5 Mistakes Even Seasoned Investors Can Make

Welcome to the Wealth Exchange. Your access to the experts addressing the issues affluent families across Canada face every day. For market commentary and planning strategies, to leadership and philanthropy, we discuss the subjects that matter to you. I'm James Atherton, Vice President of Private Wealth. Thank you for joining today. Let me begin by telling you a quick story. Many years ago, I sat across from an investor, let's call him Steve. He carried the confidence and composure of someone who had navigated multiple market cycles. But as our conversation unfolded, it became clear that despite his experience, he was making the same subtle but consequential mistakes that many seasoned investors make. And these weren't beginner mistakes. They were refined versions like sophisticated and language yet still avoidable. The reality is that experience doesn't shield anyone from human nature. And in some cases, it simply provides more convincing narratives to justify one's position even when it's wrong. And that's why today's topic is important. We're discussing the five common mistakes even experienced investors continue to make and by recognizing them can be the difference between being seasoned and being truly successful. And to do that, I'm joined by my colleague Chris Warner, Wealth Advisor and client relationship manager in our Victoria office. Chris, hello again. Hello again. Thanks, James. How are you? I'm well. I'm well. Just waiting for my invitation to Davos. I've been following the headlines and that seems to be the best entertainment on the market right now. I think so. We're all feeling patriotic for one, so which is interesting. It sure is. But short of me getting invited to Davos, grateful to be here with you, Chris. And I'd love to dive in to our first seasoned investor mistake. Yeah. Okay. Let's do it. Hey, James, got a joke for you though. What is the best seasoning for an investor? The best seasoning for an investor. I'm not sure. It is time in the market. I know. I know. That's the sound of a thousand people and subscribing. Thanks, Chris, for that. Okay. Let's get it. Mistake number one, assuming past success guarantees future safety. So even experienced investors can unconsciously crank up their risk over time. And it's cliche at this point to say past performance is on indicate future performance. Yet when the market rents hot, matchup becomes background noise. And when everything is going up, it's shockingly easy to forget that upper momentum isn't a personality trade. It's just a phase. Yeah. Exactly. I mean, because human beings that were built in with a recency bias and it's in our operating system, so to speak. So we assume whatever today's weather forecast will extend indefinitely. But you and I know it's not going to be summer forever. And then, you know, another thought that comes to mind is in the many years we've both spent in this field, you'll probably observe there's a there's a timing mismatch between investment life and then normal person life human life. So when portfolio managers say long term, they mean decades, poor, when investors say long term, many of them mean like the last 12 to 36 months or so. Like I've lost count of how many supposedly long term investors quote me a one year or three year training return like it's an article, but I mean three years as a trend, but calling a roadmap for like 20 years going forward is like forecasting adulthood based on preschool finger painting or something. Hey, my skills are pretty good in preschool when it comes to finger painting. Okay. Well, it worked out then, but it worked out. That's an area. But you're right. I agree with you. Like long time frames feel abstract. Like when we casually say five years, it sounds like nothing, but in our world, that's roughly 1,250 trading days that as an investor, you actually have to live through and bumpy trading days to trigger emotion. Like on, I think it was two zero Wednesday of this week, you know, we saw a 2% clawback on the markets and some of the indices and then and so how do you react to that, right? And emotional investing is almost like a gateway drug to abandoning strategy. Yeah. Well said actually, I mean, investors, everyone has great intentions and you'll until you get hit in the face, but you want to rebalance your portfolio regularly until you don't, you know, you get caught up in the market's current storyline, whatever that is. Is it trend? Is it loss? Is it greed? And then you forget the plan that you wrote when you were still in that clear frame of mind, you abandoned system to thinking for system one thinking and over time, then you get style drift. Your portfolio is risk profile can increase. It's not ideal because strong returns counterintuitally might indicate weaker future returns. And so basically capital appreciation stock returns usually is indicative that price to earnings ratios are increasing. So every dollar of profit that you would buy going forward gets more expensive because there's a perceived certainty of earnings as the market gets confident. And so that means investors are willing to pay higher prices because they think there's less risk. And remember, technically returns that you expect are tied to the risk or uncertainty you expect. So again, if risk comes down, then