Nobel_Prize_In_Economics
00:00:00.000 | Hello everybody, it's Sam from Financial Samurai and in this episode I want to talk about a Nobel Prize in economics
00:00:05.840 | Gunning for that one and also how to have a risk-appropriate asset allocation when investing
00:00:12.200 | so recently I wrote a post called how to enjoy your life after the Fed ruins the world and
00:00:18.540 | The thesis was well rich central bankers are rich Jerome Powell Fed share is worth over a hundred million dollars
00:00:26.040 | They were able to sell stocks at the top of the market in 2022
00:00:30.180 | And so no matter how much they tighten they will be okay because they got out they were cleared of any
00:00:36.400 | supposedly wrongdoing insider trading and front-running
00:00:40.160 | however recently you saw Atlanta Fed
00:00:44.200 | Rafael Bostic break rules break Fed trading rules
00:00:49.480 | He said that he was unaware that he wasn't allowed to trade this and that whatever the case may be
00:00:55.520 | There's just a different set of rules
00:00:57.200 | It seems for Fed governors and information they know about and the rest of us
00:01:01.360 | so the point of the post was to just
00:01:03.760 | Encourage people to accept reality that there are two sets of rules for different types of people and to accept the reality
00:01:11.060 | We are in a bear market and to try to enjoy life more. That was really it
00:01:16.000 | How do we enjoy life more when the global economy is heading into a recession into a deeper recession?
00:01:23.200 | This was a classic case of trying to make lemonade out of lemons and I've always thought this way
00:01:28.520 | For example when I sprained my ankle my immediate thought is hmm. Thank God. I didn't break my ankle
00:01:35.360 | What are the things that I can do now that I'm immobile for one or two weeks, right?
00:01:40.800 | Maybe I can write maybe I can soak in the hot tub. Maybe I can record more podcast. That's a pretty good idea
00:01:46.920 | Hmm bear market time. What are the things we can do more of now that making money is harder
00:01:53.880 | The return on effort is harder. Well, I talked about maybe you don't want to be
00:01:59.360 | 99% in your job anymore because you're probably not gonna get that raise and promotion that you want instead of being a 99%
00:02:05.600 | Maybe just be a 40 to 60 percent or like right in the middle
00:02:09.520 | Because the folks at the bottom 10% are likely going to get cut
00:02:13.880 | So if you can just hover in the middle, it's a better alignment of reward and effort
00:02:19.640 | You know if you're a 40 to 60 percenter, that's the average person you're in the middle of the bell curve
00:02:25.520 | But then a lot of commenters got really hot and bothered by that
00:02:29.640 | Suggestion of just doing the middle because I assume most of you listeners and readers are top performers
00:02:36.060 | You care about your finances you're listening and reading financial samurai. You're trying to optimize your time and your money wisely
00:02:43.760 | But there comes a point where you know, no matter how much you try you're not gonna get that reward that you expect
00:02:50.440 | Therefore you have to align your efforts more appropriately. Otherwise, you're gonna get bitter
00:02:55.640 | Annoyed pissed off. So because the post how to enjoy your life after the Fed ruins
00:03:01.160 | The world was picked up by flipboard this reading app over
00:03:05.040 | 10,000 new readers who are unfamiliar with financial samurai or my background or my work ethic
00:03:11.880 | Ran my post and a lot of them commented and there were a lot of very angry and emotionally charged
00:03:19.440 | Comments and a lot of people talked about politics. Whereas the post is not political at all. The Fed is not political
00:03:26.120 | This is money. This is life, but based on the feedback because comments are a reflection of how you feel I
00:03:33.720 | realized there is a lot of fear out there at the moment the fear of losing a lot more money in the stock market and
00:03:41.040 | The fear of your political party not winning the midterm elections and if you think about it happy people don't go on
00:03:48.080 | Random sites and write nasty comments and start getting into fights over social media about stupid things, right?
00:03:55.640 | Happy normal people just kind of live their lives do what they want
00:03:59.160 | but as a writer of financial samurai
00:04:02.480 | I have the privilege of reading comments and you have the privilege of
00:04:06.880 | reading my post that reflect how I'm feeling and what I realized from all the comments and on the feedback is that
00:04:14.120 | Emotion emotion plays a huge role in living a good life and in investing if you're overly
00:04:21.240 | Emotional during bull markets you got to be aware because you might be investing
00:04:26.640 | Too much and you're depending too much for those returns and when the downturn inevitably comes you're gonna feel that trough of sorrow that deep
00:04:34.480 | Kind of pain and emptiness which I actually felt after grinding so hard for two years writing by this not that and then once it
00:04:41.960 | Was out and made the bestseller. I was like, man, that's it and I started thinking well, what's next?
