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Welcome to How to Retire on Time, a show that answers your retirement questions. Say goodbye to the oversimplified advice you've heard hundreds of times. This show is about getting into the nitty-gritty so you can make better decisions as you prepare for retirement. Text your questions to 913-363-1234 and we'll feature them on the show. Don't forget to grab a copy of the book, How to Retire on Time, or check out our resources by going to www.retireontime.com.
Wanna beat the market, you're gonna have to take on more risk. Do you know what that risk is? And it is a calculated risk, or are you betting? Welcome to the Retire On Time podcast. I'm Mike Decker here with David Franson.
Mike:As always, text your questions (913) 363-1234, so we can feature them on the show. And remember, this is not financial advice, just a friendly conversation giving you some context. David, what what do we got today?
David:Hey, Mike. If you can't beat the market, then why doesn't Warren Buffett just invest in the market?
Mike:Very astute observation. Mhmm. Someone's understanding that maybe the conclusions we make aren't based on the evidence provided. Mhmm. So the snafu with a lot of people and this idea that you can't beat the market, A lot of it is based on Warren Buffett's challenge in 2007.
Mike:So Warren Buffett, here's the premise. Yeah. Warren Buffett decides that he's going to challenge a couple of hedge funds that they cannot beat the market net of fees. Now, David, how many people know what a hedge fund fee structure is? I mean, like, no one.
Mike:Yeah. No one does.
David:Couldn't tell you.
Mike:That is not common information. Right. So here's how hedge funds works. They're gonna charge you 2% or so, and they're gonna take 20% of the profits or so. Oh.
Mike:K. So net of fee performance, you've gotta make some killer returns
David:Right.
Mike:To beat that. Yeah. So he wasn't saying that, oh, professionals can't beat the market. He wasn't even saying that you you like an average person can't beat the market. What he was saying is, hey, maybe the hedge funds and the actively managed sophisticated ideologies of how to invest aren't as good as they seem.
Mike:That was in 2007.
David:That's a different time now.
Mike:Well, happened a year later?
David:Oh, 2008, you know, backed securities.
Mike:So when Yeah. When markets go down, the hedge funds also went down pretty hard. Now, some of them maybe were worse, some of them maybe not as bad with with the financial crisis, but they also had their fees that accentuated losses. Mhmm. You know how in retirement people complain about, oh, well, 4% don't accentuate those losses.
Mike:Well, 2% fees would accentuate losses to some extent. Mhmm. And then it was like a five year or so bet, and so they're they're just down like crazy, and they're trying to pick the right stocks in the recovery. Well, problem with picking stocks during a recovery is you don't know which ones are gonna make it and which ones are not. Mhmm.
Mike:And the recoveries are often very quick. I believe around half of of stocks. I shouldn't say half of stocks. That's too general. Many stocks will never recover from a significant market crash.
David:So for example.
Mike:Like in the .com, a lot of the .coms that made a lot of money in the nineties never actually recovered. A lot of them went bankrupt, and some of them like Cisco took twenty five years just to break even.
David:Mhmm. So we're talking stock price. Right?
Mike:Yeah.
David:Okay.
Mike:So so what do hedge funds do? They try to pick stocks. So they're inherently disadvantaged based on the five years that they were then put under the the microscope and scrutinized. And so it's out of context. Now am I saying hedge funds are a great idea?
Mike:I am not saying that whatsoever.
David:Mhmm.
Mike:Do I think there are some smart hedge fund managers? Yes. Do some of them beat the S and P every single year? That's the wrong way to look at
David:it. Mhmm.
Mike:Because Warren Buffett doesn't beat the S and P every single year. Yet if you look at his portfolio, Berkshire B, Berk B, you know, b r k b.
David:Mhmm.
Mike:Google it. If you look at his portfolio, I would have rather been in that than the S and P 500 over the long term period of time. And this is how you can lie with statistics, and you can manipulate numbers. If you take a period of time, you're gonna see that in sometimes the S and P probably was ahead of Warren Buffett because he was sitting on so much cash. Because he felt the market was overvalued.
Mike:And then other times when the markets crashed, he's buying things at a discount, and accelerating his returns. So if your idea of beating the market is every year you need to start with a clean slate, and beat the market that year, that's a tough thing to do because it assumes one, you can time the market, and two, you know exactly the the way, like, that's betting. Investments are making decisions with longer term time horizons. Uh-huh. So if you gave a group of people, let's say, ten, fifteen year time horizon into the study there, there's a good chance that professionally managed portfolios would do okay.
Mike:And when I say okay, I don't wanna say beat the market or not beat the market. It depends on the professional. It depends on their strategy. It depends on their track record. There's a lot of things it depends on.