return expectation should come down. But that's not typically how people think about hot stock markets. Think about this too. After the five year run up of the dot com bubble, the S&P 500 posted five year analyze returns of negative 2.3 after five years of having annualize returns of 28.5%. So you can see the market difference between hot market, cold market. But if you bought 99 when everyone was sort of accepting that was the new reality, well, it course you suffered a little bit. So having gone back to your original plan, periodically rebalancing staying with the sober thought plan that would have kept you in a better space. So summarizing really quickly because I ran both. But investors, they're tempted to buy more of what works when something's lagging, they're tempted to sell and selling what's cheap and buying what's expensive long term is usually not effective. Thanks for that explanation, Chris. But this is tricky though, because momentum, and we've seen a lot of momentum in the markets in the last few years. It's often it is a sign of real future growth. But with that, I think we should be calibrating our spidey senses a bit when it comes to momentum in the market. So what should we be calibrating specifically when it comes to momentum and being aware of some of the risks that come with that? Well, exactly. And the point is well taken because the research is nuanced. Momentum is really heavily dependent on the sector and the story between the price move. It really, it applies a lot more to individual company security selection than it does to entire asset classes, not always the case, but generally speaking. And we do know that individual stock investors tend to keep their losers and they sell their winners too early, which is a reason they underperform markets. Asset classes though, a broader ongoing rebalancing strategy. Again, kind of taking profits and buying some of the weaker stuff over time tends to be a really effective strategy. But I'll give you an example of why momentum can be different. Like mega cap stocks, big value companies. Let's call it J and J or something that maybe they show a recent price appreciation 5% and a day or 10% over a couple months. And you're like, Oh, that's great. But is that a sign that Johnson Johnson has released something new and transformative? Or is it just that they were priced at a discount before and they're reaching their intrinsic value? Maybe they're getting the recognition they deserve, it doesn't mean they're becoming a rock star now. But by contrast, technology company or a pharma company, if they produce something that's really transformative, and I think we all know the transformative elephants in the room these days, like those could be signs that there's a lot of runway left to get. And the real trick is knowing which is which, which is hard to do. That's where complexity lives. Okay, so how can investors test if their portfolios risk still matches their long-term goals? Yeah, I mean, there's really three pillars to it. One would be just you always want to have a fresh asset allocation understanding, right? Every portfolio drifts and rebalancing shouldn't be cosmetic. It's a risk control system. So in a market like this, you might have had a portfolio starting at 70% stock, 30% bonds. And after a hot bull market, it quickly becomes 82-18, let's say, and either that's not a portfolio, that's now a slow-moving hostage negotiation. So you have to ask yourself, does the current asset allocation still represent my original intended risk profile? As one asset class taken over is diversification actually real? Or is it become decorative? Second pillar, reassess your risk capacity, not just risk tolerance. And risk is like the most often confused metric because it's kind of a catch-all term. But there's really three different areas I'd focus on risk tolerance, risk capacity, required risk. Most investors are thinking about tolerance, how much downturn they feel they can sustain. But like, capacity is really the adult in the room. Like, how much you can actually afford to lose is the most important metric. Partful is going to be really tolerable, but they could be complete. wrong for you. And then risk required, like why take on more risk than required? Some people chase returns for the sake of chasing returns. But if you're taking on marginal amounts of expected return for a much higher risk premium, it becomes less and less efficient the more you do that. And again, if you actually don't need that to begin with, and you could have taken the most efficient return and had a 99.9% probability of reaching your goals, like above that. Last part, measuring current portfolio risk used data. Let's not be all qualitative. Let's be quantitative. And this is where your portfolio manager helps you, right? We've got volatility, standard deviation, maximum drawdown, beta, sharp ratios. Volatility is the amount of noise or the expectation of how much your portfolio moves up and down in a given year. Maximum drawdown tells you from peak to trough, highest to lowest, what's likely or historically the biggest drop your portfolio might see. So you can quantify if it's a 30 or a 40 that you can actually withstand that beta. Pena tells you how long walk step you are with the market in general. And so if you hear on the news that the S&P is up