An Investment Plan to Weather the Market Flux

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TRANSCRIPT OF PODCAST

The following is a transcript of the podcast episode with Mark Dutram of BayView Wealth Management.  

Host:

Hello, welcome back. I am your host, Charles Musgrove, and you’ve joined in again to the Answers That Count Podcast. Thank you for joining us. And before we get started, be sure to hit the subscribe button, go ahead and hit the like button because you’re going to love this show.   This show is a hot topic. And we’ve got Mark Dutram from the BayView Private Wealth group here. And man, we are going to talk about investments, how to preserve the wealth that you’ve made, how to maximize it, once you’ve earned it – you surely don’t want to see that investment devalued in time. So, we’ve got some great topics. We’re going to hit this this afternoon. So, thank you for joining us.   Mark, Tell us a little bit about Bayview and your background.

  Mark:

I love it. This is a great show. I’ve been doing this investing and financial planning for about 30 years. And I did it for other firms for a long time. So, two years ago, I launched BayView Private Wealth. In Destin. Again, we were very large firm again, we had over 400 clients, and we just decided, hey, we’re going to we’re going to serve as no more than 100 families. That way we can have deep relationships and again, do estate planning, financial planning, investments, everything for just a select group of families. And we couldn’t be happier. I mean, it was the best one of the best things I’ve ever done.

Host:

Yeah, that that is, you know, you mentioned when, when a financial managers, they tend to get big, and then they lose focus on working with the individual client. And it’s a very personal relationship, because people’s money and their investments there, it’s very personal with them, and they want to make sure they’re taken care of.   So, I applaud you for doing that and putting the emphasis on quality service to the client so that you got that for free. I wasn’t trying to do a sales pitch for BayView. But that that is so important, because being a CPA, I work with a lot of clients, and I don’t do financial management or financial investments, but I see how that works. And I’ve seen people that do that really well. And those that don’t do it so well. So that’s very good that you do that.

Mark:

Yeah, it’s a business model, you know, you could we call it a lifestyle practice. So, it is better for everyone. Again, the clients love it, because we can be fully engaged in them. Again, we love it, because again, we have more time to actually even focus on continuing education and making ourselves better at all the different disciplines that we need to do.

Host:

Exactly. And like any other profession, it takes study time, you have to stay up on the markets, you have to stay up on technology changes, and we’re going to hit on some technology that you use in your practice today. So that’ll be near the end of the show, but I think it’s well worth staying around for.

Mark:

I love that.

Host:

Well, good. Let’s, uh, let’s get started with some slides. We got some good slides and efficient markets hypothesis. So, what does that mean? I mean, that that’s not something that you created. That’s not a terminology that that you were created. But that’s been around for a while.

Mark:

I know not one that’s used in everyday language right there. You don’t pull that out at a party or something right and say, hey, let’s talk about efficient markets.   No, I guess at its simplest terms, it means that all of the data is already reflected in stock prices. So, you know, again, there’s probably I think, $600 billion changed hands every day –

Host:

Wow.

  Mark:

– in the stock market. So, all the buyers and sellers, it’s almost like, when you’re betting, you know, I have it puts equal people on both sides of the trade.   So, stocks, then, are already efficiently priced with all of the collective data. You know, you go into the market with a lot of research, I go into the market, a lot of research, I think that Apple is going to go up, you think that Apple is going to go down. And so, the market through the all that efficiency prices itself very effectively, very efficiently. And that’s got to basically what that means.

Host:

Yeah, interesting. So, you know, a lot of people that – they’re not working with an advisor like you, they may – they’re investors, and I won’t call them armchair quarterbacks, but they do their own investing. And they a lot of times end up chasing the market, or they chase last year’s winners. And I’ve seen some statistics on last year’s winners, that are that are winners in the current year is like 20 something, it’s a real low percentage.

Mark:

I mean, and so like I said, I’ve been doing this for 30 years, I fell prey to that for probably the first 20 years. I’m an optimist, you could probably know that from hanging around me for any period of time.   But yes, I would say that I could with a crystal ball and with again, the pros, so even like you said, money managers, mutual funds, ETFs, those guys their ability to add what’s called Alpha, beat their benchmarks, right, very low percentage. And so, as a matter of fact, if a higher one looking in the rearview mirror that’s done well in the past, his likelihood of exceeding that and doing it again, is even further decreased.