00:04:47.520 | What else can I spend the next two years of my life on? Of course, you know parenthood taking care of my family
00:04:54.680 | Writing on financial samurai recording these podcasts, but you started thinking about you know
00:05:00.000 | The future a lot once you have this kind of letdown and you have time to think conversely
00:05:05.440 | You might have an inappropriate asset allocation if you find yourself losing
00:05:10.120 | Patience with your spouse and kids who have nothing to do with your investment choices when stocks are going down
00:05:16.280 | It's pretty clear sign that you know
00:05:19.600 | You're bringing your emotions from something irrelevant to people that you care about the most and that's really sad
00:05:25.960 | If you find yourself binge eating and gaining weight or drinking heavily during a bear market
00:05:31.440 | Your asset allocation to stocks or any other risk investments is probably too high and the same thing goes for feeling
00:05:39.640 | Let's say chronic back pain or any kind of chronic pain you have
00:05:42.760 | Our bodies provide great warning signs if you pay attention
00:05:47.160 | One of the key things I realized after working in finance for 13 years is that chronic pain is unusual?
00:05:55.240 | About six months after I left finance a lot of my pain went away my chronic back pain my sciatica
00:06:02.200 | my TMJ and
00:06:04.280 | That was when I realized man for 13 years. I was just putting up with this chronic pain and now
00:06:09.860 | 95% of it is gone and it's been gone for over 10 years now
00:06:15.760 | So if you are feeling bad, there's something up some random injury
00:06:20.880 | Maybe it's a neck crick that goes down to your back and you know, you just suddenly can't move something inexplicable
00:06:27.040 | That wasn't caused by something specific
00:06:29.040 | There's probably a little bit more stress in your life than your body would like and you've got to go deep down and think about
00:06:36.120 | Things list those things that are stressing you out
00:06:38.840 | Tell your body look I understand. These are the things that are stressing me out. They're pissing me off
00:06:44.360 | It'll be okay and you work systematically to try to reduce those items
00:06:49.280 | Take them off your plate for your own health and safety and longevity the bottom line way, you know
00:06:54.960 | How you are investing appropriately in a bull market or bear market is when you don't let your emotions overwhelm you
00:07:03.360 | Don't let them go beyond the normal emotional range band that you have. Yes feel the sting of losing money in a bear market
00:07:11.800 | It'll never go away
00:07:14.000 | But if you don't let that sting negatively affect your day-to-day life and your relationships
00:07:20.400 | You probably have a risk-appropriate
00:07:22.560 | Asset allocation on the flip side enjoy the gains, you know, the gains never feel as good as the losses feel
00:07:30.080 | But again, those gains don't make you have like this crazy investing FOMO where you suddenly alter your asset allocation
00:07:38.280 | Towards heavily risk assets or much more riskier assets
00:07:42.640 | You're just operating in your normal band day to day and part of the reason why
00:07:48.120 | You're not very emotional is because as a veteran investor, you know
00:07:52.680 | The downside risk you accept that trying to make money from risk assets means
00:07:58.360 | Occasionally losing money you understand history, you know
00:08:02.440 | The average bear market lasts between 12 to 15 months and the average drawdown is about 35%
00:08:10.240 | So once you know that downside average for investing in stocks, for example
00:08:14.680 | Then you can calculate how much exposure you should have because when you're investing
00:08:20.920 | You're investing to potentially make more money passively
00:08:24.520 | And why do we want to make more money passively?
00:08:27.160 | To do more of the things we want and less of the things we don't and why do we want more freedom?
00:08:32.600 | It's because we know that time is limited
00:08:35.920 | We can always make more money, but we can never make more time as a result
00:08:40.440 | I highly encourage everyone to translate money into lost or gained time
00:08:46.160 | Think deeply about it folks time is so much more valuable than money and somewhere around
00:08:52.040 | 35 to maybe 40 for the average person
00:08:55.680 | They're gonna start really realizing this because you know, they're gonna feel some maybe aches and pains
00:09:02.320 | Maybe friends or family will pass away
00:09:05.440 | they're gonna realize more and more how precious time is how ephemeral time is and
00:09:10.080 | This you know this constant grind for more and more and more money
00:09:14.240 | Will start eating at your soul and I'll start making you wonder, you know
00:09:18.360 | What is the point if I'm losing all this time and I can't do the things that I want to really do
00:09:23.900 | So the next time you read a financial samurai article
00:09:26.940 | Think about this basis of time more than money because it's always in my mind when I'm writing and when I'm recording
00:09:35.240 | So think about that as I you know present a thesis or share an argument or tell you a story
00:09:39.880 | To help you quantify your risk tolerance. I
00:09:42.960 | introduced
00:09:44.960 | FS seer seer stands for samurai equity
00:09:47.600 | Exposure rule the FS seer formula is basically this risk tolerance multiple
00:09:54.320 | equals your equity exposure
00:09:56.760 | Times 35% because 35% is the average bear market drawdown
00:10:02.160 | Divided by your monthly gross income. Does it sound confusing?
