He Studied Every Bear Market Since 1929 | Ben Carlson on How the Worst Starting Point Still Made 8%

There's so many examples of that where just saying, I'll just wait till the headlines tell me, but the time it's in the headlines is already too late. The market has moved on. The market's bottom way before earnings do, way before the unemployment rate peaks, all these things, if you think about it, in 2022, the stock market bottom done 8% inflation. The worst starting period ever was September 19, 29, of course, which is the start of the Great Depression. If you were to put your money in then, you would have had an 86% crash almost immediately, right? Over the next three years, 80%, and then many crashes in the late 30s and into the 40s because of World War II. And despite all that bad stuff, you would have still had a total return of around 850%. So good enough for almost 8% per year annually. Then, welcome back to Access Returns. How are you? Could I be here, guys? We want to have you on. You have a new book coming out, and it's great, and I'm going to tell you why, because I feel like I could give this book to my wife, who knows very little about finance and investing. And I feel like she would learn a tremendous amount from it. But I also feel like the book is very appealing to more sophisticated investors and financial advisors because there's so many powerful statistics. And I think frameworks and insights about building long-term wealth and managing risk. So great job on the book. I feel like the audience can be very wide here. And books like this, I think, are great. Because there's so much, I think, useful and important information you have a way to frame it up in an explainable way. So kudos to you, man. Thanks. That's what I was going for. And I think that's what I do with all my writing is try to take complex topics and explain it in a way that's easily understandable and more plain English for everyone to understand. Yeah, so today, what we want to do is we're kind of going to try to, hopefully, even at 60 minutes work through as much as we can. This isn't a substitute for buying the book, of course. But Ben's been nice enough to share some charts with us. So we're going to drop those in here to give us some visuals to look as we work through these ideas and concepts. But where I want to start with you is let's just start with the Carl Richards quote at the very beginning of the book. And it's a quote from Carl Richards, but the quote is, "Risk is what is left over after you've thought of everything." Can you talk about what sort of what that quote means to you? It's interesting because I think that there are just so many different ways that people define risk as investors. There's a lot of quantitatively based people who say, "Well, risk is volatility or sharp ratio, they want to quantify and make it be a number." And I think for most people, it's more of this squishy thing that's harder to define. There's not a good definition of risk because whatever you do, there is something left over. No matter what stance you take, if you bury your money in the backyard, if you have your only money in stocks, if you dial up the risk and you take your very aggressive investor, if you're a conservative investor, there's always some sort of risk whatever stance you take. And I think that's what I'm trying to get across in the book is that it doesn't matter what you take. There's trade-offs involved. I think that's the whole process of investing is dealing with trade-offs. - Yeah, so it's funny, the first chapter here, you're talking about risk. And my family and I vacation at the Cape every summer and it's like clockwork right around time of vacation. My mom will call me and say, "Did you see the shark attack off the Cape?" Or something. - Did you see the great whites are off the Cape? I do not want you going in the ocean. I'm like, "Mom, I'm like, listen, they have all these planes out there. Nobody's gotten binned by a show, whatever." So anyway, so what are sharks and mosquitoes tell us about how people perceive risk? - It's funny because I give these same stats to my wife and we vacation every year for spring break and Markle on Florida. And we do an Airbnb house on like one of the little canals and they have some kayaks there. And my wife says, "Oh my kids, "Oh, let's go on the kayaks and go around the little bay "and my wife says, "Absolutely not, there could be sharks in here." And I said, "You're no way, there's no sharks in here, "that's ridiculous." And then the same day my son and I are throwing fishing poles off the dock and 40 feet in front of us, a bull shark jumps out of the water, grabs a fish. And see, I told you, and the point is like those kind of one-off stories, that's the kind of things people latch onto and that when they worry about it. And yeah, my favorite research on this was the shark week thing. Like my, everything everyone goes to a shark week fade at some point in their life. It's been around for like 40 years at this point. But they studied it and the whole point of the show on the first place was to help people understand sharks better. And they found is that that's not what happened at all. They, people would see the shark attacks and they'd go, "Oh my gosh, I'm so scared of sharks." And even the studies they did showed even if they gave a disclaimer, listen, shark attacks are extremely rare. These, these animals don't attack that many people. It didn't matter if you saw one, you were, you assumed this is just what happened, sharks attack you. And, and that's my point is that a lot often people latch on to the wrong kinds of risks and the most like sensational risks as opposed to the ones that actually impact them. I think the current environment is a perfect example of this. If, I think if you looked at a long-term chart, any sort of geopolitical risk would never really show up on a chart. A lot of financial risks will show up on the chart, right? If there's a financial crisis, those kind of things show up. But I think most people would assume it's the opposite that it's the geopolitical one. Those are the things that matter, not these financial crises, but it's, the truth is it's the opposite. And it really is the financial stuff that matters more than like these sensational headlines. - Why do, the media is just so focused on this 'cause this is what gets attention and gets clicks and you know, if you have an advertising-based business model and you gotta get people to watch and so it's more of this sensational stuff is that. Rather than talking about like, I mean, we're gonna talk about market timing here, but you know, it'd be much probably better for investors if you know, we were focused on the risks of bad market timing versus to your point, focusing more on these like crashes or you know, inflation spikes or scary geopolitical headlines. - Yeah, it's just the negativity stuff. Obviously it works, right? My wife asked me to the deck, why don't you watch the news anymore? And I'm like, I can't do it. It's because there's so much negativity. I have to like filter it out of my life because otherwise it just bums me out. And obviously I think we've just learned in the information age and social media era that stuff travels much further than, you know, bad stuff travels much further than the good stuff. That's a kind of vivid thing that you remember. - So the second chapter is doing nothing is hard work. And it's funny, we just had Chris Davis on the podcast and he told a story where after his stepfather died, like in 2007, his mom who was older had all these municipal bonds. Like that's what he had put her in. And as those municipal bonds matured, like her and Chris would sit down and they'd pick individual stocks that were mostly held in the Davis portfolios at the time. And then, you know, come 20 years later. So like she never touched any of those stocks. And yet Chris Davis, you know, was running portfolios and strategies and everything. And yet his mom's portfolio, you know, dramatically outperformed the firm strategies by doing nothing. So I mean, that's kind of your point with this, right? - Yeah, there's this an old Roman army rule from back in the day that like they said, action or moves fear, which in some parts of life, like in war, actually that is helpful. In certain parts of life it is. But I think there's something about just trying to get, put your hands on the steering wheel as an investor when things do seem scary. That