Host:

Wow.

  Mark:

So, there’s professional advisors out there that are doing the same thing. They’re buying people based on past performance, only to have you – so I didn’t get to benefit from that, right?   The performance that they experienced was in the past. Right? I bet by them now and then subsequently they underperform. And yeah, I mean, that’s not a good recipe for my money nor your money. Right?

Host:

Yeah. So, the better model is to have some index or some formula driven allocation of your money. And it’s – not to give away the juice is going to come at the end. But that’s really where we’re driving to, right?

Mark:

No, yeah, well, so we tell people – and again, I teach people that if you don’t know what you’re doing, the best thing you could do would be indexing, right? Because now you just buy the market, and you remove the things from the market that can still return. So wrong guessing, turnover, higher taxes, additional cost, right?   So those things would be eliminated in an index-type of performance. And then, like I said, what we do is we make the indexes smart. So we add some what we call factors to our, to our portfolio.

Host:

So don’t try to outguess the market. And that kind of goes with chasing what’s happened in the past, don’t try to guess if you’re if you’re not even some of the professionals, I guess they probably there’s some of those that even guests as well, are they chase last year’s winners?

Mark:

Yeah, like you said it historically, you will have maybe 20% of the what we call active managers, the guys that are trying to outwit the market with security selection and timing the market – their likelihood of winning, again, is very low. And so even the ones that do win, you would say, hey, let’s follow those guys around their likelihood of repeating it.   So I always say to if somebody comes to me with somebody that a manager that’s done well, I would say, Show me how that’s not luck

Host:

Right.

Mark:

Show me how they how they could repeat that process going forward. And most of the time again, they’re not going to be able to.

Host:

You know, we were talking about this before we started recording, but there’s a lot of focus right now on money, the government putting money into the into the economy. I mean, we’ve seen, just in 2021, there’s the $1.9 trillion, as they call a stimulus plan for the COVID-19 that went into the market in January or February. There’s discussion of this infrastructure plan that’s going to be – who knows what’s going to happen with that, but that’s a price tag of another $2 trillion dollars that they’re looking at, at going into the economy. And what happened in 2001, to try to offset what happened with COVID.   So all that money going into the economy, surely that’s has that’s having an effect on the dollar. The valuation of the dollar has to be decreasing with all that happening.

Mark:

Yeah, no question. You know, so we would actually be bullish for 2021. Because what’s happening is, we’re moving those returns forward. So a lot of that you’ve got, again, pent up demand, you’ve got historically low interest rates, you have, again, all of these stimulus dollars coming into the market.   Well, that is actually going to produce market returns. Right? Performance of companies, which again, have been quite solid. But you know, is it sustainable?   So I think, you know, a lot of where you end up has a lot to do with where you start out.

Host:

Right

Mark:

And so, you know, prices today, we know of stocks can be quite frothy in certain sectors, for sure. So I think returns are going to be a lot more humbling, moving 2022 and beyond, because of what you just talked about, eventually those things have to be paid for, tight?   So probably taxes are going up in the future, probably a regulatory environment is going to be a little bit more strict, high multiples that you’re paying for securities, all of those things are going to produce, again, headwinds for market returns.

Host:

That’s some of the timing that I’ve seen also is that ’21 looks to be strong. But then those things all that spending kind of catches up at Q4 of ’21, and then ’22.

Mark:

Think about even our own personal budget, if we were to do that just go on a binge of just spending. Eventually, yeah, you’re going to have to tighten the belt up. And, again, slow down growth, slow down spending slowdown – you know, the US economy, 70% of GDP is consumer spending. Right, right. And if you start removing all those stimulus checks and things that are going out there.

Host:

Oh, yeah.

Mark:

But yeah, so we say focus on the things that you can control, which would be reducing costs would be reducing taxes, reducing wrong guessing, reducing turnover, and then capitalism works.