00:10:06.600 | I hope it's not because you'll see her more clearly in the post but your risk tolerance multiple
00:10:11.360 | Equals the number of months you are willing to work to make up for your potential losses
00:10:18.520 | So this formula again risk tolerance multiple equals equity exposure times 35%
00:10:23.480 | Divided by your monthly gross income can help you find out whether you are risk loving
00:10:30.480 | Very extreme or very conservative. So for example, let's you have 1 million dollars in equities with a
00:10:37.040 | $10,000 monthly gross income so hundred twenty thousand a year
00:10:40.400 | You're considered to have an extreme risk tolerance because you are okay with spending
00:10:46.360 | 36 months
00:10:48.920 | Working to make up for your potential equity loss of three hundred sixty thousand
00:10:52.960 | So we plug the numbers in take 1 million dollars times
00:10:58.080 | 35% that's
00:11:00.080 | 350 thousand dollars and then divided by your monthly gross income of ten thousand, right and that equals 36
00:11:07.920 | 36 months are you really willing to spend 36 months or three years of your life?
00:11:13.720 | Making up for your losses your potential losses. If so, you've got extreme risk tolerance and that 36 multiple
00:11:22.160 | Identified as extreme risk tolerance is my opinion so you can play around
00:11:26.400 | With that multiple if you think hey, you're willing to spend ten years of your life making up for potential losses
00:11:34.120 | For that to be considered extreme. Well, you can plug that in and find out how much equity exposure
00:11:41.200 | You should have based on your risk tolerance
00:11:44.520 | So let's do the math again the maximum recommended equity risk exposure equals your monthly salary
00:11:51.760 | times your risk tolerance multiple
00:11:54.240 | Divided by 35% I remember the risk tolerance multiple
00:11:58.560 | I said as extreme was 36, but now you think it's actually 120
00:12:02.720 | So let's say you take your monthly salary of ten thousand times by 120 you get
00:12:09.040 | 1.2 million now you divided by 35% or whatever you think is
00:12:14.800 | Going to be the drawdown in this bear market
00:12:17.920 | I'm just gonna go with 35% because that's the average drawdown. So the maximum recommended equity exposure based on your
00:12:25.960 | perceived risk tolerance is
00:12:28.520 | 3.4 to 8 million dollars based on a ten thousand dollar monthly income. So how about that folks a very practical?
00:12:36.960 | simple
00:12:39.560 | applicable formula that anybody can use to find their risk tolerance multiple based on their existing exposure and
00:12:47.000 | Also to find out the maximum recommended equity exposure
00:12:50.640 | Based on what they think their risk tolerance multiple is and we're using time and money
00:12:55.760 | We're translating time into money lost time
00:12:59.040 | Based on losing money and gain time based on making money from your investments
00:13:04.080 | And I started this episode by talking about winning the Nobel Prize in economics and I was delusionally thinking
00:13:11.120 | But maybe not so much
00:13:12.640 | Why can't this formula FS here win the Nobel Prize in economics? It's practical. It's applicable
00:13:19.480 | It's easy to understand and it takes a very important concept of translating time into money
00:13:25.980 | I see no tenured professors with PhDs at the most prestigious universities coming up with such a practical formula for millions of investors
00:13:34.400 | Instead there are numerous research papers with complex formulas. The average person will never read or utilize
00:13:40.320 | It doesn't matter folks how great an idea how smart an idea if it is not easily implemented or understood
00:13:47.520 | Theory is not as important as practice. So how did I come up with this formula?
