutely. I think we are. Yeah.
So let's talk about investor biases for a minute, because obviously
That plays directly into a lot
Of things that you do with Morningstar and we do with our clients. How important is it for investors to actually understand their own biases?
I think it's important to understand the shortcuts and rules of thumb that you're employing because they again, this is about skipping important information. Rules of thumb are not. We often called biases negative, but some of them are great adaptive traits, really great ways of making good enough decisions when you don't have complete information or unlimited time, and therefore we have to simplify. So rules of thumb can be very useful when heuristics and rules of thumb get in our way is when either the rule is far too simplistic, so it doesn't actually fit the situation well or when you use the wrong rule of thumb for the wrong situation. Some of them also are just wrong and misinformed when making decisions. What's the importance of understanding your biases? It's really about understanding what shortcuts you tend to rely on and what rules of thumb you use, and just applying a little bit of critical thinking to those when you're not in the heat of the moment to be able to say, Am I using the right rule for the right circumstance or do I need a little bit more information in this situation?
If you had to pick on one behavioral or cognitive bias
That causes investors
And their advisors the most
Grief, what would you pick on?
Because I myself am subject to availability bias. There's a really interesting one I've recently learned about. There's one that I think is the worst habit of mind for your money, period. And then there's one that affects financial decisions, so I'll try to tap on each one. The worst thing that I think we can do for our finances is allow ourselves to continue in short term thinking. Some of us are naturally long term thinkers, and those blessed minds are thinking 30 years ahead, and they're planning and they're saving and because they're naturally thinking along this long term horizon, and therefore they're seeing this future mentally and they go and they plan for it. People like me, on the other hand, have to really force ourselves to think beyond maybe a month into the future. It takes work to develop that habit. So what we know is present bias is the extent to which you discount the future and that discounting of the future has to do with how you picture the future. Can you even see it and how far is I like to call it your mental time horizon? We often think about your investment, time horizon, and that's again the mathematical equation. But think about how it looks in your head when you're looking forward into the distance of your life. How quickly does it become blurry or can you see clearly into the future? Are there clear temporal landmarks that you can see along the way that help you to make these planning decisions? So present bias, I think, is the overall the worst, but we hear a lot about present bias. So I think when it comes to investing, the biases that can really trip us up are things like overconfidence. That's we read a little bit, we hear about something and suddenly we're an expert and we've got that hot tip.
Oh, you're just talking about COVID now?
Yeah, we're all geniuses after last year, aren't we?
It's interesting because one of the things that gets my goat, so to speak, is what I think you've seen a lot in the states, right? And obviously, things are a lot more polarized down there than they are up here in Canada, but this whole concept of do your own research, which you hear a lot on certain U.S. cable news channels, it's so unbelievable that people would be expected to do their own research on whether a vaccine is safe. Not many people out there are epidemiologists or microbiologists that have studied this, and
You work for one of the largest
Investment research companies in the states, with no doubt hundreds or thousands of experts doing research on mutual funds and individual securities. And yet
Clients want. I want to do my
Own research first before I make a decision on an investment strategy or a particular stock, and we run across that all the time as well. So what is it that makes people discount expert advice and believe that their own research will somehow yield them better insights or better results?
Yeah. So I think there's a couple of things going on there. I love this question. First of all, you're completely right. Your armchair research is not going to be very likely to exceed the value of the experts. I think there's two things going on. One is that and I think rightly, we don't want to completely outsource our thinking to someone else because that is a loss of control beyond what feels reasonable to a lot of us or even responsible. If you don't know why your advisor is making the choices with your money that they're making. It's going to be very hard to trust that strategy when things go wrong. And so I think part of it is just that sense of participation in the decision making. And so maybe what advisors can do to help build that confidence and trust, which is what we're really after, when we're going to do our own research. And that was my second point is that I think it's about wanting that sense of control so that we can have confidence and so that we can trust the decision that we're making. So you can encourage that, maybe by doing a lot of research ahead of time and saying, here's three or four options that I see for your portfolio. Here are the attributes that I think are the most important. Now I would be happy with any one of these for you. Why don't you go and see which one is best in your mind? That might be a good way to approach this need for feeling like you're participating, and part of it goes to the sense of control because there's so much uncertainty
In markets, the less
That you understand about what's happening in the markets. Not that those of us that know a lot understand a whole lot more. There's just endless questions. But the less that you feel, you know, the more uncertainty, the more that uncertainty will be emotionally salient to you. And therefore, that need to feel control over some part of the decision making is actually going to be exacerbated. So it may actually be that the people who know the least want to control the most because of that feeling of uncertainty that not understanding can bring
Talking about uncertainty. We talk to clients all the time about how people are looking for certainty in something that is completely and forever uncertain. So it's interesting to bring that back to a control function. I kind of like that because maybe tell us a little bit about hindsight bias. This is one that we run across all the time. So even March of 2020, when the U.S. stock market was down thirty five percent in two weeks, everybody's kind of forgotten about that. But that happened during that period. There was a lot of fear out there for all kinds of things, and people now look back at it and say, Yeah, but I knew it was going to come back. Can you talk a little bit about the significance of hindsight bias?