Host:

Right.

Mark:

Let it work. We’re a free market, conservatives. And that’s why again, we’re not too much on government intervention, but they’re definitely participating right now. That’s for sure.

Host:

Yeah, that we’ve had an economist on several times. And when we see that when the government intervenes and in the economy in the in the free markets, it really has a negative impact.   And we go back to we’ve used the cash for clunkers as an example of that in the unintended consequences that that happened in the market. So –

Mark:

You know, it’s funny because we’re actually looking, we’re modeling, we use scenario analysis, but, you know, during the Obama administration, again, trillions of dollars were infused in the market at the time, and no effect, right? GDP growth was still stagnant, still low. We had, again, a good decade of underperformance.

Host:

Right.

Mark:

And so it didn’t work, right? It didn’t work in stimulating the economy.

Host:

Right. So focus on what you can control. So we talked about the – controlling your taxes, you’d mentioned some other things there. So what else can the investor do? And I’m sure that you’re going to say that the sooner you incorporate a plan, and you start investing, the better you are, because time is a is a big component of the plan that’s put in place.

Mark:

Yeah, I mean, people don’t plan to fail, they fail to plan, as we always say.   So obviously, we I always say, you know, work with an advisor, especially if you don’t like doing this kind of stuff. And be holistic, so they’re looking at the tax consequences of your investing.   We see that, you know, people kind of mismanaging, having the right assets in the right accounts, or having the right accounts.   And then again, removing all of the stuff that’s going to steal returns. We know taxes, steal, on average, 1% to 2% of people’s returns over time, that’s a lot of a lot of money when you start amplifying that times year after year after year.

Host:

Yeah. And actually, I was listening to somebody today and the which, you know, this – is what’s the biggest cost in your household? It’s taxes.

Mark:

Yeah. And about to go up.

Host:

Exactly. So that’s a – I don’t know, I’m not, we’re not hoping that happens. It’s just in that inevitable that’s going to happen. There’s already been discussion from the executive branch that we have now. So that is going to happen.   You know, they gave they gave us money. And now they’re going to take it back. So what someone giveth they can taketh away.

Mark:

That’s true. So again, businesses, you and I, the consumer, we’re what creates an economy, right? And again, the more freedom we have to do that to kind of expand, the better off we’ll be right. And yeah, not, you know, run, and intervention and the whole crowding out effect.   Host:

Yeah, yeah. We don’t need the government picking winners and losers, let us let the market do that.

Mark:

Exactly.

Host:

So we have I know that forget in the next slide, we talked about don’t chase the winners from the from the past, because those are going to be different in in what we’re what we’re looking at now.   So let’s go, John, let’s go to the slide with the dimensions of expected returns.

Mark:

Yep. So this is really important, as we talked about making the index smart, right? So basically, what we do is we say, you know, the benefit of indexing is very low cost, right? And then again, participating in a market capitalism is quite well, depending on the timeframe, you look at the stock market, S&P 500, by the way, would produce about eight to 10% a year, right.   But also, the negatives of that is you end up buying bad companies just because they’re part of the index, right?

Host: That’s right.

Mark:

And then you also get what’s called the full market Beta, you know, last year when the S&P was down 34%, or whatever, you were down 34%.   So what we do is we take that index, and then we say, how about we make it smart? How about we start taking out all the companies that are overvalued, that, as we said, that you paid too much for right. So that’s one of the factors that we use in our in our models, how about we start stripping out the companies that are less profitable, right? So let’s choose the ones that have higher margins, higher quality of earnings.

Host:

Better cash flow.

Mark:

Better cash flows? Yes. Better balance sheets, lower leverage, right? And then so if we start shipping those out.   And then size, it would make sense, to me anyway, intuitively, that a smaller company should outperform a larger company over time, right? Because you’re taking more risks in that. And so yeah, this, this slide is actually showing that that actually comes to pass over time, where there’s risk there’s opportunity. And so as you take more risk, you’re going to be compensated for that, and that’s capitalism. That’s how it works.   And so what this slide is showing you that over every five year period, and by the way, this is 100 years worth of data.   Well, actually, this one, I think, is showing what’s called bootstrapping has 20,000 random monthly returns of bootstrapping. And it’s saying that over a five year period, yeah, 65% of the time, right, that if you have a size tilt to your portfolio, it’s going to outperform the broad benchmark.