just puts you at ease and it makes you feel comfortable to do something even when doing nothing is probably better for you. And I think that's a really hard thing to wrap your head around is that, well, I'm trying to do something here. I'm trying harder. I'm studying the market more. I'm looking at these companies more. I'm making more trades. Why isn't this helping? And I think that that illusion of control is a hard thing to get past as an investor. - Yeah, and I think it kind of shows up in this next chart here too with this penalty kick, strikers versus goalies and how they're kind of jumping one way or another when it's best if they just kind of stayed still, right? - Yes, yes. I was never a soccer guy growing up, but both of my daughters play. And my daughter was in a penalty shootoff in a, you know, she's nine years old or something when she did this. And it was like the most hard wrenching thing I've ever done in my life, like watching her go through this. But the goalie by the way, was she the goalie? - No, she was not the goalie. Thank God, because it's funny. It's a new field terrible because the goalies always end up crying after these after they're really good. But the goalie is at a huge disadvantage because the goal is so large, obviously. But they, yeah, they asked these goalies, like they tried to study what, in these penalty, you know, professional soccer matches, what are the goalies doing? 95% of the time they died left or right. And if you see one of those saves, like, oh my gosh, it's amazing. But they said when they look at how the strikers kick the ball, it's basically a third down the middle, a third to the left, a third to the right. And I told the goalie, like, if you just did some game theory and changed it up a little bit, in state of the middle occasionally, just just trying to throw them off a little bit, you could actually increase your save percentage by enough to potentially alter the outcome. And they brought the data to the goalies. And they said, here's the data. What do you think? And they all said, you're nuts. We would look like idiots if we just sat there doing nothing. And I think that sort of, you know, action over inaction, that explains a lot of what happens in the investing world too. Like, it just, you don't want to feel like an idiot, look like an idiot because you're not doing anything, whenever an else is. - I can't tell you how many soccer games I've been to where they actually, not in penalty kicks, but like the actual shots on goal are like directly to the goalie. There's something about the visual aspect that puts the ball where these kids want to kick it anyways. - Yes. - What do you think about the idea of, do you think successful investing is about a few great decisions or is it more, when investors get more money? more about designing a system that helps reduce the number of decisions that need to be sort of made in the moment. Like I'm thinking like, you know, it kind of reminds me of the Warren Buffett thing. Like even though, listen, the greatest investor of all time, but he was like, you know, a few great investments are what, you know, drove most of his track record and sort of staying out of, I guess it's both and you're trying to stay out of mistakes as well. I don't know. So I don't know as your thoughts on that. I guess you could say that especially during like the big bear markets, if you can avoid selling out of those that that that's a huge thing. Like making the worst possible mistake at the worst possible time and selling when stocks are already down 40 or 50 percent, that kind of makes sense to me. I do think in today's day and age, the idea of limiting yourself and placing filters probably matters more than ever because I always like to say that there's never been a better time to be an individual investor. The amount of of products and strategies we have available today and in these, these types of strategies that we have now in ETFs that are a tax-efficient wrapper, that you can buy and sell in a liquid weight during the day for pennies on the dollar. It's kind of amazing. Like these strategies that have only been available to, if you had like a huge prospectus and you've, you know, went through a financial intermediary or you had a hedge fund in the past, now can be bought, you know, sold really easily. But I think the fact that there are so many of these strategies makes it harder than ever to know what you should say yes to what you should say no to. And I think having some sort of limitations and filters in place to guide your actions is more important because it's just such a fire hose now. There's new ETFs all the time. There's new funds all the time to do strategies. AI is just going to multiply this, you know. Think about how easy it's going to be to research and make new strategies now that AI is here. And you're going to have the ability of the future to just create, you're going to bypass the ETFs and go straight to making your own strategies, right? So I think that taking out that temptation is going to be more important than ever and putting filters on your process. You have a couple of chapters here on inflation and, um, you know, obviously you, you, you had written this book well before, you know, inflation started to come into the picture with obviously what's going on in Iran. So, so I think it's important to, one, that's great that you were kind of paying attention to it because it is important. But we were, you know, we've been in an environment where we had kind of very little inflation. Well, I guess 2002, but it was. So anyways, the point is is like, what do you think of when investors kind of think about inflation and then sort of look back to say, oh, this is another 1970s where we're going to have run away inflation. Like, how do you address that? I think the really hard part is and, and to be honest, after we had the huge inflation, I just like in the early 2020s, the psychology behind it probably surprised me, um, as much as anyone because I didn't think how much, I think most people has had it in the back of their mind. Like we're not going to have one of these periods again. Like the 1970s seemed like this one off period, right? We had these huge inflationary shocks back in the day, but that was, you know, before the Fed was around and there was a lot, it was, you know, these cycles were based more on war than anything else. You'd have these huge inflationary spikes and these deflationary busts and it seemed like we had rooted that out of the system. And so seeing what, how what inflation did dissentiment and how much people hated it was really interesting because this, you know, yes, we had 9% inflation, but this is, this is nothing if you compare it to the 70s, right? Look, the 70s was just brutal and it wasn't just the 70s. It was like the late 1960s, so the early 1980s, we just had this enormously high inflation. And I do think that seeing the psychology and how people reacted to that risk is really interesting and it's not, it's something that I just think we weren't prepared for in any way. One of the things that you did is when you kind of talked about ways that investors should think about hedging inflation, you know, you didn't start the chapter with by-gold commodities or other, you know, traditional inflation hedges, you kind of made the point that, you know, what's important for most people is a good job, a fixed rate, mortgage on their house and stocks for the long run as the, you know, the foundation in an investment portfolio. Why did you frame it like that way, which I think is great, but- Yeah, I almost look at inflation as more of like a personal finance problem than an investing problem. And even those stocks are on there. I think it's more of a long term thing that you're trying to hedge as a poor to a short term thing because even if you look at something like gold, the track record as an inflation hedge isn't the greatest, right? There's very few, you know, one-to-one correlations in terms of how to hedge inflation. Sometimes gold works, sometimes it doesn't. I think that's the point is that I was trying to get more like the personal finance aspect of this and how, because most people, the reason I think inflation makes people so mad when they see the government statistics is they look at the number and they say, that is not me because my housing costs are this and I live here and I pay this, but I also have pay this, but I don't pay this and