one, maybe you'd expect to be up one if your beta is perfectly correlated. And then sharp ratios, but I was talking about risk premium or the efficiency of a portfolio. A sharp ratio tells you if you're getting compensated by excess or deficit alpha for the risk you're taking above or less, you're a benchmark for portfolio. So that's a great framework, Chris. And I like to think in frameworks, particularly for myself, but also for our clients. So in summary, you analyze where you're at in terms of your actual portfolio and, you know, current state. And then you look at in and look to review, okay, where have we been and what is my own risk tolerance and has that changed. And then you test to determine ultimately if your portfolio is still in line with your long term goals. So those three steps, that's great advice. That's a great framework. So let's move ahead to mistake number two, Chris, which is chasing trends instead of strategy. So investors sometimes react to whatever headline is screaming for attention. Once AI this week, it's clean energy the next and then there's been a lot of news out there regarding, you know, space and like space mining, etc. And that race. The moment something becomes the next big thing, people start drifting from their plan and into whatever's trending. So as if strategy's optional. And then FOMO, like fear of missing out kicks in. And it's almost mandatory that you have to, you know, not have that FOMO, you got to get in there. And it sometimes upset strategy or put strategy aside. So can we speak to that a bit? Yeah, no kidding. Well, and the thought that comes to mind is that was it by the rumor cell, the news, like by the time something becomes a headline, that's often the point that a lot of the money that's going to be made in that theme is already been made. It's not always the case, but often that is the case. Like there's pretty good research that says when a thematic idea becomes popular enough to become an ETF, the theme is already priced in. I was reading a Morningstar research report that said 75% of thematic ETFs underperform their broader benchmark. And I mean, it makes sense, right? The ETF is late to its own party. So it's going to underperform. That's a great call out regarding ETFs as a benchmark because obviously there's a lot of growth in the ETF markets. But that's a great example. Do you have any more examples of that, Alex specifically? Yeah, I mean, back in 2017, even before Tesla was doing it, robotics was going to be a big thing. And so there was a robotics ETF which went nowhere. Maybe that's okay. Rewansched a research now. One probably most Canadians will remember is just the marijuana boom in 2018. That's legalization. Speculation came in. That was huge, but so, so much of the gain and so many of my clients who made the most money made it in the individual positions. And by the time the other ones wanted to buy the broad market ETF afterwards, you know, the return expectations had gone from 100 to 100% to 10 to 20% and then the reality was actually negative over time. Psychedelics came up in 2021. My wife's a psychiatrist, so we haven't laughed about that one. Speculating about legalization. So like in each of these cases, the thematic ETFs were interesting. They were novel. They got people's attention, but they underperformed because you know, all the companies that were getting the growth had already done it or in the case of psychedelics, the the speculation didn't actually turn out yet. So investors piled in, but a lot of the time they're just buying the encore not the performance. So I'm generally the last person to buy the newest iPhone. So I really relate to what you're sharing their Chris because you know, unless I had some amazing foresight to be able to get into some of these these markets and opportunities early on. Like I generally am not the first there. So in terms of avoiding chasing whenever the market is romanticizing in the moment, what frameworks actually would help me stay grounded and not chase? Yeah, I mean, there's lots of components. Of course, FOMO is our enemy in a lot of cases here. You know, we're social species program to sort of follow the herd and see what's going on, but in investor psychology that doesn't typically work well for us because again, a lot of the gain might have happened before. What people tell you is always also the rosiest story of what they're doing and they leave out all the milieu, all the negatives, all the time it didn't work out. So you're not getting the full story. So what you should be doing is anchor in your required rate of return, understand the objective of your portfolio. Don't just look at market comparable as in trying, you know, be in top core tile of whatever the best asset class is every quarter. That's not a sustainable strategy. You're just chasing returns. If you're going to add to your portfolio, you should be thinking, how is this a creative to my long term goals? And if it's not a creative, if you can't clearly understand, it's going to bring my risk down by this expected return up by this. It's going to have negative correlation with these other asset classes, then it might just be noise, not opportunity. And so then the attraction is probably just emotional rather than strategic. Part of this is the other benchmark of what is allowing me