Mike:But the idea that you can't beat the market, it's it's an oversimplified statement to make people feel powerful when it's false power. Because if you just invested everything in the market during a flat market cycle, you would be destroyed. Oh, yeah. But if you did the boring portfolio sixty forty, or fifty fifty, whatever, you would have beat the market. If the markets crash and you didn't lose as much money, you would have beat the market.
Mike:So what are we really trying to accomplish? At the end of the day, your money has a purpose. If it's long term growth, then maybe the S and P 500 is a good option.
David:So if I'm younger, my retirement's decades away. I mean, and P is a good
Mike:It's a great starting place.
David:A majority of my assets may be in there or or all.
Mike:Here's what I would do Uh-huh. If I were 20 years old and just getting started.
David:Okay.
Mike:K? This is not investment advice. K? It's just what I would do if I could do it all over again. I would buy and have around, I don't know, twenty, thirty, 40% S and P 500.
Mike:I would then wait the queues. QQQ, or have a little tech heavy because tech carries the S and P 500, but that increases your risk in the portfolio. And then I would find five dependable, profitable, boring companies, and I would overweight them. Think like the Costcos and the Walmarts.
David:Okay.
Mike:Yeah. Because what you've taken diversification and you've overweighted specific companies.
David:Okay.
Mike:But only invest in what you know. That increases the risk. So there's technically more risk in that portfolio than there would be of just buying the S and P 500. You need to understand what you're what you're investing in. You're going to sometimes lag the market, and other times you may be ahead of the market, but you're you have a little bit more control over just here's one group of 500 stocks that I hope works out.
Mike:We gotta put a little bit more work into that. Not saying that's what everyone should do. I'm saying that's what I would do.
David:Okay.
Mike:And please don't do that.
David:Yeah. That's just what you would do.
Mike:It's just what I would do. It doesn't make it right for other people.
David:Take it or leave it.
Mike:But but the And the reason why I would do that for what it's worth, is because I recognize the issues of a flat market cycle. Now, would I be in q q q right now? Probably not. In a buy and hold situation, I think tech is overvalued. AI, I think, is becoming a bubble.
Mike:I I do not see a sustainable cash flowing business model for a lot of the companies to be able to keep up what they've promised. So that's where the seasonality comes into play. That's where the professional comes into play. That's where the research comes into play. The problem though that I have, and I think why people have gravitated towards just buy the indexes and call it good, is because a lot of professionals aren't really professional in that they might not be in it every single day.
Mike:I know this is crazy to think, but what if most professionals are really just licensed salespeople that have you fill out a suitability questionnaire that pumps out a boring portfolio that says, well, you told this you told us this is what you wanted, so that's what you got. Oh. And then set it, forget it, and they're just looking to gather as many assets as they can, charge them a 1%, and make the money. In that situation, yeah. Mhmm.
Mike:Probably a probably a bad spot. But if you're working with a true professional that in my opinion, a true professional. Someone that's really trying to do the research that understands the seasonality. It's looking at any credit stresses. Looking at the price exploration of different stocks.
Mike:It's looking at understanding the seasonality of of whether we're in a growth phase or we're at a market top or and they're able to hedge in and out, like that kind of relationship. Mhmm. It's very aware is not what investors are used to today. It is hard to find someone like that. K?
Mike:But when you do, it could make a difference. I'm not saying better performance. It could be that you deliberately underperformed for two or three years, but that's because you're more protective. Because you're patient enough to understand that we might be near a market top, and you'd rather be more protective of your portfolio, that when markets go down, you can be greedy when others are fearful, as Warren Buffett has said.
David:Okay. Yeah.
Mike:So, I mean, Warren Buffett, if you look at over the long term, beats the market. Other investors can beat the market. You are taking more risk than the market, but over the long term, as long as the research is being done, that is a possibility. I don't wanna say it's a problem like it's going to happen. Past performance is not indicative of future returns.
Mike:Yeah. But we need to get out of this idea that it's it's almost like this is here's a conspiracy theory that would be fun.
David:Alright.
Mike:It's like there's a conspiracy theory of getting a bunch of talking heads telling everyone to buy the S and P 500. Because if you buy the S and P 500, you in you inadvertently fund and support the 500 companies that are really the institutions that some people would allege control America.
David:Okay.
Mike:And so the more people that can hate a strategic portfolio and buy into State Street, Vanguard, BlackRock, or Fidelity's S and P 500 companies, that gives those four companies a lot of dominance over everything. That also gives those 500 companies a lot of extra capital because people are buying into it, which if they have an appreciated price, they can be more dominating of what's going on. It's like, you know, pick your favorite conspiracy theory. I don't personally believe that's what's happening. Mhmm.
Mike:But let let the Internet have fun with that. Yeah. But does that make sense? Yeah. It's like, people like to repeat fortune cookie advice or fortune cookie wisdom because it empowers them and makes them feel like they're smarter.