Host:

Interesting.

Mark:

Yeah. Which is actually pretty good. So not, you know, 100% of the time, but if I said hey, two thirds of the time we’re going to win

Host:

It’s better than a 50/50 toss-up.

Mark:

You got it right there. Right.

Host:

So that so the smoke so what that is telling us is the smaller companies have more upside.

Mark:

Would you rather have on Apple when it was small or when it was large?

Host:

Small.

Mark:

Exactly. Microsoft when it was small. So what’s happening there, is you’re buying them unable to participate in that type of rapid growth. As they get bigger, yeah, I mean, their growth is going to obviously going to become smaller.

Host:

So that’s, that’s almost common sense also that once a company, and you can look at it in your own investments, too, once it reaches a certain size, you kind of squeezed out all of the profit on that.

Mark:

Well, and so what do they do to attract you to buy their stock, as a matter of fact? They say, Hey, you know, my growth is not going to be as strong, let me pay you a dividend, right?   Right, I’m going to start by giving you a rate of return in the form of an income cash flow.

Host:

So in that, so in that example, you’re trading the growth with cash flow,

Mark:

You got it. So the company has a choice on what it does with his money. Either it can fully invest in itself to grow, or it can pay you as an investor, right? And we would want it to grow, especially if it’s a good business model.   This one is a value tilt, and probably some of the most famous, again, a Eugene Fama, Kenneth French, a Warren Buffett, Warren Buffett is probably one of the most famous value investors out there.

Host:

Right.   Mark:

He says that whatever you invest in, price matters. And I would say that not only applies to stocks, but that applies to anything. Look at real estate. Look at gold. Look at Bitcoin. Look at anything, when you when you buy it, if you pay too much for it, you’re more likely to get hurt.   So what we do by making the index smart is we say, What if we carve out these securities that are intrinsically overvalued, from where they historically trade. And what this is showing, again, is we’re getting that same two thirds of percent of the time that if you incorporate just this one factor, just this one tilt, they’re going to beat again, broad markets, broad benchmarks, and again, we show people this.

Host:

Yeah, yeah. So the so the value tilt also is that, let’s focus on those that are not overpriced. Let’s go to the tried and true buy low, sell high.

Mark:

Yes, sir. Well, and a lot of people, if you had two funds, and people confuse this, but you could buy a growth fund or a value fund, right? Remember the growth fund? He doesn’t care about price, right? He’s buying a sector of a moment, well, momentum, some type of trade that’s actually happening, he doesn’t care.   The value guys says yes, price matters to me, and so I’m not going to overpay for security. That’s what we tell our clients, we don’t want to overpay for securities in the portfolio.

Host:

So what we’re doing right now we’re going through the different components of building this index.

Mark:

You got it? Okay. Well, are making the index smart.

Host:

Okay. Yeah. And you think we’re going to use technology to do this? Yeah, it’s got so much data in it that it would I can see a bunch of accountants in their green eyeshade, it would take them forever to create this.

Mark:

Well, so algorithms right? And, matter of fact, you could think that over the past year, sectors that became inexpensive – hospitality, retrial, those kind of things. They were oversold, right? Global real estate, municipal bonds. Yes, there was a lot of things that actually got oversold.   So price matters. And I yeah, I would contest, yes, in a huge way that matters over time.   The next one would be profitability. We kind of talked about a little bit, but – and again, if you looked at two companies that made 10% last year. How would you know, then what’s the best one to pick? Well, then you start going to, like you said, the income statement and the balance sheet, right? Which one looks more attractive from a margin standpoint, from a quality of earnings? Are they doing any off balance sheet, you know, that kind of thing?

Host:

Balance sheet risk.

Mark

And so profitability, actually, there’s a shorter period that it covers because remember, people’s books were not as open as today

Host:

True.