Yeah, hindsight bias. I think we we all do this in so many areas of life. The winds turn a certain way and suddenly everybody saw it coming. Everybody had their theory all along. I think it also goes back to the sense of wanting control. Like you said, there is inherently we're dealing with probabilities here and we do all sorts of complex math to try to play the probabilities. But we're dealing with probability distributions. There is no deterministic path forward. So when we look back, I think that once we have that new information, suddenly new information, things look clearer. So looking back, it just seems so much clearer. And maybe you had some hunches, maybe you had a couple trains of thought along the way. Those have now been validated. They will come to top of mind if things had gone the other way. The thoughts you had in that direction would be validated and would come to top of mind because the reality is when in that situation you were confused, you were on. You thought maybe this and maybe that and then when a happened instead of b, all those thoughts about A that you had? Well, of course you had them. You also had thoughts about B interesting.
I guess it's why
Everybody knows a building they could have bought for
$30000 20 years ago, and it's
Worth a million today. So yeah, we've all got those stories for sure.
Yeah. One of the things that sort of
Semi topical, I guess maybe it's six months old now, but can you help us understand maybe some of those emotional or cognitive biases and behaviors that led to some of the extreme stock price movements? We saw things like GameStop and
Amc, the whole Robinhood
Trading experience that we went through
Last year. I thought we were going to
Talk about GameStop anymore. Well, you know what?
We've got a
Behavioral person here. We have
To. Yeah, good. Good.
I wouldn't even call them biases. I think we're dealing with psychological forces that are not necessarily named in the canon of behavioral science. Some people could call it FOMO, but I think that what's happening specifically when it comes to the changes in fintech, the changes in access to different types of trading, more and more sophisticated leveraged trades are available to all sorts of investors of all ages and incomes and sophistication. I think that what we're seeing now is a combination of more access to all sorts of trading styles and a growing frustration with the status quo and the power structures of Wall Street. There's nothing new under the Sun, so we have seen this in many other instances, but this is a new type of bubble. I kind of thought of it as like a micro bubble. When it first came up, I started thinking about all these little like champagne, these little microbubbles, where what happened was that a group of investors realized that if they pooled their resources, they could have a larger influence on the markets than they would individually. That's what funds do all the time. And so they decided to team up and throw their weight around a little bit. And that got exciting and the feeling of power in an uncertain world and especially a feeling of power when they felt powerless and the stronger that the investors identity is connected to feelings of powerlessness, the more appealing the sense of being able to team up and have power. The David and Goliath story is especially appealing for people who feel like David. And so I think that's what we're seeing is more of that social psychology than biases in that situation.
What actually seems to tie in to what you were talking about earlier is maybe this hostile envy that some people maybe have towards either the wealthy or, in this case, the greedy hedge fund managers.
Right? Why are the hedge fund managers able to play by different rules? And this is one thing that appeals to me about the mission of Morningstar is that the idea of giving quality ratings and research to any investor that wants it so that they can make informed financial and investment decisions is about trying to stack the deck back in the individual investors favor. And if you feel like you're playing with the deck that's stacked against you, that resentment can definitely affect the types of strategies money making and stick it to the man strategies that you are going to get excited about.
One thing Dan
Ariely and others talk about how we can use our understanding of behavior to help
People experience better
Financial outcomes by making things more of a default like savings plans, making it a default option. Rather than giving people the opportunity to, they have to opt out rather than opt in. Can you maybe talk a little bit about how why this works so well and how we can expand that in, say, everyday lives, as well as obviously our financial lives?
Defaults are doing God's work, I think, in many instances.