to sleep at night. And so how can investors evaluate new opportunities without letting a single idea derail the entire strategy? Yeah, how do you sleep at night? I mean, you should treat investment opportunities a little like a job applicant, like, you know, read the resume, tell them to justify their presence in your company. Why are you paying for them? And you should also apply that scrutiny to existing holdings, valuation, competitive advantage, volatility, characteristics. What's the contribution to the long term objective? And to like, when you look at our portfolios, you'll notice that we never have huge concentrated positions to one asset, one company, to one debt, you know, allocation size really does matter in the broader term. If something looks genuinely promising, you can add a small allocation with the individual broader structure, but it shouldn't replace or supplant the structure. And that's kind of how I think you let curiosity in without having chaos reign. That makes perfect sense. Trends end, but discipline ultimately wins in the in the long term. Let's pivot to mistake number three, which is overlooking tax and estate implications and investment decisions. So even experienced investors sometimes make decisions that make perfect sense on a spreadsheet. And I know you leverage spreadsheets as do I, but quietly create tax or estate headaches. And it's that classic moment where the investment grows beautifully, but tax bill grows faster. And it's where the right financial move turns out to be the wrong wealth move long term. So, you know, tax and estate implications, let's dive into that when it comes to some of the mistakes that we might make. Yeah, I mean, investors tend to be so focused on investment that they don't necessarily realize how much damage small mistakes compounded over time can do. And a lot of that is located in tax, because if you don't factor tax in or after tax outcomes, that can really change the ballpoint when everything comes due. Like when the plan comes to succession, it's fine to be growing, but when you have to cash in, if you pay a lot of tax, of course, that's going to weigh down your actual rate of return. And that works, especially in the case of the state. I think some people certainly have a aversion to thinking about estate planning for some reasons. And so that can off to get overlooked, which can further deteriorate the quality of the plan for people over time. But actually, let me give you a couple examples. So the the first one that comes to mind that I don't say I get into arguments, but I certainly have to work people through the math on this is you've got your retirement income fund and you're looking at you've got, you know, a million dollars in your riff, you're 68 years old, you're going to pass away some time in the future in a couple decades or sooner. And so people's instinct is, oh my gosh, if I leave money in my riff, that's going to pay in BC 53.5% tax on the estate. I want it to pay 25%. So I am going to pull money out of my riff earlier. And that way I'll pay less tax. And then I don't actually need that money, but I'll pay a lower tax rate. And I can carve it off to the side and leave it. And you say, okay, sure. But remember the benefit of a registered account is tax deferral. So the longer you defer paying the tax, even if the tax is a higher rate, that could potentially leave you with more after tax, counter and two to, so like really simple though, two million bucks, you pay 53.5% tax, you're left with 930,000. If you paid 25% on a million, you left with 750,000. So I mean, it's, it's a simplified example, but that's the case. Like more is still more even after tax. So you really have to think about the realistic outcome of what things will be. You don't just want to again emotionally be like, I bias the present too much in control for it now. So that's one example. And then the other one that's more common to our professionals, especially working ages in the professional corporations. It doesn't often, it can, especially if you're young, but it doesn't often work out to be pulling extra money out of your professional corporation to fund a TFSA. Because again, like if you're a top tax bracket, your dividend rate is probably 49% tax. So the money you pay out to yourself to get into a tax free TFSA, you kind of lost half off the top. And that means in most simulations, you're running 18 plus years of investment in the TFSA into equivalent investments before you break even. And then hopefully you're above that before. But even then that's a simplified example because we're taking out things like dividend tax splitting, potential other tax strategies, like maybe corporate owned insurance, there's a whole myriad of ways where it doesn't necessarily work out. So you need to run through this with a planner and an accountant to see. But tax free TFSA may not be the best tax shelter if you've got a corporation. So look at things holistically. There's so many examples of where things could go wrong. If you don't do that analysis or at least have the discussion. So say, say, say you're an investor yourself and you're looking at an investment and you have to make a decision. You want to make a decision. What sort of evaluation framework should you be implementing to factor in the tax or estate implications on that