00:13:52.760 | After all I came to America at 14 and attended public schools, you know
00:13:58.200 | I'm not supposed to be here. The only way I could have created this helpful formula is through firsthand experience
00:14:04.240 | Losing money during the 2000 comm bubble was difficult
00:14:08.120 | But thankfully I didn't have that much money to invest and so was investing for a whole decade and not seeing much in total returns
00:14:15.320 | So I made adjustments by investing more in real assets
00:14:18.760 | Then seeing 35% of my net worth that took 10 years to accumulate disappear in six months was very painful
00:14:25.200 | But the 2008 global financial crisis taught me not to extrapolate my income or returns far into the future
00:14:33.800 | The crisis also reminded me about the importance of diversification and not to confuse brains with a bull market
00:14:41.600 | Finally as a practitioner of early retirement since 2012
00:14:46.000 | I'm experiencing firsthand what it's like to not have a day job not have day job income
00:14:51.800 | The scarcity of time is one of the main reasons why I negotiated a severance at 34 in the first place
00:14:59.240 | Retiring early was a hedge against dying early so I could live my life with the least number of regrets and
00:15:05.560 | most of the people I know who invest who are hardcore investors don't write and
00:15:11.640 | Most of the hardcore writers I know
00:15:14.120 | Don't talk about investing
00:15:16.600 | so I think I'm unique in this way that I'm sharing both the ups and downs and the journey of
00:15:21.560 | investing and this is how the
00:15:23.920 | FSC or formula was created by first-hand experience and one of the greatest things about being human is that we're all
00:15:31.520 | Long-term rational in the short run. We're all going to experience and make mistakes in the long run
00:15:38.200 | We learn from our mistakes and make wiser decisions with by this not that the book
00:15:42.960 | I try to encapsulate all the experience and all the mistakes that I've made to help people make more optimal decisions
00:15:49.960 | We won't keep making the same mistakes over and over again. Otherwise, we'd be insane, right?
00:15:55.320 | Instead we will rationally learn from other people's mistakes
00:15:59.240 | Learn from ourselves so we can make better choices going forward this latest bear market stinks
00:16:05.960 | But we got to put into perspective
00:16:07.760 | We've had 10 years of a great run and if you're feeling highly emotional during this latest bear market
00:16:14.360 | Then except you probably have an inappropriate asset allocation
00:16:18.160 | I think it takes two cycles or between 10 to 20 years to figure out what your true risk tolerance is and
00:16:25.560 | Then it takes an effort to invest accordingly. You're gonna always be tweaking your asset allocation
00:16:32.440 | You're gonna be in touch with your inner self in terms of how you feel when you're making money and losing money
00:16:38.040 | Personally, I'm unwilling to spend more than 12 months of my life trying to make up for losses
00:16:44.560 | Therefore I consider myself a moderate to conservative investor and it makes sense, right?
00:16:49.680 | I left my day job because I thought I had enough now
00:16:53.120 | I have two goods so I did make more money over the past 10 years to try to generate more passive income
00:16:59.040 | But I'm good now. I'm good
00:17:01.000 | I don't want to risk having to go back to work because my kids are still young and my daughter is still gonna be home
00:17:07.360 | with me until she goes to
00:17:09.240 | Kindergarten in three years, so it's really precious time that I just don't want to lose because once they're in school
00:17:16.120 | They're in school for what eight to nine hours a day
00:17:19.160 | Alright, so what do you do when you're feeling highly emotional right now in this bear market?
00:17:24.740 | So you accept except you have an inappropriate asset allocation and you will either have to lower your exposure to risk assets by selling
00:17:32.320 | Some of your assets or saving and investing more in lower risk or risk-free assets or both
00:17:38.080 | My favorite way to reduce the percentage of risk assets to overall net worth is by raising more cash and buying more
00:17:45.400 | Treasuries and other lower risk investments like municipal bonds
00:17:49.360 | For example, I don't enjoy selling stocks or other risk assets after they've collapsed right after they're down 20 30 40 80 percent
00:17:56.480 | You know, that's always a bummer
00:17:57.920 | And if you believe in the long-term trend of stocks and real estate and other risk assets
00:18:02.640 | You want to hold on for as long as possible?
00:18:05.680 | Because eventually such assets tend to recover and finally I do want to encourage you to focus on your cash flow
00:18:13.360 | Because the cash flow every two weeks or every single month or quarter is real
00:18:19.140 | Whereas the net worth is very volatile and subjective. So focus on your cash flow focus on
00:18:25.880 | Bolstering it and adding more income engines because we're in rocky times
00:18:31.200 | We're probably gonna be rocky times for another six to twelve months and that's just the way things are in these cycles
00:18:37.720 | Thanks so much everyone for listening. I do enjoy recording these episodes. They do take time though. So I appreciate the positive reviews
00:18:45.520 | They're very motivating. Also. Thanks for picking up my book by this not that the show notes
00:18:50.840 | We'll have all the relevant links and also shout out to other podcasters who had me on during my book tour
00:18:56.980 | Stacking Benjamin's show with Joe sell see hi and also journey to launch by Jamila Safran. So thank you so much everyone. Take care