So, for example, my credit
Score would still be in the toilet if it weren't for automatic bill payments because I do not have to keep track of that information on a daily basis. My head is full of enough things that I'm trying to manage, and keeping track of that stuff is not something that I am especially talented at or inclined to do. And so
Taking there's the
Upfront cost of spending an hour, tracking down passwords and setting up automatic payments. But the fact that I have had those tight, all of these important transactions that reflect on my credit score automated for the last eight to 10 years has meant the difference between hundreds of points on my credit score from the beginning of my financial journey until now. And so I think that automation when it comes. To the simple decisions that take up energy and don't need to automation can really, really help us again, where any rule of thumb or any shortcut can get in the way is when you are outsourcing your thinking too much or simplifying it too much. And so automating complex decisions may not be as useful, but most of the complex financial decisions that we make, there's no automation strategy for. I think that those automations and nudges can be really effective for certain types of decisions that are just they burn calories, they burn cognitive load, and there's no reason why we can't simply
Put them on a decent schedule.
The only way that those kinds of automation things don't work is if you don't have enough slack in your budget to be able to anticipate an upcoming bill. If you're in a situation where you're in survival mode and you're needing to really watch every dollar, then automated payments aren't something that's realistic because you have to be able to know what's coming in. So if you're at that point in your financial journey, then it's really about careful watching over. But looking to build up enough slack that should be your first priority is to build up enough slack in your budget that you can automate your payments so that you don't miss any. Same thing with automating savings, especially for people, for short term thinkers, for people who find saving unpleasant, uncomfortable, painful, even automating savings and putting it using mental accounting to your benefit. So put it in an account that's hard to get to forget the password. Do things to keep that money sort of separate out of mind and just automate the money that's going into it. You can automate if you're doing dollar cost
Averaging, you can automate
Rebalancing in your portfolios. There are simple sort of financial hygiene tasks that we can put on autopilot. And then there are other things that require more higher order thinking, and those are the things that we can spend the mental calories on.
I like that financial hygiene task.
That's excellent. Now, just so everybody knows
We're not talking about money laundering, we're not talking about washing money, we're talking about just cleaning up your processes and dealing with money. So listen, I think that takes us to the end of our heavy lifting. That was a really great discussion, by the way. Thanks for doing that. We do like to finish off with a speed round for our guests. I hope you'll play along.
I will try.
The first part you already nailed that was the heavy lifting. This is the easy part, so there's no no right or wrong answer. So Greg, you want to kick us off?
The first couple of questions are pretty generic, but we will get into some Canada specific questions, which we always use for U.S. guests. So first of all, what do you do for fun when you're not working?
I spend as much time as possible in non-human spaces with my dog nice in the woods in nature.
Watch out for bears.
Yes, it's. That's why I have a big dog. There you go. I also read an inordinate amount of sci fi novels. Oh, excellent, Sci-Fi.
Fantastic. And what are you reading right now right now?
Actually, I'm not reading a sci fi novel right now. I'm reading a Night Sleep Death in the Stars by Joyce Carol Oates.
Sounds like some easy reading.
It's a pretty heavy.
And what about given we've all
Been through this pandemic
Together for the last year and a half?
Are you a binge watcher or are there any shows that you're watching right now?
Oh, Ted Lasso has been a great one. I've loved that show. I've also been watching the mini series, The Philip K. Dick Miniseries for a second time.
I can't remember what it's called.
It's a play on.
Do Androids dream of electric sheep? It's called electric dreams or something like that. It's great. I love it.
I've had a hard time getting
Into that one. I'll have to give it a
Try again now that you've mentioned it. Colin, what about some Canadian specific questions?
Well, we're going to hit you with a hard one just to start it off. Greg and I both grew up in a place called Saskatchewan. I grew up in Saskatoon, and Greg grew up in Regina. Can you please spell Saskatchewan for us?
I love it. Ok, hold on.
There's a time limit to this question.
S., A., S., K., A., TCHC, W., A. N..
Oh my gosh. You're the first person to ever get it right. Did I get it right? You got it right. I mean, Daniel Crosby, I can't even tell you what he told us. I think it was like, say, two.
I had to write it to get the letters out in
Order in my head. Like, I don't
Want to discount the significance of this. I mean, that is how many American guests have we had. I mean,
We've had quite a number and eight or nine. Yeah, you're the first. So yeah,
I live in Penobscot County. We have a lot of strangely
Named rivers and all from
Native languages that are very much like Saskatchewan.
Well, Penobscot is kind of a different one for me, so I'm not going to
Try to say I don't want to date myself. But it seems to me that on MASH, Major Houlihan was either engaged or dating Colonel Penobscot.