no one's personal inflation rate is anything like the government's long-term average. But that's the point. It's an average and the ranger on the average is really wide. And so I think if you think about it more in personal finance terms, that makes more sense to me because your living standards are going to be different than someone else's depending on where you live. And so that's something that's going to be more important than the cost or in a big city is going to have vastly different housing costs and transportation costs than someone who lives in the Midwest. That's just the way things work. And so I think you have to think about it on a personal basis and not like an aggregate economy-wide thing. And you also talk about human capital. And that's something that's just underappreciated by people in a lot of different ways. Like it's underappreciated as part of their portfolio in terms of like the present value of what they're going to make, but it's also underappreciated as one of the best ways you can deal with inflation is to focus on your human capital and make more money, right? It's not many people write about it in personal finance because it's probably easier to come up with ways to save money and pay off that than it is to talk about how to increase your wages. And I think now probably more than ever as we have this potentially big labor discipline coming in AI, I think it just makes people nervous to even talk about it. So yes, but that's the thing. People talk about how to compound their capital and how to increase your investment returns. Guess what? One of the best ways to increase the increased the size of your portfolio is to make more money so you can potentially save more money, right? That's how you compound capital more by increasing the amount of wealth you have. You can be the next one buffet, but if you don't have any money, the capital to put it work, it's not going to help you at all, right? Yeah, I mean, both people get rich, get rich to their own human capital, right? They don't get rich through, I mean, it's great. And you do see people who hold portfolios for really long time or by Amazon, the lows or whatever, and they do get rich doing that. But the vast majority of people has done through their own work. Yeah. And people talk about the fact that young people have the ability to take more risk. Like you should have all of your money in stocks if you're a young person because you have decades and decades ahead of you. But the other reason for that is not just the time horizon, but it's the human capital asset, right? The reason you can take so much more risk as a young person is because you have the ability to put money to work during bear markets, right? You don't have to wait them out anymore. You don't have a huge starting financial asset base. You have time to slowly but surely add into bear markets and you should hope for them. Just imagine stocks as an inflation hedge. That's something people don't get right sometimes because they worry about what happens to stocks when you get unexpected inflation. But can you sort of flip that and talk about why stocks are a really good inflation hedge? Yeah, it's interesting because if you think about what happened before inflation spiked, and obviously the stock market took a tumble. What was it down 25% at the worst in 2022 from Pete Detrov? And I show in the book that when inflation is rising from one year to the next or inflation is higher than 5%, stock returns tend to be below average. That makes sense from a short-term perspective. But the long term is that you have to take a look at what stocks did leading up to that. And when inflation was very low in the 2010s and the stock market did really well, that was your inflation hedge heading into the inflationary period, right? The inflation hedge doesn't always have to happen. It doesn't have to be when the inflation is like from this day to this day. This is when inflation happened. How did your portfolio do? No, it's leading up to it. How much did stocks hedge you leading up to it? How much did they hedge over the long term in the previous 10 years? And that's where the inflation hedge happens. It's not always during it and you have to nail the trade. And I think that's the thing that people mistake on these macroeconomic things, especially inflation, is like I have to nail the trade perfectly. I have to go all in on energy stocks or commodities. I'm going to own copper and gold and all these things are going to do well in inflation as well. And as we know, that's just very difficult to do because a lot of times with the macroeconomic data, the markets move way quicker than the data does, right? And by the time you think you figure out a trend, the market has already moved on and look past it. And that's one of the great things I think you got across in the book is this idea that you can't have, it's very hard to tie anything and then hedge that thing when you tie it. Like a lot of your hedges for anything have to be done over time and they have to be in place all the time because you're not going to figure out when the right time to put it on an office. Yeah. And the market moves way quicker than we could possibly imagine, right? In a recession, markets bottom way before earnings do, way before the infl- the unemployment rate peaks, all these things. If you think about it, in 2022, the stock market bottom done 8% inflation. People were freaking out that a recession was right on the corner, inflation was still at 8%. The Fed had raised rates to 5%. And everyone was going, there's, you know, we're done. There's nothing that can be done here, right? No one can say about the Fed is not coming to people's rescue and that's when stocks bottom. And I do think that witnessing, you know, 20 plus years in this industry, witnessing all of the different pundit forecast and predictions about what's going to happen, how the macro economy is going to do this and how the market's going to do this and just seeing how wrong people have been. And people who are 10 times smarter than me, there's people who are just so much smarter than me, who understand the economy, down to a tee, they can slice and dice all the data that they want and they still don't quite get it perfectly with their, their predictions. And even if they get their predictions right on economic data, they could be wrong about the market's reaction to them. Right? If you told people what would happen this, this decade, right? We're going to shut down the economy for two months and everyone's going to live at home. Right? The unemployment rate's going to go to 14%. Then we're going to come out of that. There's going to be supply chain shocks. Then we're going to have 9% inflation. And oh, by the way, after that, you're going to have like the highest wage growth of University of New York. seen. And then a couple of years later, we're going to put tariffs on the economy. And then we're going to go to war with Iran. And by the way, before that, we had oil price bikes because Russia invaded Ukraine. And then how did the S&P 500 do? 15% per year. No one could have possibly predicted that would be the outcome. It's because the reaction function is just so difficult to foresee. I know this has been the same for you. This has been one of the lessons of hosting a podcast or any because we interviewed people who are always smarter than us. And sometimes they make predictions about things. But if you look at those things in Agnes, you just realize it's very, very difficult, even for really, really intelligent people to figure out what's going to happen in the short term with anything. Yeah. I think that's why it's so important to think with like baselines in a range of outcomes. Here's my baseline. And here's potential outliers that could happen. And how do I create a portfolio or an investment process that is durable enough to sort of follow along the baseline trend, and also survive the outlier events. And that's what I try to show in the book too, is that it's not always easy. There's really, really terrible things that have happened. And despite those terrible things, the results have still been pretty good. Let's get to the next thing. You had this quote. I'll just wait until the coast is clear. And as an advisor, like I've heard this a million times, whenever anything's going wrong, you know, it's like, let's just go into cash and we'll wait this out and then we'll see what happens on the