Event-Based Investing

Hello and welcome once again it is Mr. Stillman's opus joy this week by very special guest that is Mr. Dan Cabrillo in Cincinnati Ohio right out of Cincinnati, what, where are you one of those cities were, no matter where you live, you Cincinnati is your mailing address. You know if I told you where exactly we were, nobody would know so were lucky people never Cincinnati is Cincinnati works turn off and founder of Matson and Prill you been a financial advisor for your stand on your 21. Mr. about that.

So always interested to hear the perspective of folks like you and I know one thing that you're big on Dan is how the news affects the markets and yeah you always see people investing based on what's happening in the news and I know you feel that's a bad idea will. It is a bad idea because you know you think back to. Let's go back to high school math you know we were your kids. I remember always asking the teacher I'm sure you probably did to them. I am really going to need this in life and they would always all you need because you still wonder that but I doubt there was a is no formula that it's it's it's referred to as the transitive properties of inequalities and then basically what it said is a is greater than B and B is greater than C then by default a is greater than say so if I'm taller than you and you're taller than Walter them. By default on taller than Walter. Well, you can apply that to investments. I mean, I think we can all agree that the news of the day is unpredictable and we don't know what's can happen until actually happens and we also now I think we all can agree to this, that investor markets react to news so if the news of the days. Unpredictable markets react to news, then by default aren't markets unpredictable make something so right okay and yet so much of investment strategy is built on an assumption about what the future is going to be so you hear these experts on all the shows and no talk about what stocks they think are hot and why they think you're hot and what most people are unaware of is that 80% of all efforts to outperform market averages fail year-end and year out.

You actually have a better chance picking stocks and beating market averages by throwing darts at say the Wall Street Journal what people have done this with Moco that all you know there's many studies as you go, you can go to that they've had monkeys pick stocks they had chickens pick stocks know the just packed the paper. So yeah, I know you can do this in and it's been done and again and again is either random selected portfolio beats a lot of the experts are so why is that wolf part of is what we just mentioned the issue of not having information before anyone else has an organic you had that if you could get say next week's newspaper today or you could get information before anyone else has. Assuming you were breaking the law in doing and there's a lot of laws you could defeat market averages arming certainly every year there is one stock that outperforms all others. And if you knew in advance what that would be great, but I always I always get a chuckle when I when I listen to people who think they can be market averages in and after giving them that little no formula about news being unpredictable. My next questions. It is all right will only at this time.

How many stocks DO then they will saddle 15 2025. In a civil why don't you just own one. I get this weird book is will one of them is going outperform all the others right and have to admit you have but I don't know which one.

That is exactly and yet you think you can just limited to just 20 or 25 when there's over 15,000 out there that are traded so that's that's the issue that at play here now. The other reason that efforts to be market averages will fail is because there's a lot of cost involved in trying to be market averages because most professionals just don't buy and hold 25 or 30 stocks now that they're trading all the time and trading costs money. Forget the commissions there's something known in in the in the investment world as the bid ask spread and the way it works is kind of like buying a new car, you know, if you were to go buy a new car the morning and you decided after driving home, you hated it, and you returned will you know that you're not going to get all your money back you get most of it back but that car has technically depreciated will rule you lose $3000.

As soon as you drive a private off the lot. Yeah, you know, nowadays, you'll you'll see these these ads now with all saying you know you can keep it for a day, that's fine, but the general rules yeah you take it often. You want to bring it back. You know the dealer's markup you he very spent at our next week's newspaper ads, so you not to get that back. Now imagine if you did this every day. Every morning when I buy new car and every evening a bright back will eventually you would run out of money right at me because you're not getting it all back that's that's unlike most types of retail where if you return it in in in new condition. You get all your money back so it works the same way with investing the money that you have to spend to buy any security is more than what you would receive if you simultaneously sold. So if corporation XYZ is trading for $100 a share is $100.

I want to buy it now to sell it. I might only get $99 and there might be some additional transaction charges, but let's assume there's no other transaction church. There's just that the reason that that markup exists is because when worth looking to buy or sell stocks we don't run an ad in Craigslist that we have to go to the exchange and on the exchange are companies that specialize in certain stocks that are called marketmakers and they will buy that stock and they will market up if you want to buy that particular company. That's where you go probably for the best deal, but they mark things up just like any retailer is going to just the way Walmart operationally buy goods from Procter & Gamble.