So really clearly
There's relevance there.
We'll just do one or two more just because you did so well.
Tuke, do you wear a touk?
I do not know what a touk is. Yeah, you
Do. Yeah, you do. I guarantee you. Do you have winters in Maine, right? Yeah. Yeah, you have snow, right?
Gets cold. Yeah, you put
A hat on your head. It has like a pom pom on the top of it. It's like a little hat kind of thing. Yeah, probably call it a beanie.
That's a touk. It's called a T. Yeah, beanie or that's called a tuk tuk. Yeah.
Well, let's see. One one last one, Greg. One last one. Ok. All right.
When we're in university in Canada, we practically live on CCDI. Do you know what?
Kd is a guarantee of eating it? Kd.
I have no idea what's coming. Like all I can think of is mac and cheese. Is it a version of Mac?
Kraft Macaroni and Cheese in Canada is called Kraft Dinner.
It's marketed and Kraft dinner. I thought the game might
Be so well done, though. You nailed it, actually.
So yeah, that was good. That was good.
Well, it helps living so close to the Canadian border. Exactly.
Well, listen. Thanks again, Sarah. That was a lot of fun and a lot of very interesting conversation
About all things
Cognitive biased. Really enjoyed it. And thanks for joining us today.
Thank you. It was great.
All right. Well, listen till next time, then next time we're going to look at something else. I'm not quite sure yet. I think we're going to get back into that. You're dead now. What kind of discussion. But exactly, Sarah's still with us. So thanks again and we'll catch you next time. You bet.
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Episode 71 - I’m dead…now what?
We talk about will and estate planning. What is the importance in having a will? What are the 3 documents of basic estate planning? Enjoy the show!
EP.71 - I'm dead...now what?
Welcome back to the Free Lance podcast. Greg, last week we talked about different account types. If you recall, I do recall looking at the difference between transactional fee based discretionary accounts. We had a discussion around fiduciary and its role in each of those accounts or not right on how advisor is spelt with O-R versus e-r. One indicates one is a fiduciary and one indicates one is a salesperson
And what investors or layperson on the street would have the foggiest idea of which is which.
Well, I mean, it is a bit of blowing smoke. And look, we can sum it back to this. We're licensed portfolio managers, so we are fiduciaries regardless of how people spell advisor.
Exactly. And for us, I mean, you can legally be a fiduciary, or you can behave as a fiduciary. And I think it's safe to say that at least for all the time we've worked together and from my career in this business, we've always behaved as fiduciaries, even though we legally weren't. Now, with as portfolio managers, we legally are, we have to be. So, nothing changes.
Yeah, well, it is part of that discussion on fiduciary is what got us going about our topic for today because as a fiduciary for many clients, we not only get asked, but we counsel people on things like proper planning. And usually, we're talking about financial planning. But what also comes up is estate planning, and this is something that we're going to get into a little bit today because the importance of having an estate plan is significant. You'd never want to run into a situation where somebody passed away without having a properly drafted will and estate plan.
That's right. And as you say, we spend a lot of time talking about financial planning, of which estate planning is part. But a lot of the financial planning we do with people and retirement planning, which we spent several podcasts talking about. This is all dealing with kind of planning for what happens while we're alive and estate planning is really geared to answer that question. And you know what that question is. I'm dead now what?
I guess it doesn't matter because you're dead, right? Exactly. But it does matter because you might have a goal of leaving a certain legacy behind. Or you might have a goal of funding certain family commitments for next generations. And if you don't have those things properly outlined and planned and documented, it doesn't matter, right?
No, that's absolutely right. So, I think estate planning is something that we're going to start talking about today. And I think over the next couple of months, there will be probably a number of different podcasts where we deal with the various elements that make up the estate planning process. And today, I think we should just get started as to discussing what exactly is estate planning, why it's important and where do you start?
Well, let us know, where do you start, Greg?
Believe it or not, everybody has an estate or nearly everybody has an estate because your estate consists of everything you own. So that could be your car, your home, either real estate, bank accounts, investments, life insurance, furniture, personal possessions. So, you could have large or modest group of assets. But everyone has an estate, and they also have something else in common, and that is that no one can take it with them when they die.
Don't you find that everybody's mom or dad? The older generation part of their estate was things that aren't important to us anymore. Things like the good China. Everybody had set a good China that they would pass down from generation to generation. And I can tell you, if somebody gave me some China, it's not leaving the garage.