backside. And it could you explain why that's a bad idea? Yes, waiting for the dust to settle. I remember that was a thing people said during COVID too, is I'll just wait for the dust to settle. And I think that's one of the more instructive periods ever that when we first had the bounce during COVID and it was April 2020 and stock for rising, there's that there's that famous Jim Kramer meme where he's talking about how the stock market is rising, but unemployment is going nuts and the unemployment is rising. And things just seemed like it couldn't possibly get worse in the stock market was up. And everyone said, this is a dead cat bounce. There's no way things are going to get better. And I think that's the thing is that, I mean, the stock market was already up and back to all time highs before the vaccine was even rolled out, right? And I think there's so many examples of that where just saying, I'll just wait till the headlines tell me, but the time it's in the headlines is already too late. The market has moved on in the market. And the stock market is obviously not always right. There's the old claim that the stock market has predicted nine of the past five recessions, right? But I think collectively, this decade, the stock market has been shown to be a lot smarter than the individuals who try to predict what's going to happen next. And every time that people say, all the stock market is detached from reality or doesn't know what's going on, more often than not, they've been the ones that have been proven wrong, not the stock market. And one of the things you learned is the coast is really never clear, like complete. Now, so yeah, if you're waiting for the coast to be clear, you're going to be in a long way. No, there's always uncertainty. It just feels more uncertain at certain times. You got across this idea of market timing really well with this idea of Bob, the world's worst market timer. You talked about at the beginning of the book and then you brought him back into this chapter. I'll throw up the chart you had in the book, but can you explain the lesson of Bob, the world's worst market timer? If I thought about this in the peak before the Great Financial Crisis was like October 2007, and we didn't hit new all-time highs again until spring of 2013. So it was a pretty long time from that crash until we got new all-time. And I remember when we did hit new all-time highs in 2013, it wasn't like people were celebrating. There was a lot of people who were going, oh no, I saw what the last all-time high did. If we do this again, we're going to fall off a cliff again, like, you know, wildly coyote style. And I remember thinking like, okay, fine. Let's say we get back to all-time highs and we do have another crash. Like, what if you just bought it all-time highs? If you bought at just like not all-time highs, because the data we've seen on that is actually pretty good. But if you bought it like the worst all-time highs, right? The peaks that one all-time high that's going to be the worst one. And I ran the numbers and I didn't really know what was going to happen and I ran the numbers and they were much better than I thought. Like this guy put all of his money into his check-in account and every time they were the all-time high, he'd put it to work. But then he'd keep it invested, right? And I ran the numbers and it's by far still my most red blog post I've ever written. People still read it to this day, you know, 12 years later or whatever. And it's funny because it was kind of the impetus for the book because so many people seemed to like it and the long-term attitude that it had, but other people would constantly poke holes in it. Well, what about this and what about this time frame and what about this country and what about and I think those exceptions are sometimes what keep people from taking risk is that if you're constantly looking for the exception to the rule, of course you're going to find something because every market, every strategy, every asset class has a time frame where it's going to look awful and you're going to feel like an idiot. And that's just the way these things work though. You had this chapter, the most important concept and investing in it. I don't know. Do you listen to the founders podcast at all? Yeah, they have very well done. Did you listen to the Andre Agassi one? No, I did not. You should. It's really, really good. So like, because Andre had a very, very tough upbringing. His dad was like exceptionally, exceptionally hard on him. And that probably plays into what you were talking about early in the chapter. But he gets it this idea that a win does not feel as good as a loss feels bad. So can you talk about that and how that applies to investing? Yeah, yeah. So I do know the story because I read his biography, which I don't want you to spoil. I know who read it, but it's dumb that ghost writer was very well done. But like, yeah, the way that he wrote the book, it's, yeah, it explains well, when he talked about how it took him forever to finally get over the hump and win a major in tennis. Even though, you know, people are calling him a choke artist and he was overrated and he finally won. And he's like, I won. And then, oh, no, I can't believe it. Like it didn't solve all my problems. It didn't make me feel a bit. I still remember the loss is more than the wins. And that's the point of the stock market is that I said the stock market makes you feel terrible every single day if you look at it. Because it's surprising how, how close, how many, how many down days there are versus up days in the stock market? It's like 53% of all days are up and 47% of days are down or something like that. It's closer than you'd think. It's kind of a, these small edges in the stock market that build over time. My point is the more you look, the worse it's going to feel because losses sting twice as bad as gains feel good. And, you know, Daniel Connemon and a bunch of these behavioral psychologists have quantified that with surveys and all these different types of tests. But I think anyone with a favorite team understands this that you've seen your favorite team lose a game and you always remember that in the pain hurts way more than your favorite team winning something. It's just, it's a human reaction function. So I think that that's why I said it's the most important concept because dealing with those losses and how you react to those emotions is going to have a lot to say and how you success be ours and investor. How do you think about that for a practical perspective? Like I struggle with that a little bit because one hand like coaching is what you do with that. So some degree to help people understand like that this exists inside of them and how to handle it. But on the other hand, you could argue, you know, maybe there's some things you do in terms of how you build a portfolio knowing that this exists. So do you have any thoughts on that? I just think, I do think that defining your time horizon is one of the most important things you can do as an investor before you get into anything. Any trade or any investment is how long might it like what's how am I planning on owning this for? Is it something that I plan on being in a year? Okay, that that changes things considerably. Am I going to be in this 10 years or multi decades? I think that part of it has a lot to do with it because you see the way that people act in their brokerage accounts is far different than they act in their 4-on-K accounts. Right? Most people are willing to leave their 4-on-K accounts alone more or less. And there's way more churn and way more and if you look at the numbers from a place like Schwab or Fidelity or Vanguard and average cash balances in like a brokerage account, it's like 20%. It's way higher. So back to the market timing thing. People are way more apt to market time in a brokerage account than they are in a tax deferred retirement account. And so I think maybe it comes down to like that sort of bucketing or segmentation that you know, having your long term assets in these certain accounts and if you want to whatever speculator do more short term stuff in the brokerage account, but then sizing it correctly as well, right? Having the position sizing. So if you're going to do the market timing and you're going to try all the sort of stuff that we know is very hard, you're not doing it with your entire portfolio. You did a really good job of the book. You've focused on some