Mark:

So you don’t have 100 years worth of data, but you’ve got a pretty long period of data that says, if you paid attention to profitability, is going to reward you, again, almost 90% of the time over a five year period.

Host:

So is that the last factor that we’re going to look at?

Mark:

Well, we’re keeping that like a 50,000 foot view. But we do different things in fixed income. But this isn’t integrated. So this is saying, if you take all three of those trades, right, and you incorporate them by making the index smart, this to say, 90% of the time over five years, you’re going to actually beat broad benchmarks. That’s powerful.

Host:

That is so powerful.

Mark:

So I mean, we can’t give people 100% of the time guarantee. But I mean – and matter of fact, we have gone through periods recently, where this did not prevail. Right? And then people would guess, wow, Hey, is this still going to – but now, I mean, it’s outperforming in a huge fashion. And, of course, we don’t have enough time on the show to kind of dig into all of that. But it’s a, it made me double down.

Host:

But here’s the important part of that. And we talked about this, before the show started is the time horizon that, you know, people that are near retirement, they don’t want to go all in and be on the end – hit the bottom of a market drop, and they don’t have enough time to recoup let’s say it’s a 20 year -I mean, we’re looking at five years, not 20.

Mark:

That’s right. Well, that’s a great point. Because if you’re buying into the market today, and you have a very short time horizon, and you paid very high prices for the securities, again, through what’s called regression analysis. You can tell what your estimated returns are going forward. That’s why we said we’re much more conservative on, or humble on, the returns going forward.   Because if you pay a high price now, the probability of you having historically high returns going forward are not good, right?

Host: That’s right.

Mark:

Yeah, that would make sense.   So yeah, an integrated approach, just in the equity side, we do something different in the fixed income side with kind of factor based as well. But yes, we’re increasing the likelihood of success, which is the only thing that people care about is, hey, give me a higher probability of succeeding in investing.

Host:

Absolutely. And that’s compared to the broad base indexes.

Mark:

That’s right. Well, the indexes that these guys are up against, right. So yeah, if you’re just equities as a whole. You know, as a growth guy beating a value guy, as a large guy beating a small guy is less profitable. Yes, sir.

Host:

Yeah, that’s very interesting. So when you’re planning with a with an individual, you go through this? Where does this risk tolerance come into that?

Mark:

Absolutely. So you know, we have probably 10 to 12 different models. You know, some goal base, some age base, some risk tolerance base, you know, people have to be able to understand what they own, right? Otherwise, you can’t own it, right? If you’re not.   And then like said, we hope you actually get the philosophy because then even during those periods, those 10% of the times where it’s not working, you still have the conviction, because you go, Hey, wait a minute, I know this works over the long term. So even if I have a period of underperformance – what this chart is showing, yeah, trailing 12 months, right, you see that small cap value.   So Charles, that’s what I’m saying that small box there that you see on the bottom left, should be the best performing box over time. Because number one, it has, well, it has all of the factors kind of built into that one, just it doesn’t have the profitability till but it has the size and the value tilt. And so it’s 114%.

Host:

Wow.

Mark:

Versus, you know, large cap growth, which again, is done –

Host:

And that’s one year.

Mark:

That’s right. These are still great numbers. It’s so crazy to me, when I look at that during a COVID, you know, COVID was a part of that.

Host:

So here’s the – if you had the crystal ball, and maybe you did this, that when the market, during COVID in March, when the market tanked.

Mark:

Yes.

Host:

If you were setting on cash when that happened, and you just went all in.

Mark:

We did it all in, we did it. So actually, like I said, I even over-weighted to that small cap category, because it was already underperforming, going into COVID, right?   We were already seeing a historical discrepancy between that large cap growth, small cap value space. So, yeah, and like I said, from the bottom, again, it’s up 114%, which is quite, quite stunning.   What’s important, though, is you might look at that then and say, That’s got to be expensive now.

Host:

Right.

Mark:

Right? So you say, hey, it’s up 114%, is this –

Host:

Yeah, that’s that fear now, are we at the top of the market?