Yeah, no, that's true. And so, a lot of possessions like that that are very meaningful to people, they often get passed down separately from the will just because, as you say, many of us these days don't cherish the same kind of things, but at the same time, they are part of the estate and they need to be dealt with. So, when you die and we say when that happens and it's obviously it's a win and not, and if most people would probably want to control how those things are given to the people or organizations that they care about. And so, in order to make sure that your wishes are carried out from the grave, you need to provide instructions stating whom you want to receive something of yours, what you want them to receive and when they're to receive it. Of course, this has to happen with ideally the least amount paid in taxes, legal fees, court costs, that kind of thing. So that's estate planning, making a plan in advance, naming the people or organizations you want to receive the things you own after you die, and taking steps now to make carrying out that plan as easy as possible later. But good estate planning involves a lot more, and there's other things that will be part of it. So, a lot of people, when they think of estate planning, they just think of, Oh, the will. But there's a lot more involved.
So. Power of attorney includes instructions for your care and financial affairs if you become incapacitated before you die, so some people will unfortunately incur some sort of disability or disease like Alzheimer's or something that makes them unable to handle their own financial affairs, and somebody needs to be named to look after that for them. And that's very important. You want to make sure that there are some arrangements made for disability income insurance to replace your income if you can't work. So, you need to plan for that time when you might not be able to work and provide income for your family.
Well, nobody wants to plan for that event, but there's a reason why there is things like disability insurance and long-term care insurance, right?
Exactly. If you are a business owner, you need to provide for the transfer of your business at your retirement, your disability or incapacity or your death. Obviously, if you have minor children, you need to name a guardian for them, and the Guardian might be responsible for their care and for their inheritance.
Actually, let me go back to those two points. The business one I've run into a few times recently where let's say there's two people and they own a business and they're not married. They're just like two partners and one passes away, and they leave in their estate. They're half of the business to their spouse, but their spouse has no interest in running the business. All we're seeing is here. There has to be a plan to deal with bridging that gap in regard to the kid one, I've run into this one even just this week where somebody called me and said one of their family members have passed away and they left a nephew without any parents. This nephew is in their early 20s and they're going to inherit a significant amount of money. At age twenty-four, twenty-five, and they're worried about will they blow the money? So that's also got to be documented somehow in your estate plan.
Yep, that's right. Other things would be if you have family members with special needs or with disability or something like that, you want to be able to provide for them without maybe disqualifying them from some government benefits. And so, there's some tax considerations there. And you mentioned dealing with loved ones who might be irresponsible with money or they might need some creditor protection in the event of divorce or something like that. And also, you want to make sure that as much as possible, you can minimize taxes, minimize court costs and unnecessary legal fees that may include doing things like providing for trusts in the will and that kind of thing.
So, it starts with the will. Your will is where you're going to document all of these items, or most of them also the personal directives and enduring power of attorney, right? But is the will just drafted once Greg
Know, and we've talked about this with financial planning where we say you don't do a financial plan and then you're done. It's a living document and it's a process. And so, you revisit your financial plan on a regular basis, as everybody that listens to this podcast knows. And the same thing with the estate plan, because things change, some of the concerns that you might have when your children are minors may have gone away by the time you're still living and you're updating your will. And so, things do change on a very regular basis, and we usually recommend that people revisit their estate plan every three to five years or whenever there's a significant event that would cause them to revisit that.
That's really important, especially in today's day and age where you've got, let's call them modern families. I'm part of a modern family. I've got stepbrothers and other brothers and just a broader family than the traditional definition. And within that comes its own challenges. If you've got multiple sets of parent’s siblings that may or may not carry the same bloodline as you, but they're still your sibling. And there's maybe a premature death in the family, a remarriage outside of that original family. It's really important that the patriarch of the family really document how those assets are to be distributed. You have to really define it, right?
Yeah. And estate planning isn't just for certain people, so it's not just for retirees, obviously. As people get near retirement, then they tend to revisit everything. But it's not just for people in that age group, it's for people, whether they're younger or older, wealthier or less wealthy. Because in the end, what you're really talking about is maintaining the control, being able to have your wishes being executed, even though you're not around to make it happen. So, it really is critical for everyone, and some people's estate plan might be a lot simpler, and others might be more complex, but it's still something that everybody should do. And one of the problems is that there are a whole lot of people that don't plan
Oh, I know one. The artist, formerly known as Prince, happened to die without a will, and it really caused a problem in his estate. Yeah, exactly. And that's an extreme example, but I think there's many people that don't have a will and actually a question we've had many times over the years is, look, I haven't had time to update my will. I'm going on a trip. What should I do just in case something happens and the legal advice that we were given again? And this is not advice. We are giving.