really important periods we need to learn from in history. Justin talked about the 70s. We're going to talk about Japan a little bit and you wrote this chapter the worst crash of all time about the 30s. But first I just want to ask you a general before I ask about that. Like, how do you think people should handle this type of stuff in terms of thinking history is repeating? Because if it's weird like where we are right now in terms of people think a lot of these periods are repeating. You've got the people out there. I think the 70s is coming. The late 90s is coming. We're going to have a bubble just as big as Japan. And if you've got the doom YouTube channels or probably out there talking about the worst crash of all time here. So like, how do you think people should learn from history and maybe apply it to today? It is funny. If you assume the modern markets are 100 years older. So which is kind of the time period I cover in this book. The last 100 years essentially, we have really good data on and it's really when things started forming as a modern functioning market. Most of these big events have an N equals one or N equals two or three. It's not like we can point to history. We have 10,000 years of history that we can look at and say, on a probabilistic basis, this can happen to this. So it's really hard to point to these things and say, if you just follow this script, you're going to be fine. I do think things are a lot different today than they were in the Great Depression. Obviously, there's just much more of a infrastructure. The stock market matters a lot more. But I do think it's just important to recognize the human element that can cause these things to change both from a policy error perspective. A lot of the Great Depression was human beings who made things worse. The government made that whole thing worse and they tried to sort of sweep another rug and pretend like it didn't happen. A lot of the policy prescriptions were huge, own goals essentially, but the way that people reacted to it and how the motions can swing from just this glorious euphoria in the 1920s to the worst thing you ever seen at the end of the 1920s in the 1930s. I think that's the thing that you try to latch onto is it's like a human nature is a thing that is constant across. the market environments. Do you think I've studied that? I mean, obviously none of us are going to predict this would ever happen. But do you think it could even happen? Like, it seems unlikely, right? Given that we've learned so much about policy and how to respond to these things, we've modernized so many things. Like, it would seem to be unlikely, but do you think that's right? Yeah, I read Andrew Austin, book 1929, I thought it was great. And that was my takeaway is that I think it'd be really hard for it to happen again. But the Fed really wasn't the Fed back then. They weren't, they didn't act as a lender or a last resort. Like, they were raising rates. They were trying to balance the budget. They put on these tariffs. So I do think that we learned, like the reason that 2008 didn't turn into the Great Depression, I think it's because Ben Bernacchi had studied it. I also think the reason that 2020 didn't turn into 2008 is because a pilot study would happen in 2008. Like, they were, they're much quicker to get there. Now, I think what you could say is that because we're learning from these past time series and these past events, could we be setting ourselves up for different types of risks online where there's more complacency and sometimes these rescues aren't going to work or they're going to work, but they're going to lead to other risks. I think that's something to consider. I just don't, because of the stock market is so much more important now, I talk about in the book. It was something like 1 to 2% of households own stocks in the 1920s. It wasn't, no one had enough money back then to invest in the stock market. Whereas today it's 60, 65% of households. It's just the stock market is so much more important. It's hard to see the government letting it fall 85% and not causing riots in the streets because it's so much important as a barometer of so many things in our economy. Yeah, that puts it interesting because it kind of has two sides to it. The fact that the market is so important to the economy means maybe the economy is at more risk because of the market, but it also means they're going to step in and deal with that risk. So it might not be the risk many people think because that means the government is going to step in and the government is going to have much more incentive not to let the market go down. Yeah, and there's a lot of people who just hate this, right? They're like, if the government didn't step in and save Silicon Valley Bank or if it didn't step in and spend trillions of dollars during COVID, like we would, the fifth system would have gone under and the point is most people are incentivized to keep the systems going, right? And keep the number going up. And I think a lot of people been banging their heads against the wall for the past 15 years going, yeah, but if the Fed wouldn't have done this or if the government would have done this, you probably do have to assume that most of the time, just from a career risk perspective, the government is going to step in. But again, what does that mean for other risks down the line? I don't, could it mean more flash crashes in the future, right? And more violent moves up and down. I think that is, I think trying to think through what the ramifications of, because I do think we've taken off, if you call the great depression, the left tail event, I think we have taken that off the table by all intents and purposes. I say, maybe unless there's an alien invasion, but even then, if there's an alien invasion, there's going to be a lot of infrastructure spending, right? And I think it's going to be a booming economy. So go long with the space stocks. Yeah. But yeah. So I do wonder like, okay, we've taken the left tail off because we know the Fed can step in and they'll send their bazooka. Is it a policy error, right? Where we have the wrong person is leading these organizations. It's an overreaction or an other. So that's kind of the thing to think through that I don't really know what it could be. But the point of that, you know, I wrote about the normal accidents in the book, how like, anytime you deal with these complex adaptive systems, trying to make them safer, always adds like a risk somewhere else. Like you're trying to seal a hole in a boat and then another one pops out. And that's the kind of thing that I wonder about. Like what risks are we actually, is it morphing into by stepping in every time that there's a crisis? Yeah, it goes back to the quote just in the beginning, right? It's always these risks you don't see. Those are ones that become a problem and it's hard to know what they are because you don't see them. Right. Yeah. Which is every risk, you know, that history has seen. It's very rare that people see what's coming next. I want to put up this chart. You had figure 8.1 in the book and this is the S&P's 30 year rolling returns because I just think this is really important for people to put things in context in terms of all this other stuff we go through. So what do you think the biggest lesson is from this, this idea, these 30 year rolling return charts in the S&P? Yeah. One of my favorite return charts and it's total returns going back to the 1920s and it shows the rolling number that the worst starting period ever was September 1929, of course, which is the start of the Great Depression. But if you were to put your money in then you would have had an 86% crash almost immediately, right? Over the next three years, and then many crashes in the late 30s and into the 40s because of World War II. And despite all that bad stuff, you would have still had a total return over on 850%. Again, that's the worst 30 year return over the last pick any starting monthly date. And I just think it's kind of fascinating when you think that that, you know, as far as modern history goes, it's hard to pick a worst time than that. That the Great Depression, which we had 20% unemployment for essentially a decade, it wasn't until the end of World War II that we really got out of that fog, you know, a decade and a half later because of the war spending. One of the, yeah, the worst times possible and you still got almost 8% per year for 30 years is kind of hard