They mark them up and they sell them to you. Okay we get, but the average portfolio, particularly to the mutual fund industry that are actively managed has a turnover rate of 80% a year which means that they are buying and selling 80% or portfolio throughout the entire year and that will cost you money. How much depending on the stock but dicing studies anywhere from 2 to 5% a year is lost on just these transactional charges that many mutual funds incur. Not all. Many do is because they're all trying to be market averages. We have to accept is that yes market is that that the news is unpredictable and we also have to accept the realities of life. And I think that if you're going to be realistic about the future, then by default. You must be optimistic about the future and I say that because if I could go back in time, let's say I could go back to 1900 and let's say I met my great-grandparents at that point time and my grandparents came over from Ireland right around the so imagine if I told him okay for the next forget forget the next hundred and 17 years for the next 50 years. From 1900 to 1950. I give them all the bad news of the day and just go back. There's a lot of bad news.

Between 1519 50 ahead of depression and the couple world wars all in and not only that the World War II I mean everything that that involved was horrific and then and then when World War II ends were to replace the bad guys the Nazis with a new set of bad guys called comments and that's going to go on all unsold. You know well after that the century ends so that's were laying out here for the there is no way they would think for once that they probably would doubt that there would be life on earth because when I get into that whole nuclear war discussions could blow their mind is the just how could pay a negative electric supply of kids or anything along those lines I there's actually no way that they could conceive the quality of life that their great-grandchildren live today could conceive a little peck the can could see that.

So throughout all the bad news all the things that have occurred. The it's like it's like water in the cracks. Good news somehow found a way to seep its way through. That's largely because we've been fortunate to live in a capitalist economy since then. You know that the days of feudalism are over the days where you got wealth by rating another nation. Those are over. We now know, for the most part we react in a cooperative matter of trade and as a result of that, would you consider poor here in the United States is actually wealthy if you go to countries like say India in some neo-Third World nations are not trying to belittle that the difficulty support nor the ironies is that the United States, a capitalist society. One of the major health issues surrounding poor people here is obesity and out of ECI irony in that, but I certainly do.

That's how far we've come. So if you go to look for it in the future. I don't see any way you cannot feel optimistic that doesn't mean when I can have a problems and what is going to drive that success is going to corporations where as investors if were buying and holding and rebalancing. A diversified portfolio.

We so more improve her chances for success if we do it that way.

Therefore, constantly manipulating the portfolio trying to get it right at the right time.

I need to be in the stock only on its updates. I only need to want to be in this market only on its updates.

Sure, that would be great. Just not possible to do unless you can get tomorrow's newspaper for the news of today actually occurs is just common sense. And yet we still see people you know trying to manipulate markets it it's not it's not investing speculation at camp. Now you don't take my word for it. There are people far smarter than me, that have won Nobel prizes, making this the sarcasm is most recently as is 2013 when Jean Fama won the Nobel prize for work he did in the 60s where he basically made the point that a stock is only worth what somebody's going to pay for the common sense what he would say is look if if IBM is trading at 50 bucks a share. That means the entire planet is in agreement that it's worth $50 a share. It just like your house if you list your house for say $300,000, but the most anyone's going give you is to 75 what your house really works.

I do take her to 75. You may file a pay 300,000 you may have paid 300 of them put $100,000 of improvements in Intuit is until someone shows up with the cash it's worth to 75 because that's the only offer you got all that's true for real estate. Why is that true for stocks. What is true for stocks, so don't tell me that a stock is undervalued or overvalued is no such thing. It's worth what somebody's willing to pay for only the new and and noble information is gonna come to move that stock price that you can speculate if you want, and if were talking about speculation. Find your opinions as good as mine, but I thought the whole idea here was to invest intelligently and invest intelligently shouldn't rely upon a crystal ball. It should rely speculation and nowadays I'm hearing speculation be replaced by the term algorithms always got this algorithm that it's the same thing. Folks, it's a prediction about the future and every time one of these soothsayers are wrong in the unit. The graveyard is full of these groups is ill usually come back and say well I might not up.

I might've been wrong about when this was going to occur, but not doubt that it's going to occur when it's nice out you know I was.

I might've been wrong about when the market was going to hit 40,000 or when it's gonna fall to 6000 but I know but it's good netflix and yeah I was when I went to the roulette table and I put my money on 12 didn't come up.

12 and I might just get the timing.

It's going to come up 12 courses to come up.

Well, eventually it's going it's going to come up so you get you get that a lot. You also will get them say well I didn't know this was can happen. I could forcing that happening, of course, that's the point. You don't know so you know, take learn something from index investing and asset class investing which is getting away from spec patient and more importantly lowering operating expenses and if you do that and you have the discipline to stay with it. Statistically speaking, your chances for success are far greater than any type speculative strategy will so what are we supposed to do.

Do we just run out and buy an S&P index fund and call of the day. It's not that simple though.

It's not that the problem is that when I say index fund. That's exactly what people think they just think there's one index and in reality there's many indices. There are large companies or small companies or value companies. There is companies here in the US these companies abroad as companies in developed nations and in emerging markets and there's fixed-income response when not you know when when someone's investing. I don't have any assumption that all the money is going to be in in stocks.