decision? Yeah. I mean, most times are making these decisions. There's no gun at your head. So you can slow the decision down. Make sure you're just thinking about it thoughtfully and involved in that should be a talk with your team. It's your advisor, your accountant, your lawyer, if necessary, a business evaluator, like everyone who has their own lens, who's going to be able to apply it and give you a proper, well-reasoned decision and understand the characteristics of the investment, which counts as it in. What's the tax status? What's the liquidity? What's the exit plan? If I hold this till death, does my tax treatment get better? Is it worse? And I would even add the thought of what else would I do if not this? You have to think about parallel universes and run the math in both scenarios to kind of see what nets out to be better. So there's a lot of questions. It can take in simple cases, minute stancer, in complicated places, hours, but fixing the consequences of a poor decision could take years or it could never be fixed. The old adage of being proactive rather than reactive when it comes to planning for taxes and wealth transfers. So what strategies, Chris, have you implemented in your own practice with your clients to address this? Yeah, well, our clients, and I think most people should be thinking to have it. So one is just your annual tax strategy review. That doesn't just necessarily need to be with your accountant. Of course, they're driving the bus on tax advice, but with the advisor and the tax lines, I think is important to. And then on the other side or the back end is the state intention. What are you trying to do with the overall strategy? And where is it leading to? So tax strategy, identify your opportunities for tax lost harvesting. Look at potentially charitable giving if there's ways to do in kind donations instead of in cash. Think about income splitting opportunities, whether that's spousal loans or just pension splitting, your compensation plan for your corporation varies a lot between provinces, some favor dividends, some favor salary. There's a lot of other kind of add-ons that go with that. So you need to be refocusing on this year over year. And also think about shifting assets between tax efficient or tax inefficient accounts. We call this tax location can be an important way to make sure you're just capturing incremental gains over and over and over until they add up to a really big sum. When you review taxes once a year, you get ahead of them. If you ignore them, it's kind of like your relative show up with luggage and you just open the door and you're like, oh no, right. Okay. So not ideal. A state intent, understand how every asset is going to be taxed on death and not just the tax, but where does the liquidity, does the tax actually get paid from? Microsoft shares are very easy to sell for an estate. A cottage property, definitely not so easy to sell, especially if it's going to maybe 16 grandchildren split evenly. Maybe you have insurance to cover that. Maybe you don't. And you need to understand, do the current ownership structures make sense? Because if you do this, this natural going to align with your long term goals because the larger plan is always in view on that note, James, have you done your estate plan? I do practice what I preach. Chris, in fact, shout out to my own personal advisor who reminded me recently to upload my will and representation or give it to our online portal. And my wife and I are meeting with him next month. I think it is to discuss our annual tax strategy before the end of our species and end reviewing our state documents at the same time because we've made some updates. And you would think that your question was planted, but honestly, that is happening in the next month. It's true. So I appreciate the question. But yeah, we have we have updates in place. So we're ready to go. It's an exciting, exciting date for you and Lindsey. She can't wait. Those pivots are mistake number four, which is behavioral drift during calm markets. And even when markets are calm and returns are strong, behavioral risk can be high. And it feels counterintuitive to what we're discussing. But investors assume danger only exists during volatility. And I've seen and I'm sure you have as well, like some of the most damaging decisions are made in periods of comfort, not chaos. And that's interesting. I'd love to dive into that with you in terms of where you've seen that scenario and and some of the research behind it. Yeah, or where I see that scenario right now, I think it's interesting. Like I stood out to me, but I remember Daniel Coniman, like probably the world's most famous behavioral psychologist was on a podcast and he was asked, what was the fundamental driver of human behavior? And he was expecting like cognitive biases or something. And he said laziness. And I was like, oh, yeah, okay, I kind of get that. But I mean, it makes sense and intuitive sense. Like if you frame it more charitably, we just say organisms tend towards energy rationing when they can. So that's laziness dolled up. But what it means practically is that when we don't perceive a threat or a threat to our portfolio specifically during calm markets, we're more inclined to just do nothing than follow our general plan, which might impale some effort. So how is