to believe. It's also funny that the best 30 year return is starting from the bottom of 1932. So the worst 30 year return and the best 30 year return are essentially three years apart. Yeah, what's great about this is the gap is not that big. Like the worst return is 8 something percent a year. Like when you put it out the 30 years, it just, it helps to sort of put long term investing in perspective. It takes the volatility out of it, right? Yeah, exactly. Which is great because I think it's good for like I thought about using this chart with clients because it's a good chart for people to see, just understand when we're all wrapped up in, you know, Iran, war and all this stuff. It's a good thing to kind of put it all like into perspective. There were a lot of wars that happened and there are a lot of other things that happened that were very bad during those periods, you know, where those 30 year return are calculated. Yeah. You had a chapter on bear markets and you distinguish between recessionary and non-recessionary bear markets. Well, why did you want to break them up that way? I think it's important and probably, it's probably more important than ever today to think about it like this because if you think about it, we really haven't had a real recession since the great financial crisis. The one in COVID, as far as I'm concerned, yeah, the unemployment rate spiked, but everyone is getting paid. Like, many unemployed people were earning more money because we had the premiums on the unemployment insurance and businesses were being paid even if they shut down and we threw so much money at it that it was over in the blink of an eye. You know, it's effectively, you know, technically, I think it was a two month recession, but it didn't really count. We haven't had an actual cycle, like an economic cycle, a credit cycle since, you know, the end of 2009. And if you think about 2022 was a bear market, but it was a completely run of the mill, non-recessionary bear market, right? The average return decline in the non-recessionary bear market is like 25, 26%. It lasts peak to trough for roughly 200 days and in 2022 was pretty darn close to that. But if you look at the recessionary ones, that's when there is more of a financial crisis situation and we're talking more like a 40% decline. And then now we're talking, you know, almost a year and a half, two years from peak to trough. And of course, coming back out of it is much harder too. And that's the kind of thing that we just haven't experienced. And these cycles, they get longer and longer. What is interesting to me is just how, what is the sentiment when that does happen? I mentioned before that the psychology of inflation was really hard because it caught so many people off guard. We have so many investors now who haven't really lived through a credit crisis. And these things obviously don't happen all the time, right? Like, it's more like every 20 to 30 year event. But I'm just curious what the reaction function is going to be when we have one of these. Because the sentiment is already really low. When the unemployment hasn't risen a lot. And people are still having their jobs and wages are still rising. What happens when we have an actual event like that, that is recessionary. And the stock market has a nasty tumble, not just like a V-shaped bear market that everyone just puts their money back into. How do you think, having studied history? How do you think about this idea that we're having less recession? It kind of gets to what you were just saying in terms of like we do get one. Is it going to be really bad or something? But we've gotten better, I guess, at managing the business cycle. So we have a lot less recessions than we used to. Or at least you can correct me if I'm wrong about that. But how do you think about that idea and sort of what it needs? No, and like the 1800s and early 1900s, there was a recession like every two to three years. And they were really, really nasty too. The DDP declines were like always double digits almost. And yeah, you're right. I think part of that is we used to be like an emerging market here. And now we're just a more matured, diversified, dynamic economy. And I think that's what we've seen for this whole cycle. If you think about all the different places in the last 10 or 15 years that have had, sort of people call it rolling recessions, right? There were like an energy recession in mid 2010s. Tech went through a recession essentially in like the 2021-2022 period. Housing has been in a recession because mortgage rates were so high. And the economy is able to absorb these things. And I think that's the interesting thing about how resilient that it's been. And yeah, I think if you look at the long-term averages, maybe you have to start rethinking how often these things do happen. And the question is, like does it make the crashes worse when they do? I don't know. But I do think that seeing how long we have in between recession, it keeps, gap keeps getting wider every time it happens, right? Yeah. And it's interesting. You just made the point that Lizanne Saunders made when she was on as well, which is this idea that you can say we have an ad recessions, but we have recessions that all kinds of different sectors of the economy. So she was kind of thinking this rolling recession thing in different parts of the economy, maybe the way we go going forward. So maybe, yeah, maybe we won't have official recessions as much, but that doesn't mean we're not having all this, you know, tumult behind the surface. And maybe the AI people would argue with me here, but it probably means we just have lower growth. Like if growth was 3% in the past and it's probably 2% now. And maybe AI helps changes that. You could also say maybe AI is coming around at the perfect time. And we really-- need it to just keep on the same trend line that we've been on, right? But I think that would be a pretty, you know, common sense thing to assume that, okay, we've taken the left tail away or more dynamic, we're bigger. It's just not going to grow as fast as they did in the past. The one thing I want to say is just going back to the recession, non-recession bear market, is I remember you and Michael talking about this. I don't think the idea is original to you guys, but the first time I heard it was listening, I think to animal spirits, and it's just, it's really always stuck since I've heard that. And that was a couple of years ago. I think you guys were discussing it because you probably wrote about this on your blog as well, which is what, you know, where maybe it would have originated from with you guys talking about it. But I just, I really do ask myself every time we're going, we're in like correction territory, I kind of, a little light bulb goes off and I'm like, and I don't know the answer. I just ask myself, is this, is this just a non-recessionary correction-ish thing or are we going to recession because if we are, I better buckle up, but you know, I don't know. So it's just, it has always, that was one thing that I remember hearing and I do think about it. I think it's important for investors to think about and I think about it a lot. Yeah, and the thing is it's hard to tell because a lot of time the recession comes later, right? Or you don't know it until after the fact, like when they, when they actually date it, which is funny though, the COVID one I read about in the book, like everyone knew that was happening immediately, right? But usually it's not like that. Sometimes there's a little bit of a lag when you actually know it. It's funny. I wrote about two in the book that in the great depression, the recession had started a month before the stock market crashed and no one knew it yet. No one knew that like the, the economy was already faltering because they didn't have data like we have today. And so I think that's the hard part is sometimes to get that confirmation of, oh my gosh, the economy really is slowing. It takes a little bit of time because those trends don't happen in real time. Yeah, to your point, I would bet the market is probably down 10% plus for the most part by the time they declare a recession. So like a lot of times these recessionary bear markets you find out that they were recessionary bear markets after the fact rather than before. Right. Yes, which makes it even harder. How do you think people should think about the difference, like the relationship between the stock market and the