- Welcome back to Portfolio Rescue, our show where we take questions straight from you, the viewer. Remember, if you have a question for us, askthecompoundshow@gmail.com. This week we had Barry Ritholtz on the show, the namesake of our firm, and Barry had a lot of interesting things to say about writing and producing content and blogging, and he's been doing this for a couple decades now.

And I mentioned with Barry that I answer questions, when I started my blog, my whole reason for doing it was answering questions for friends and family, 'cause I was sick of them asking me, 'cause I was the finance investment guy. And I typically get two questions from my high school friends especially, high school and college friends, on text messages.

One is like, "Should I buy or sell this stock? What should I do with this here? Is this a good buy? Is this a good sell?" And two, "Is this gonna get worse?" So I hear from people way more when things are getting worse, and things right now are getting worse.

So I have a question, I think our first one we're gonna do today is actually from someone who texted me this week, one of my friends, and so we're gonna use that, but what do we got here, Duncan? - All right, cool. So before we get started, I just wanna say for those who haven't watched, you have to watch the latest Animal Spirits, it's episode 247.

There's a clip in there of Ben scoring a touchdown at, what was the stadium? - The Silverdome in Detroit, Michigan, which is not there anymore. I think it's been torn down, but that was the old stadium before they had it. So my glory days, I played there a couple times for the state championship.

- That was like '98, '99, right? - Yeah. - Okay, so everyone needs to watch that, but first I had a football question for you, which is I've always wondered, I see you evading tackles in that long run, would you rather see someone coming to tackle you, or not know that they're coming?

- I'll definitely see them. - Okay. Well, the reason I ask is because of the car crash thing. People say like, "Oh, if you tense up, that's when it hurts the most, and you get injured the most." So I didn't know if it's preferable to just be tackled and not know that they're coming.

- Okay, yeah. I think preparing for one, it's kind of now unlike the stock market, right? You'd rather be prepared for a downturn than get hit from the side, right? - Okay, cool, cool. I ran cross country, so we don't tackle, but yeah. Okay, so first up, today we have a short and sweet one.

Inflation was already out of control, now the war has made gas prices spike. How does this not end in recession? - Yeah, I think this is a question a lot of people are asking these days, and unfortunately, the odds of a recession are much higher now than they were, call it, two, two and a half weeks ago.

I think you'd have to be pretty dense to not at least think that. It's obviously impossible to predict these things with 100% certainty, but I would almost be surprised if we didn't have some sort of minor economic contraction because of this. And it's not just the U.S., right? This thing will probably be global, and I'm guessing the U.S.

will probably fare the best out of most developed nations. So, John, throw up this chart of electricity and natural gas. This is from Michael Sembles at J.P. Morgan, and he compares electricity prices and natural gas prices between some countries in Europe and then the U.S. And you can see the spike in Europe is just massive.

And they're far more dependent on Russia for some of their commodities, and their prices there were much higher to begin with. It's funny. We're complaining about $4 gas here in the U.S., but in Europe, people have been paying well over that price for a long time now. They already have a lot more, and they do it in liters, so I can't do the actual conversion in my head.

But let's just say it's higher. It is important to note that inflation doesn't always cause a recession, but every inflationary spike in history has only been alleviated by a recession, right? So what happens to get that inflation back down? Unfortunately, every time, it's a recession. So let's look at this next chart, John, of inflationary spikes.

So I looked at every inflationary spike of 5% or more going back to 1940, and you can see the gray bars on this chart show when a recession happened. The little red circles I did there was every time inflation spiked above 5%. It's not a perfect relationship in the sense that you can gauge the timing on these things.

Sometimes inflation fell, then we went into a recession. Sometimes a recession occurred during that spike in inflation, and then sometimes that inflationary spike probably didn't have anything to do with it, like, say, the 2008 crisis. That's the last time we had oil this high. That was probably going to happen anyway.

But the only way inflation came down in any of these instances was because a recession came afterwards or a recession happened because of it. So I hate to be the bearer of bad news, but this is kind of where we're at. So if we pull up this next table, John, this just shows that the pre-inflation or the pre-recession inflationary spike, again, go back to the '40s and then what happened afterwards.

We just had our inflation print this morning of 7.9%. That happened before all this stuff with Ukraine and Russia happened, before energy prices spiked, before agricultural commodities prices spiked. Again, it's hard to see getting out of this situation where we could, in the coming months, in this year especially, probably see 8, 9, I wouldn't be shocked if we saw 10% inflation print this year, which is really going to freak people out, I think.