that different from the first mistake we mentioned off the top, which is assuming past returns, guarantee future safety? Yeah, I mean, it's really, I think a difference between active risk and passive risk, like literally passive risk. The first mistake was investors often let recent market performance distort our sense of risk and it goes to an active style. Draft, if we start chasing returns, we start selling off things that are just kind of neutral. And we're not saying we're saying that calm markets convince us that they're more resilient than they are here. The danger is not starting to chase returns and avoid the laggers. It's just a pure stagnation of any approach. So mistake one, we're saying investors get cocky for this mistake. We're saying calm markets are kind of an anesthetic investor stop checking whether decision still match goals. Everything feels fine. Skip rebounds here. Just acquiescence towards what's working. It doesn't feel significant, but it does accumulate into hidden risk over time. Have all these visions of an animal in the safari sitting there in the grass, not really knowing that there's a lion creeping up behind it and not having a team around that animal to protect it in that environment. So I hear what you're saying there. So it's not laziness so much so much as a lack of a threat to motivate. And so what practical steps can investors take to stay disciplined? Right. Well, listeners will sense a trend here, but structure in your plan, I think is really important. And so whether that's cordoey or semi-o annual check-ins, you've got it forced yourself to pause and ask important questions like, okay, is the asset mix shifted? How much and why? What will I do about it? Are my contributions still aligned with my plan? Are any positions being held for emotional rather than strategic reasons? And so doing a review and setting this time aside makes the invisible visible. And when you do it during calm markets, you just do it once you realize, okay, I actually see where I'm drifting off here and it becomes a self reinforcing cycle to start doing it beforehand. But before that happens, you need pre-commitment. Before the calm period happens, you have to define where the actions you're going to take, when will you take them? What are your rebalancing thresholds? If something gets more than 5% overweight underweight, are you going to rebalance then is at 10% you're going to think about your ongoing contribution levels. Are you going to add more if markets are dipping or are you going to state level and dollar cost average? With draw rules, I mean, if you're in retirement and you're thinking about taking income, it's easier to take income when markets are moving hot, but does that mean where are you taking it from? Why are you taking it from there? Are you potentially unbalancing your portfolio again? You really want, I think, quantitative criteria for tactical decisions and by having that pre-commitment, it'll minimize your opportunity for improvisation and that's where drift often begins. So structure and commitment, which to me sounds like having this all baked out of disgust in advance before you make decisions. So how can you, as an investor, events, small changes from turning into larger portfolio issues? Yeah, I mean, again, structure, pre-commitment, the more eyes on this, the better sometimes the shared visibility means that one person, one more than one person understands a long-term plan. It's easier to notice when decisions start drifting away from it and communication, it's really a safeguard as much as a courtesy there. And another way to make sure you do that because you're not just communicating with other people, but you're communicating with yourself is documentation. If past Chris has written the message to future Chris or me, present Chris, it's a little easier to follow because I don't have perfect memory, but if everything's written out in simple, visible language, plans clearly stated, it's harder for me to justify decisions that contradict what past Chris had planned out. I have to kind of argue with him, which is hard to do. And small deviations will happen, but they get caught early and you have sight on them long before they can compound into a meaningful risk. Documentation is so key. In the absence of documentation, your intent becomes anecdote. And it's tough to refer back to that when you don't have it written down. What was I thinking with this plan years ago? So I appreciate the documentation piece. So that's really helpful. I think that calm is not the absence of risk. I actually think it's kind of where risk kind of creeps in is when you're not expecting it. So let's move on to the final mistake, Chris, which is mistake number five overlooking liquidity needs and liquidity is the easiest thing to ignore. But it's also the most painful thing to need if you don't have it. So even sophisticated portfolios can run into trouble if liquidity is not actively considered. And it's one of those risks that quietly hides in the background. And then the exact wrong moment it steps into the spotlight. Yeah, no, no, no, no, liquidity. It really often gets ignored when portfolios look strong on paper. And really the biggest piece of advice is I would say like assume the worst. And tell me what your portfolio does and see if liquidity holds