economy because that's something that you see investors get wrong a lot. They kind of expect them to just track each other over time. Like you wrote about it in the books that I'll put up this chart is table 10.2 the stock market and the economy. So how do you think that people should think about the relationship between those two things? Yeah, it is funny. Just if you look at like the actual GDP declines, it's the GDP growth versus the stock market. It's, it shows how different they are. And over the very long term, of course, we need that kind of growth to have the stock market go up. Like you can't have the economy go nowhere in the stock market do well. But they are kind of completely different things, right? The the economy is 70% made up of consumer spending, right? The the stock market is is mostly, you know, businesses that are making and doing things. And and so they are kind of different things. And I think it does annoy people when you see a divergence between the economy and the stock market. But even more so today than ever with how much the technology companies sort of control the stock market. It's it's harder than ever to look at the macro and say, all right, I'm going to I'm going to predict what's going to happen in the stock market because they're just they can and they also become detached to right where there's been plenty of with the non recessionary bear markets plenty of times with a stock market rolls over for reason other than an economy slowing. So the next chapter volatility is a feature not a bug. You kind of gave this example of Roger Federer, the tennis player and you sort of showed that, you know, he kind of had almost like a 50 50 in terms of like points and sets that he won loss. It was 52% you know, win sets versus 46% that he lost, but you know, he barely lost the like the entire you know, he was a good obviously one of the greatest tennis players of all time. And so he kind of with that little edge gave him the ability to, you know, win as much as he did. So how do you think that kind of applies to investing here? It was funny. So he gave the commonsense speech at Dartmouth a couple years ago. Yeah, he said he won more than like 1500 matches in his career. And he'd only won 54% of all points in his tennis matches, but he won 80% of the matches. And to me, that was like a perfect analogy for the stock market because it's up like 54% of all days over since 1950 the stock market is up 80% of all years. You're right. It's like the small edges that compound over time. And it's interesting because a lot of people compare the the stock market to a casino as it's like a derogatory term. But I always say that if the stock market is a casino, it's the best one in the world because the longer you stay in the casino, the higher your odds of walking away a winner, which is the complete opposite in an actual casino, right? The house has the odds. And so it's one of those weird things where you and the investor have better odds the longer you stay in it. Now of course, the game that you get is not guaranteed by any means. But just hearing that and him talking about it, but his whole thing was like, listen, when I lost a point though, because I lost a lot of points, right? 46% of all points I lost. I couldn't I couldn't just give up. And it was again, another good analogy for the stock market of when you do have those downturns and they're going to come, you have to do that's just part of the game. That's like the price of admission. Now I have to admit, this next chart, which shows the S&P calendar year returns is something that I have used in presentations, Ben. I've always given you credit, by the way, but it's something that I because I find it like, you know, seeing it visually is just so powerful. You know, people think like, you know, you get this 10% return of the market. But you know, this chart shows just how wide those annual dispersions actually are. Yeah. So I actually created this one and it was funny. I got an email from another investment author after I did this. How do you do that chart? Because it's kind of hard to do with this scatter plot thing. And yeah, it just shows the annual returns by year. And they're all over the there's no like rhyme or reason to it, right? There's sometimes where you have multiple down years in a row, sometimes you have multiple years in a row. Sometimes it's a yo-yo and it goes up and down and up and down. And I think that's the sort of ride you have to expect in the stock market that from any one year to the next, it's just going to be, you're not going to be able to predict what's going to happen one year to the next. You know, it's possible if things can continue to go well with the stock market that we could see a situation where we have like four out of five years with a stock market's up 20% or more, right? You're close to it, at least, in this environment, which seems kind of crazy to think after what happened in 2022 and after happened to happen in 2020. But those are the kind of runs that can happen. And I think you just have to like open up your imagination a little bit sometimes. So what can happen in this stock market? Because there are no the patterns are hard to find. I know that Ritholz has a nasty like chart sky now. And you guys are developing that into like a product. But I was always pretty like, you're right. Like those charts, I'm like, damn, I'm like, how is this meant like, you know, back in the days of Excel, those weren't like quick like, AI, you know, it definitely took some work. Yes, easier with a chat GPT age for young people. They didn't know this trouble. What about the chapter on compounding where you opened with the munger quote, which he said, the big money is not, is not in the buying or the selling, but in the waiting. Why do you think waiting is so much harder than it sounds? I do think that I think Howard Marx has talked about this too. Like the hardest thing to do is an investor is the hold, right? It's easy to buy because there's always reasons to buy. If you're a momentum investor, you're buying one stocks or up if you're a value investor, you're buying one stocks or down. If you're just a regular 401k investor, you're buying all the time, right? You're buying every time you get paid or whatever. So I think that part of the, I also think it's pretty easy to sell. It's all, it's your sell because you have a stock that's down, you have sell because you've a stock that's up and you're lucky to profit. There's always a good reason to buy and sell. I think holding is hard because there's a very fine line as an investor between discipline and being totally unflexible in delusion, right? You're being so delusional that you're filing a process that just doesn't work anymore. Or are you being disciplined and you're sticking with a process that's just out of favor? And I think that's one of the hardest questions to answer as an investor. And one of the reasons that I think having a simpler approach makes more sense for most investors because if you have a really complex strategy, it's much harder to lean into the pain. So I came up in the nonprofit world working institutions within dominance and foundations and such. And they'd have their quarterly board meetings. And the managers would be, they'd have their actively managed stocks and bonds and then hedge funds and private equity. They'd have these systems where it's like red light, green light yellow light, green light, it's okay. Performance is good. We're sticking with them. Yellow lights, well, performance is starting to teeter a little bit. We're going to put them on a watch list. And red was their, they stink. We're getting rid of them. But I always thought like if you really truly believed in the process here, it would be the opposite. You'd be giving the green light to the worst performing managers because you want to lean to the pain. But a lot of times it was way easier to hit the eject button with these strategies. And a lot of it was because it was more complex and harder to understand because they didn't necessarily know if that discretionary manager was going to come back and do better. They decided to just punt on them and said and pick a new one. And so I think that's the hard part of like the holding is like can you stick with something when it's not working because everyone has a time period when something doesn't work well. One of the last chapters is where you're talking about these lost decades. They