Mike:Mhmm. It just
David:And so are we saying here this is this question saying that Warren Buffett doesn't just invest in the broad index funds. He No.
Mike:He buys a couple of stocks. If you look at his history of his portfolio, there's typically five to seven stocks that he's heavily weighted in, and then a bunch of runner ups.
David:Okay.
Mike:And a ton of cash when markets are overvalued. And right now, it's it's fair to say markets are overvalued. The price, and this is not the only indicator, the price of a stock would be considered higher than normal compared to the earnings that the company is making. That's where the price earnings ratio comes in. If you look at Graham, who was Warren Buffett's mentor Mhmm.
Mike:He wouldn't buy most things with a a PE ratio of like 15 x or less. That's the price is 15 times the earnings. Oh. Okay. You can look this up.
Mike:Any stock. What's the PE of this stock? It will tell you what it is. Yeah. There are some companies that have like a 600 PE.
Mike:It's wild. And very very rarely do they digest such great assumptions.
David:Mhmm.
Mike:So yeah. In my opinion, it's a great time to underperform and prepare. That's at the time of this recording. I mean, of the news we just got, and the I'm gonna time date this heavily right now, but with the news that we just recently got with the situation in Iran Mhmm. It looks like things could be solved sooner than later.
Mike:I don't know. If it does, there's reasonable probability that markets will still grow a little bit more, But I don't think they're gonna grow like they have. I don't think they're gonna grow for the next five years the way that they have grown the last five years.
David:Too much and why is that? Just like too much instability in the world, uncertainty, what?
Mike:If you run a marathon, that first mile, you've got all the energy in the world.
David:Yeah. Alright.
Mike:That last mile, you're not sprinting. Yeah. I think we're kind of in that last mile. We're trying to go hard. We're trying to go fast.
Mike:But we're just kinda running out of room. Where's the money gonna come from that will continue to pour into our economy, into our market specifically, that will cause the price to increase?
David:Alright. I see.
Mike:See the problem is if everyone's buying, no one's selling. Mhmm. Think about that for a second. If everyone's buying, no one's selling. At some point, we're gonna run out of steam.
Mike:And there's enough talk on social media that once we start to turn and go down, there could be panic. Uh-huh. And as Michael Burriess said famously, the problem with index funds and the popularity, which they have grown significantly over the last ten years, is the room is getting more and more full, but the exit door is still the same.
David:Oh, right.
Mike:When you sell the S and P 500 index fund, for example. Mhmm. The fund manager has to sell all of those positions.
David:Oh yeah. All 500 of them. Yeah.
Mike:Think about 500 of the main companies all receiving a flood of sale on their prices. And that that's not an exact understanding of how the ETF works. Right? There's some nuance to that. But we don't wanna spend an hour explaining how ETFs really work today.
Mike:That's that's education that's not relevant for making good healthy decisions.
David:Mhmm. Okay.
Mike:Let's just understand that there's a lot of purchasing happening, not a lot of selling, which is why we've increased the value, why the S and P has hit recent all time highs.
David:Mhmm.
Mike:And a sign of a market top is consistent all time highs in a shorter period of time. Be wise. It's not about turning on risk and trying to beat the market every year. It's understanding seasonality, conditions, what are you buying, price exploration. Are you comfortable with those the risk?
Mike:If the markets go down, what's your next step? What's your next strategy and so on.
David:And we have options. Right? If if we're not gonna be all in on index funds or ETFs or stocks, we have other things that where we can put our money in the next season if the season changes.
Mike:Yeah. Yeah. I mean, heck, cash isn't the worst thing to put money into.
David:Alright.
Mike:Just it depends on what's right for you. What's at the end of the day, what strategy do you want to implement? And what are the benefits and detriments of that strategy? Mhmm. That's that's the big takeaway here.
Mike:If you wanna beat the market, you're gonna have to take on more risk. Do you know what that risk is? And is it calculated risk or are you betting? Too many times people bet thinking that they're making a wise investment, they're betting.
David:Yeah. That's a good distinction. That's something to think about.
Mike:Investments means you're making informed calculated decisions with longer term time horizons. That you're okay not beating the market every single year, but you're trying to beat the market or keep up with the market, or more importantly, meet your goals over the long term. What do you want your money to do for you? That's what matters more than anything else. And I think sometimes we put the cart before the horse, We try to beat the market thinking that more growth potential is gonna solve all of our problems because when as Warren Buffett said, tide goes out, you see swimming naked.
Mike:Oh, yeah. And those who are overexposed to risk could get really hurt in the next market crash. Right. Be careful. Yeah.
Mike:That's all the time we've got for this this episode, this question. If you wanna submit your question, text at (913) 363-1234. And as always, go to retireontime.com for resources, the book, the workbook, and so much more. That's retireontime.com. We'll see you in the next episode.