up. Like that's sort of the framework that you should be operating on. We have a bit of an optimism bias that things will work out in a lot of cases. Not all of us. I'm the other way. But you know, you don't want to be surprised by liquidity because that's where not knowing which string to pull on means you might pull the wrong string and the whole metaphor falls apart. You know, markets don't care about your cash flow needs. And so you've got two real liquidity risks here. One implicit one explicit illiquidity. Investments that can't easily be converted to cash. Like everyone knows about these. That's real estate. Maybe it's physical gold. Maybe GICs that are just walked in. But there's another hidden risk of volatility. And that's liquid investments that might have high volatility in them, which would mean that drying down on them during negative periods would be very undesirable. Let's dive into that. So you're saying even seemingly liquid investments have a liquidity risk because of volatility. Tell me more about that. Yeah, well, exactly. Some investments they're technically liquid, but accessing them at the wrong time forces a choice. And it's, do I realize the loss or do I scramble for liquidity elsewhere? And again, if you're making this decision in the moment, it probably means that no choice is ideal. So let's say, for example, like you you bought a concentrated position in a GLP one biotech. You were expecting a whole time of 10 years. You're expecting a annualized return of 15%. But the volatility associated with that is 30% annualized. So one standard deviation means that in an average year, you would see returns of negative 15% to positive 45%. Or two standard deviations would be negative 45% and 75% to the positive. You can see like how big of a swing that would be. If that was your oil, I can tap it if I need it. Well, what if it's down 45%? Do you want to take that out of the market and lose the financial period where it starts to come back? Or you're going to take the extra units out like that hurts your plan fundamentally at long term. It's a recipe for just being forced to realize large losses. And so, you know, a swinging value asset becomes a trap door, so to speak. And that's when understanding your entire portfolio position is so crucial from a liquidity standpoint. So how much are you allocating towards that biotech stock as you mentioned in Chris? That's one of the things that if you need a cash, where else would you get it from? So when that specific example you shared, something looks liquid until you actually need it and then you realize it isn't liquids, which raises the question, why would anyone intentionally invest in an illiquid asset class in the first place? A lot of chat around liquidity and illiquidity. Yeah, I mean, it's a big topic these days too. But I mean, at a fundamental level, like illiquid assets, you're expecting long-term value. You're probably expecting some portfolio diversification. Illiquid assets, again, I'm saying that how you get compensated on what you buy in a portfolio, the component is risk. So, you know, the risk that it will go up and down volatility, but it's also liquidity. How much access do you have to that capital? And so if a company that wants to hold your money for a while, wants to entice an investor to invest in it versus a publicly traded equivalent size equivalent profitable company, they should be paying you more to do that because they're going to hold your money longer. So we call that the illiquidity premium. So if you don't need your capital over time and you know this for certain and you don't want to take on more risk, you could technically move into an ill liquid position and hopefully expect a higher return from that. So that's the basis, but in addition to that, like illiquid companies or illiquid positions or infrastructure, any of these like larger alternative asset classes, they probably have stable cash flows. They're probably very negatively correlated to public markets. So again, making sure that your portfolio overall doesn't ebb and flow quite so much. And there might be other things like inflation protection that seems like more of a concern down south lately. So I think that's something that people are looking for, but inflation that's rising. Usually isn't good for stocks. It usually isn't good for bonds, but it is good for say private debt. It is sometimes good for infrastructure. It can be good for real estate. General speaking, there's a real thumb. As family net worth increases, the amount of capacity that they'll have to invest in illiquid assets typically will increase and smaller investors maybe want to avoid it to some degree, but many of our clients benefit from it tremendously. The illiquidity premium generally comes with longer time horizons. And so from a liquidity perspective and understanding, there's times when you will need cash. And so what practical steps will help investors avoid being caught off guard by unexpected cash requirements? Yeah, I mean, you've got to map your liquidity plans onto your real life. So you know, you should be identifying several years into the future of cash flow requirements, plus buffers. So you know, kids education, property purchases or maintenance costs, major expenses, trips, if you've got philanthropic goals or any other capital