don't come around very often. And to your point, a lot of investors that are new to the market in the past 10 or 15 years, you know, they don't know that from, well, they may know it, but they didn't experience that, you know, from 99, 2000 to end of '09, you know, if you would have just bought the S&P 500, you would have been basically, well, you have it in the chart, you would have been flat basically, which isn't consistent with, you know, the most 10-year periods. But what do you think is like the lesson there that you like to sort of point out to investors, you know, All I know is that when I retire, whenever that is, I better not hit a lost decade, better not be my watch. Well, I don't know if it's right or wrong, but that period from 2000 to 2009 is like ingrained in my memory 'cause that's when I first started in the investment business. And the S&P 500 went nowhere. There was two, it was bookended by two huge crashes. The S&P then told a return was down like 10%, it lost, you know, 1% per year or something. But if you had a more diversified portfolio and you owned other geographies or this trade, if you owned value stocks or small caps or mid caps or reeds or bonds or emerging markets, all these different asset classes, foreign stocks, actually did pretty good that decade despite the financial crisis. And that was really eye-opening to me in terms of the power of diversification. It doesn't obviously, it doesn't always work like that. But I think that's the diversification is seen often as a risk management strategy. And I believe it is spreading your bets right. You're kind of taking away the ability to hit a home run, or getting rid of the ability to strike out. But it's also this thing where you can cast a wider net so you open yourself up to the ability to have winners in places that you didn't consider. And I think that's what that taught me. And I think the last 10 years, a lot of people have decided to just give up on diversification altogether. And it's like, why wouldn't I just have all my money in the S&P 500 or the NADSEC 100 or just the Mag 7? And there have been many cycles here and there, but I think there's gonna come a time where it's gonna matter again. And that's what diversification is for. It's not like the bad days or the bad months, or even the bad years, it's the bad cycles essentially. - What are your thoughts on the starting valuation of the market during or around these periods? Like, I think a lot of investors that know market history think back to the late '90s, and they say, well, back then, market was trading at a PIPI of whatever it was or a SHILAR P of this. And like, look at those returns, you know, for the next 10 years. And, you know, that argument has largely been very wrong, you know, over the last 10 or 15 years, 'cause the market's been, you know, mostly above average valuation here. So just, how do you think about the starting valuation when you think about four returns? Or do you think about it? - I think it's harder than ever to use historical valuations. And I think that you could have said for the last 10 years, and I probably did that, like, you should tend for your expectations for four returns, 'cause valuations are much higher than in the past. And anyone who said that would have been wrong, 'cause returns have continued to be high. It's kind of crazy that annualized returns in the 2020s are higher than they were in the 2010s right now, which is kind of crazy to think about. And valuations were elevated for much of that decade too. Right? They didn't say low very long after the great financial crisis. And I think what's so hard is that the companies are just so much different. There's so much less capital intensive. They have higher margins, they're more efficient. And AI is obviously going to probably supercharge that trend if it does half of what people think it's going to do. And so I think from that perspective, it's really hard, Peter Bernstein wrote against the gods had a whole chapter on mean reversion. And he said, "The hardest part about mean reversion is when the mean is a moving target." And I think for valuations a lot of time it is. Now, it would be crazy to look at valuations today and say, "Now they're sucks or cheap, right?" But after such a longable market, it would be kind of crazy if stocks weren't a little expensive because they've been doing so well. But I think it's a lot harder to pound the table and say, "Oh my gosh, stocks are ridiculously overvalued just because of the way the companies are these days and the potential for technology." To, I have this chart that looks at average margins by decade. And every year since, every decade since the 70s, it's a stair step higher. And margins keep going higher and keep paying new old time highs as these tech companies need fewer employees and fewer fixed assets and are more intangible in all these things. So I have a hard time pounding the table one way or another when it comes to valuations. - Towards the end of the book, you talk about this idea that, there really is no perfect portfolio. And that sometimes the best portfolio for someone is really, while it may not be perfect, it may be the one that they can sort of best stick with over time. So do you wanna just flush that idea out? - Yeah, I do think perfect is often the enemy of good for a lot of investors and like the good strategy you can stick with is far superior to the perfect strategy that you can't stick with. And I think that sometimes investment professionals do tend to try to make things too over-optimized and try to make things too perfect for their clients and they worry about, you know, I think it's horseshoes and hand grenades. A lot of times close enough is good enough where, you know, if you're arguing over, should I have 2% more in this asset class versus this asset class, we're probably gonna be doing okay. And it's not gonna move the needle very much. And so I do think that there's something to be said for the ability to stick with whatever strategy you pick, come Heller Highwater. 'Cause again, I think it's harder than ever to do that these days. It's easier than ever to hit the eject button and change your portfolio. And I'm gonna add this, I'm gonna change this, and it's like at the fay where you just constantly are picking up something new. And so I think that the ability to stick with that, that's one of the, I think probably one of the most impressive things about Buffett over the years is that he just kinda stuck with his strategy no matter what was going on. And obviously Berkshire didn't always upperform every single year and it didn't always, his strategy was often out of favor and he just kinda stuck to his gun. I think that's the hardest thing for most investors. - Good stuff, Ben. We really appreciate it. I'm sure to try to bottle up what you think, the biggest lesson here that investors should take away from the book, what would you summarize that? - Yeah, I think for every investor, there's like a different angel and demon on their shoulder. And for some people, they are too conservative because they're constantly worried about risk. And we all know these people are alive. And other people are too aggressive and they just hope that risk will never rear it's ugly ahead. And I think the point I wanted to show here is that risk and reward are attached to the hip. And it's always a trade off. If you want higher returns, you're gonna have to accept the potential for higher losses and higher volatility. If you want less volatility and lower drawdowns, you're probably gonna have to accept lower returns. And I think that that sort of trade off is what I'm trying to, you know, help you understand. And then also understand that history is full of really bad things that has happened to the financial markets and the long term has still been pretty darn good even if you include all those things. - Good stuff. Thank you, Ben. I really appreciate it. - Thanks for having me, guys. - Thank you for tuning into this episode. If you found this discussion interesting and valuable, please subscribe on your favorite audio platform or on YouTube. You can also follow all the podcasts in the access returns network at accessreturnspod.com. If you have any feedback or questions, you can contact us at [email protected]. - No information on this podcast should be construed as investment advice. Securities discussed in the podcast may be holdings of the firms of the hosts or their clients.