In some cases that's true, but in other cases now so what I'm saying is that if you're going to invest for the long term. You can have somebody yes and and and in the and S&P 500 fund but just to have some money in the small-cap fund you have some money in a value fund. All indices you can have some money and a large international fund, you can have some money in a small international company fund. So by doing that you might be in 40, 44 different countries, you may have. 12.

13,000 holdings.

Now the other thing is to understand how these different asset classes perform over time. In relationship to each other. The S&P could be up in the large international can be down.

Let's call diversification and the key here is to blend your assets in such a way so that statistically you get the highest possible return with the lowest amount of volatility now and I cannot mislead you if the S&P crashes. Probably those other asset classes can go down to, but not necessarily getting a dam by the same percentage do you think last year, for example, when talk about what a great year was for larger. A stock market was even better year for the small stock market phenomenally better, but they don't talk about small stock market in the newspaper. The they talk about the big stock market. So if Europe say 12% last year.

That's great, but probably should look 20% because of you and only entire US market had been closer to 20. That's the advantage they are not selectively picking stocks because when you're just buying the S&P 500 well is still kind of stockpicking is what you do, you said well I'm just goodbye. These 500 and amino ignore the other 2500 that are being traded in and here's a little insight for you. Small companies tend to outperform large companies over time due to a more volatile manner for all the obvious reasons, but unit wasn't all that well.

It was certainly in my lifetime that Microsoft is little company coming out of the garage and that's the whole idea you buy companies and hold so no, they did key here is when even by equities. You want to buy many different asset classes but you want to blend that with the level of fixed-income so that your overall volatility is equal to what you needed to be enough. You're in your 20s and your you're perfectly okay, being 100% equities is on okay being hundred percent equities fund you write it right right it out but don't limit yourself to 500 stony cell to just large US stock market bring in value bring in small and do it, both US and abroad. 60% of the world's investments are outside of the United States. You cannot ignore the biggest point that I'd like folks to focus on is what you said about the different indexes and everybody thinks of the S&P as being an index fund and this isn't B12.

What you must stock ticker here my phone the top three things I have are SP Y will that's your S&P index fund that I have MS CI, which is your international indexing and ADD which is US aggregate Bond Index. Always fascinating to watch those three and how they move in relation to each other somehow unrelated but usually not add to add another one. CRSP nine intent because that's gonna capture the smallest 20% of all companies traded and that's really where like if you were in that last year you had a phenomenal year.

So yeah, that's the point. All these gonna move differently at different times. That's why we want to be diversified. So I I I want you known many things I own you. I want you know a whole lot more things in which probably only the other thing to keep this in mind is that for some of you who might think well I really got separate mutual funds on 51 of the interesting things that I always notice is that when when I meet with somebody and I look at their portfolio.

Many times those seven or eight funds are actually buying the same companies so they're not really diversify what you really are is redundant so fund selection is extremely important. I don't want my small-cap funds on a single company that my large stock fund owns and I don't want my will. US large stock phones on a single international company all by a fund for that. What happens though, particularly what we call actively managed funds is style drift is that fund managers in their in their desire to capture returns quickly will abandon their their core discipline and will go by other things and that may or may not work at speculation but if I'm trying to build a portfolio. I can't have that I need for my large stock fund to stay true to large stocks in my small stock funds that shoot small stock you know if he wants to go over by some international I really own those companies to my international fund.

So, picking the funds extremely important. You need to have that discipline in place in order to make sure that you're going to get the consistency of return that you're looking for. Otherwise, you don't really know what you own and that's not a good way to plan for your future. Very well said, I have a friend who tells his clients. I have no idea what's going to be up next year, but I do know were going to own it and your board to whatever it is we're going to organ agreement on if you have the.

The disappoint 22 go through that process and an understanding returns are not can accompany linear fashion, then you have a much greater chance of being successful as investor if you lack that discipline and there's little things I can see and people were initially lacking. One of them as they like to look at the returns everyday. Not a good thing to do was I was wonder to do forms dig up seeds every day to see if they're sprouting now they they trust the process and the same thing with investing, but if you have that discipline and you understand that you understand that wherever there is positive movement. I'll get it and where there is negative movement. I might have that too, but it will be offset. I do have all my eggs. There then I think of you will. I know you have a much greater chance for being a successful investor long-term Danker Prill financial advisor in Cincinnati, Ohio, founder of Madison and Prill.

You will be invited back, sir. Always thank you same your John all the best to you and all your listeners very interesting and I will talk with you again right here same time same place on Mr. Stillman's opus.

Have a great