commitments that you know are going to come do, this needs to all be in your plan mapped out, look at liquidity, look at projected growth. And again, leave that crucial buffer to make sure that you're not cutting yourself too tight. And you've got to attach the right assets to all your needs. When money needs to be coming to you, investments need to reflect that timeline. Another thought I guess is just liquidity in the portfolio is good as an emergency fund. You've got to think about again, the practical liquidity if it's a volatile investment or not. But if it's a less volatile investment like traditional public bonds, they're an emergency fund, but they're also counterweight to stocks. They're also sometimes an ability to rebalance tactically. It represents some flexibility. So no portfolio should be fully liquid. No portfolio should be perfectly liquid. There's a happy medium for most people somewhere between, but overall you want everything to be high quality, accessible in the short term so that that doesn't require sacrifices from your long term assets as well. So liquidity really preserves your options options preserves strategy. Tell me Chris, from a framework perspective, what should I be looking at in terms of assessing my liquidity and my needs? Like what kind of framework would you implement with your clients. Yeah, I mean, we have this on all our semi-annual reviews and any investor should do this. So look at liquidity at least once a year, if not twice. Just again, ask yourself, if we need to cash in the next 90 days, where would that come from? Is that source still reliable? Is anything shifted with the accessible cash that I had? You're kind of thinking about, where do I get this all from and what am I working towards? Everyone probably who's been investing for a while has a three or six or even 12 months buffer. Again, you really want to test, was that buffer built on many expenses years ago? Has my lifestyle cost risen? Are there future unexpected costs, car breakdown, roof repair in the house that, okay, actually, I should be leaving a larger buffer for there? And then outside of just thinking of the practical applications for your life, like stress test the portfolio. Right now, and let's say in 98 and let's say in 2006, liquidity during call markets, super easy. But you, I would run the worst case scenario. What would your liquidity in this portfolio have been in 99, 2001, 2008, 2020? And if those scenarios look a little bit bleak, that's probably a signal that adjustments need to be made. That's a great call out regarding stress testing and the importance of that of going back to look at the impact of portfolio because it is difficult to project in the future and see what would happen in those scenarios. But stress testing is a great litmus test. So, well said, thank you, Chris. And that was a tour through the five mistakes, even confident competence, red sheet loving investors like us managed to make. I have to say it is oddly comforting to know that experience does not exempt anyone from doing occasionally unwise things with their money. Like you said, if anything, experience gives us more sophisticated vocabulary to justify unwise things. But the the whole point of today is simple. You can avoid mistakes if you're willing to slow down, stay on us, be rigorous with yourself. And just remember, like financial life doesn't run on autopilot. It requires measured effect. Yeah, markets will do what markets do and investors will get in trouble when they assume they are the exception. But that's also the opportunity. You can beat half of these behavioral traps just by acknowledging that you're a human. And by structuring your decisions so that your humanity doesn't wreck your portfolio. That helps. Yeah, that sounds like work, though, Chris. Yes, it is. But I mean, honestly, like most of that work should come from your advice or your advisory team, assuming most listeners here are working with one. And either way, in a sense, you're getting paid to do this. You won't be panicked about taxes or liquidity. And you won't be chasing trendy investments that are aging like sun-ripened sushi. So I think it's worth it. Love that you got sushi in there. And then on that note, thank you, Chris, for all the great information you've shared with us. And to you, our listeners, remember, even seasoned investors can make errors. And the best time to deal with these is before they ever happen with a comprehensive planning process. Thank you for joining us on the Wealth Exchange. We'll see you next time. Thank you for listening to another episode of The Wealth Exchange. You can view today's show notes and subscribe to the podcast on our website at necolowelth.com/thewealthexchange. Some of the companies or securities mentioned during this episode may be held at the time of recording by necolowelth. Please view the show notes for full disclosure of our position in these companies. This podcast contains the current opinions of the presenter and such opinions are subject to change without notice. This material is distributed for informational purposes only and is not intended to provide legal, accounting, tax, or specific investment advice. Please speak to your necolowelth advisor for advice based on your unique circumstances. 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