But it's advice we were given is that, hey, you can just draft a holographic will. You could just handwrite out on a piece of paper and sign it what your wishes are for your estate in the event of your untimely death on your upcoming vacation.
That's right. And that's the kind of thing. Of course, if somebody is in that position, they should consult their lawyer, their estate lawyer, and get good advice on that. Because if there is some way to alleviate stress by being able to get something on paper, that's current before you leave on a trip, for example, then obviously that's worth doing.
And there's got to be some benefit to going through an estate lawyer because there's a cost to that exercise, right? Versus doing a I didn't know what are those will kits that you buy at Indigo or you go online and download your free will kit? I mean, there has to be a reason why lawyers can charge what they can to administer a state's right.
Well, it gets back to our do-it-yourself discussion. Yes, you can draft your own will. But if there are considerations that you haven't made in drafting that will, it could have very significant consequences, which may be well in excess of what you would have paid a lawyer to assist you with.
And we're not lawyers.
No, we're not.
We're just speaking from the experience that we've had in dealing with many estates over the years, right?
That's right. And estate laws do change from time to time, and there can be changes that you might not even be aware of or other considerations. So, it's worth consulting with an expert.
So, what happens if you die without a will?
So, if you die without a will, basically, in essence, the court decides what to do with your estate. So that's called dying intestate, meaning without a will in those situations. Then you'll go through a court probate process and the courts will decide what to do with all of your assets. And it can be very complicating if there are things like second marriages, families from previous marriages and things like that. And in the end, if you die without a will, it may well turn out that the court does not see the distribution of your estate the same way you would have seen it, and so there could be very significant consequences. And God forbid, if minor children are left without parents, then if the court appoints a guardian, it may well not be a person that you would have chosen to raise your children.
So, listen, are we recommending that people draft a will and document all of their wishes in that document? Of course we are. Of course. Why wouldn't you? Otherwise, you run the risk of just creating all kinds of chaos in your aftermath.
Well, that's right. It's chaos for the people that are left to pick up the pieces. So presumably, if you were to pass away, you're going to leave a spouse, possibly children, brothers and sisters, family members who are presumably grieving and at the same time have to deal with something that would be highly complicated and complex. And that's not what you want to leave behind.
What if, though you have an individual person who's single, never married, no kids? Do they still need a will?
Probably. Although in certain cases and in this case, I'm thinking of my own daughter who is living alone, and she has some assets, she has some investments, she's got a car and furniture, stuff like that. Not a large estate.
But what about like a sixty-five-year-old single male or female, whether they're divorced or never married, whatever? And I'm giving you a loaded question here, by the way, because if they die without a will, what happens to their estate?
That's a good question. The court will decide, and what they'll do is they'll look for other family members or they'll look to see where will this money go?
And is that probably what that person wanted?
Absolutely not. And there are many people who plan to leave their money to charity or other organizations, the church charities. And why wouldn't you want to be able to ensure that when you die, that those wishes are carried forward? So really, as you mentioned earlier, the estate plan, really the will is one of the three primary documents of the estate plan, and it's really the cornerstone of what we've been talking about and that is addressing how your assets are distributed among your beneficiaries.
Well, I have something on the will that's come up in the last few years. Lots of people will name multiple beneficiaries in their will and their goal is to spread their wealth, whether it be to, as you mentioned, charities or extended family or something like that. I just learned this. So, let's say you name four charities, and you give them each five percent of your estate. Yeah, well, by naming them as a percentage beneficiary, all of them get to know the exact value of your complete estate.
Well, and there's more. And what's more is that wills are actually available. They're public information. And so, when somebody dies and the will goes through the probate process at the court, it becomes a public document and other people are actually able to see exactly what your will states. And while it may not state specific numbers in terms of the total assets that you have, it certainly would have personal information that some people might not want to be publicly available. And there is a way around that, and some people actually will use trusts as part of the estate planning process to avoid having that information publicly available.
Well, and going back to that point, though, if you don't want to create that information, overflow what I've been told again, information given to me, not me giving it, is that if you name the beneficiaries in your will, but you attach specific dollars to each of the beneficiaries. So instead of five percent, you're giving some charity $50000. Sure, then it avoids that issue.