Mark:

Okay, so I think the next slide will show  -his is interesting, right? So this is Forward PE. Everybody, remember, when you’re buying a stock, you’re buying $1 of future earnings, and you’re paying a price for every dollar of future earnings.   So what this is saying is if you look at bottom right hand corner, small cap growth, that’s saying you’re paying 87 times $1 of future earnings, which would be historically very expensive, right?   Matter of fact, the market as a whole, the S&P 500 on average trades at around 16 or 17 times earnings, is what you’re paying is a fair value for that. So large cap growth, you’re paying still 30 times $1 of future earnings.   But look at small cap value, even after being up 114% trailing 12 months, it’s still, you’re still paying 19 times $1 of future earnings. And yeah, I mean, it’s they’re still attractively and that whole –

Host:

I mean, it’s still attractive compared to the growth.

Mark:

You got it. You got it. Yeah. So again, if we’re still looking at things today, where we said, Hey, price matters, what should I be owning? Yeah, our portfolios, we feel like we still have very attractive price security.

Host:

But the way that would work in real life is if you have an investor now that they’re going into the market, you’re going to focus on the 19 point 33 bought, is that right?

Mark:

Yes, well, yeah, because remember, that’s, that’s incorporating our factors in.

Host:

Right.

Mark:

Yeah. So but we always do that. Okay. Right. I mean, that’s always important.   What’s happening today is you see a lot of people crowding into that top right box is small or large cap growth, because technology is sexy.

Host:

Right, right.

Mark:

Apple is sexy and video. I mean, all these companies that have been, you know, the NASDAQ, huge, huge returns, right. But there’s a, you know, a rosy – what do we say a high price for rosy consensus.

Host:

Right, right.

Mark:

Yes. And so you and so consequently, you’re today, yeah you see tech, pricing itself, a lot, again, a lot lower than what some of the other sectors are. And I think because you’re seeing, as we talked about, interest rates rise, it starts to pull some of the multiples that you actually see in the market. If I were to show you that, again, probably a month ago, it was even higher. Large cap growth was even frothier at 30/34/35 times $1 future earnings.

Host:

Interesting. You get you’re gaining a fan of this index process that you go through.

Mark:

It works.

Host:

What’s the next slide we have, John?   So this is a result of putting all that together. Is that right? I know that’s hard for the viewer to see that.

Mark:

Yeah. Well, this one is kind of just showing. So, Charles, if you came to me and said, like you said, you’re a couple, I’m very close to retirement. I want to draw, you know, $5000, a month, $10,000 a month, whatever it is, from my portfolio? What, you know, could I sustain that? What’s my likelihood of sustaining that through our retirement?   So we use, again, very sophisticated software that we could do, run various scenarios on either macro environments that are happening or, you know, government intervention versus just market performance, right? And we say, you know, based on that distribution rate, how do we need to build this portfolio to give you the greatest probability of success?   So the same thing in building the portfolios is, you know, the distribution strategies that we do?

Host:

Interesting. Man, I’m seeing a lot of value in this plan. So I think we have one more slide. And now this is really hard to see. And I would say, the gold line that goes like this, that’s your money on a properly planned allocation and investment strategy.

Mark:

Actually, what that one is showing – I forgot we had to say it – it showing the S&P 500 is that bottom blue line, versus the value component, adding the factors to it.

Host: So I was right, that is what it’s showing.

Mark:

That is exactly what it’s showing. But the whole purpose of that is actually, we’re looking at, you know, correlations, and, again, max drawdown – risk scenarios. It’s the same thing, if we looked at two funds that made 10%, the next thing we go underneath is what we call standard deviation and alpha, beta, trenor all these different kind of risk metrics to make sure that these things are actually benefiting – the sum is greater than the parts. Synergy.

Host:

Man, this is some very good stuff. And I know this has been so beneficial to the viewer. So thank you for joining us, Mark.   We’re going to wrap it up there. Martin Dutram from BayView Private Wealth. Man, this has been a great show. I look forward to seeing you on a future show. I know we got two more scheduled and they’re going to be equally as impactful. So, audience please tune in for future shows. Mark Dutram with BayView Private Wealth. What a great show. You’ve been watching Answers That Count.

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