Absolutely. So, let's talk about the will for a second. I mean, the will provides instructions it doesn't avoid. Probate and probate basically is the process by which the court essentially certifies that the will is the legal, the last legal document, and that the executor is able to go ahead and distribute the assets, according to the will itself.
So the court approves your death.
They do. They do. Exactly.
We've confirmed that he's died, or she's died.
That's right. And so, when we talk about the probate process and again, it's a little bit different in each province. But the one thing that is important to know and that is that there are fees associated with the probate process. And in some provinces, the fees are allocated as a percentage of the value of the estate. In other provinces, it's just a flat amount or up to a flat amount. And in other provinces, still there are no probate fees.
Let's give an example of that. So, if you're somebody who lives in Calgary and you have a place in Vermeer or radium, one of those places that many Calgarians go to and you leave Alberta and make B.C. your permanent residence, yes. So, two things occur, right? Number one, your current will becomes void. I believe
That's right. You should have a will in the province that you reside. Absolutely.
Yeah. So that's an issue. The second issue is that let's say you die in B.C., the probate fees in Alberta or a flat amount, it's something like five hundred twenty-five bucks or something, something like that, right?
So, it used to be four hundred. It's gone up, but it might be in that five hundred and twenty five six hundred maximum[HM2] range, whereas in B.C., it's a percentage of your estate, that can be a huge difference, right?
I was just involved with an estate where if the probate had been handled in Ontario, there would have been a $26,000 probate fee. But the will was able to be probated in Manitoba, where there was a $0 probate fee. So, it does make a difference. And in some cases where you live is where you live and you may not have a lot of flexibility in that, but it is something that people must consider. And so, probate usually deals with all of the assets that make up your estate. But certain assets actually bypass the estate, and those kinds of assets would be things like our SE riffs[HM3] , tax free savings accounts and insurance policies where there's a specific beneficiary named. And so, in many cases, a husband and wife will name each other as beneficiaries on their spouse or tax-free savings accounts. Well, when the will is probated, those assets don't actually make up part of the estate because they could be transferred directly to the named beneficiary,
But only on the death of the first
Spouse, only on the death of the first spouse. That's right. And so that's the spousal rollover provision that the government offers on those types of accounts. And so, there are ways to reduce the probate fees. You can't avoid them entirely, but you can reduce them by naming beneficiaries on those types of accounts and on insurance policies and other things that a lot of people use for estate planning purposes as they'll own property jointly with their spouse. And so, if you own property jointly and joint is what's called joint with right of survivorship, then if one of the joint owners passes away, then the assets basically go to the other joint owner and the original book value is carried over. And there's no and that also avoids probate. So those types of property or assets are essentially outside of the estate for probate purposes.
You know, where those fall in, though, is if you have a property in Phenix, like a lot of Calgarians, have a property in Phenix and the property there is not held joint with greater survivorship. It's held joint. I think it's called joint tenancy
Tenancy in common.
That's right. So basically, each spouse owns 50 percent of the property and at the death of one spouse, there's actually a tax bill to be paid. Although they give you a little bit of a break because they assume that you're not going to fill the other 50 percent with somebody else. So just a slight difference, right?
Oh, exactly. So, the other thing I did mention earlier is estate plans may also involve the use of trusts and trusts can provide some ongoing benefits for your family, including the opportunity to reduce taxes. You can shield assets from creditors, shield personal financial information. As I mentioned from the general public and a lot of trusts, particularly among some high-net-worth individuals, will be established prior to death. So those are what's called inter vivos trusts, and they might include things like family trusts and what have you and those trusts again are it's an estate planning tool, and in many cases, some people might put all of their assets into a trust and essentially, they won't. Have any assets to pass along through the will on their death and the trust obviously would survive the death of the donor or one of the trustees.
But there's pros and cons to putting things into a trust, right? I mean, we'll probably spend an episode on that.
I think we will, because there are a lot of pros and cons. The pros can include the things I mentioned, like the opportunity to essentially split income beneficiaries, receive income from the trust in lower tax rates and things like that. So, there are some definitely some benefits there, and there are some negative things to do with trust. Those would be things like, obviously, there's costs involved. You need to file annual returns, you need to, you know, have trustees and legal fees and things like that. So, lots of opportunities and lots of minefields and talking about trusts and dealing with trusts is something that you absolutely need professionals, accountants and lawyers in establishing those trusts.
I saw it a couple of times, one recently where somebody had set up a spousal trust so the assets from their estate would bypass their spouse and be held in a trust. And then the spouse would receive income from the trust, but not the asset itself. I'm not sure why they set it up this way, but what ended up happening, Greg, is it actually really handcuffed the surviving spouse and what they could do? So as an example, they had to get their driveway redone, and in order to pay for the driveway the spouse had to provide three estimates to the trust company, and the trust company decided which company to go with to repave the driveway. So that created a lot of hurdles, for sure.
And again, that's why it's really important to have professional advice and to really understand the implications of the decisions you make in this whole process. And one last point on trusts. Trusts can also be established in the will. And so, in many cases, if there are beneficiaries who are minors or if assets are going to be transferred to younger children, they might either be a trust established until the children reach the age of maturity 18 or 19. Or they might have certain requirements that a portion of the assets will be distributed at a certain age, like age twenty-five, andthe balance at age 30. They're called testamentary trusts because they're created in the will, and those are very common.
So, Inter Vivos is prior to death.
That's right, and testamentary trusts are established in the will.
All right. So, let's talk about cost of doing this. Can you talk a little bit about that?
I mean, it really varies. If you're talking about strictly doing a will, putting together a will, and the three documents that we talked about the will power of attorney and personal directive, I guess the costs realistically would be what in the $1,000 to $2,000 range or less. I mean, we've worked with lawyers who have done that for in the three to four hundred dollar range.
Yeah, those are like straightforward plain vanilla estates, right?
That's right. But I mean, you have to look at what services you need and the complexity of the estate and then find a law firm that will give you what you expect to get at a price that you think is reasonable.
And back to our financial planning discussion. We talk about diagnosing before prescription. It's the same thing here, right? Because everybody's estate is different. You might run into a situation where somebody may have ties to the U.S. that they may or may not have been aware of, and that can create issues of its own. So where am I going with that? Is just to say like, Look, yeah, you can go do that will kit from wherever staples. It doesn't necessarily mean that it's right for your situation, and you're suggesting that probably better to get some advice before
I think of it the same way, you know, if people are used to using an accountant when they're filing their taxes every year, in most cases, I think you get what you pay for, you know, from the standpoint that you're paying people for their expertise, for their ability to offer sound advice that will help you achieve whatever goal you're trying to achieve. And in the case of an estate lawyer, you want to know that they understand your situation and they make sure that the documents are drafted the way you intend them.
And those legal costs can be tax deductible, right? I believe so. Yeah, I think they can. Just the same as like professional investment costs or accounting fees. These are professional expenses that you can claim.
So just another couple of quick points. One of the things and we're going to get into this in a subsequent episode. But when you start planning your estate, it actually helps you to organize your records and make sure that things like beneficiary designations are all properly in place on the various types of accounts or investment accounts that you might have. I would say once a week, I have a call with a client who says, can you just check to make sure the beneficiary is my wife on my RRSP or whatever?
And not the same client, different clients, different clients? Ideally, somebody is not calling every week.
It would be a different discussion in that case, but so it's a good opportunity to make sure that the beneficiary designations are current the not out of date. Things could have happened. And just as I mentioned, when we're talking about revisiting the estate plan on a regular basis, it's a good opportunity to go through. Make sure that. All of the titles and the beneficiary designations, everything is current and correct. The best time to plan for the estate is definitely now. If you haven't started, now's the right time to do it. And again, revisit it on a regular basis. Because of course, unfortunately, nobody likes to think about their own mortality and what could happen. But accidents happen. People fall ill, and there's no sense delaying starting. And the best benefit of having done this is that you have peace of mind, and that's the whole idea when you can leave on your trip and know that if, God forbid anything were to happen, that your family is taken care of. So that's it. For part one of estate planning on further episodes, we're going to get into things like, well, when you're drafting the will, you've got to remember and keep track of every single thing you own. We have discussions with clients. So, what do you have? Well, I've got a RSP and an investment account, and then you talk a little bit later and say, Oh yeah, no, we've been saving. We've got a bunch of money in the U.S. that we're looking to buy a condo. Oh yeah. And did I mention, yeah, we've got a condo for my daughter and things like that. So, they come up and people don't think about them. So, it's important to do a complete inventory and we'll talk about that on a later episode right on.
So, yeah, we will do a couple of episodes on estate planning, but next week, Greg, we have a guest joining us. We have Sarah Newcomb from Morningstar. And Sarah is an author and behavioral finance expert guru. And I'm looking forward to that discussion because I think it's actually rolls into that quite nicely.
That'll be fun. I'm looking forward to that as well.
All right, till next time.