And so, unfortunately, I think that a recession is really on the table and it's probably much higher than 50/50 odds of happening right now. Again, I'd be surprised if it didn't happen. Now, what does this mean for the stock market? I mean, we could actually bottom before it happens because it seems like the scenario where we kind of can see it coming now, kind of not quite the same parallel as what we saw in the corona crash where everyone knew the day it happened.

Like Tom Hanks got COVID, NBA shut down, we're going into recession the next day. And so the stock market, it's kind of who knows how hairy and volatile it gets. I guess a lot of that depends on how long the war lasts and how long this commodity spike lasts.

Now, of course, recessions are not great because people lose their jobs. One of the interesting factors going on right now is there are 11.3 million job openings in the US. That's the highest number ever. The highest number this ever, the highest this number ever was pre-pandemic was 7.5 million.

So there's more jobs than ever. So you think a recession happens, people lose their jobs. And obviously, this kind of stat can change overnight if there's a slowdown. But consumers have repaired their balance sheets for years. We've paid down credit card debt, increased savings rates, home equity is through the roof for people who own a home.

So if we do have a slowdown, I would expect it to be minor, depending on how all this shakes out. But I think the odds of a recession are so much higher now than they were even a month ago. And it's probably going to happen, with the caveat that I cannot predict the future.

Yeah, it's crazy how fast things shifted, you know. I mean, it was like the war on top of everything that was already going on. It just accelerated. It's like unimaginable from a year ago. The butterfly flapping its wings. I mean, this is kind of one man decided to do this, and the whole world has essentially changed.

And yeah, I think we could see a slowdown. Again, I think it's probably worse in Europe, unfortunately, than it will be here. So yeah, kind of a downer. But I think a recession is probably coming at some point. Yeah, it seems like that's what people are expecting, too, right, based on the moves that we're seeing.

All right, let's do the next one. Okay, so up next we have, "I feel like the wealthiest 10% of investors have taken profits during this year's massive selloff. Where is this money going? Bonds, cash, or just back into Apple, Microsoft, and Google?" So the reasonable assumption here is that it must be the wealthy selling stocks, because the top 10% own something like 90% of stocks, right?

So it has to be the wealthy. I'm not so sure of this. It's also kind of hard to gauge these questions, because it hurts your brain to think about it. Like, what happens to the money in a selloff? Is it just because people are selling? And if you think about it, for every buyer there is a seller, and for every seller there has to be a buyer.

So there can be new shares issued if a company goes public, if there's a SPAC, so you have an IPO, you have companies issue stock options. But money essentially disappears during a selloff, right? Just like it kind of magically appears during a bull market. So I'll put this chart about the tech rec from the FT on here.

So this is from the FT this morning, actually. They said $5 trillion in marketable capitalization was shaved off the NASDAQ, and this is pretty much in the past year or so. If we look at two examples, the next chart of PayPal and Facebook, I refuse to call it meta still.

And Duncan, I'm angry, because if I go on YCharts and I type in "Facebook," it doesn't come up anymore. I have to type in "meta." And I refuse to call it meta. You have to acknowledge it. Yes, I have to acknowledge it. So Facebook went from a high of $1.1 trillion to a little over $500 billion now.

So that's, you know, half a trillion dollars gone. PayPal is even crazier, I think, from a relative perspective -- $362 billion at the top. And again, these numbers are from, like, last February, so not that long ago, to a little over $100 billion now. Just that it's gone. And so that money is just -- it's essentially evaporated, which is kind of what happened.

So it doesn't take that much selling. All it is is sort of a supply-demand thing, where people were willing to pay up, and you have a gap up in prices, and now the gap is going down. And so that money is just going away. So we look at the flows.

Surprisingly, in January, it was still pretty strong. So this is from Ed Yardeni. This is the equity mutual funds and ETF flows. It was still pretty positive. It would be interesting to see if this trails off a little in February, and especially in March. And then we look at the bond flows.

Bonds are actually coming down a little bit in January. But the money is still pouring in. Now, of course, you have all these different competing investors. You have index funds and equity-managed funds and institutions and corporate executives and individual shareholders and hedge funds. So you have all these millions of investors who have different opinions and time horizons and goals and risk profiles and reasons for selling.

So it's always kind of hard to know who's doing the selling and why and what the reason is and who's freaking out. I do want to get back to the 10% comment, because it seems to make sense, again, the top 10% sell. But William Bernstein had this piece at the beginning of the pandemic, and he used this quote from J.P.

Morgan that said, "In bear markets, stocks return to their rightful owners." And a lot of people have taken that quote from way back in the early 1900s to be like, "Okay, in bear markets, the people who are patient and disciplined and willing to put money in, those are the ones who are going to make out okay." But Bernstein said, "Yeah, that's great.

But guess who has the money in a downturn? Rich people." And so bear markets actually make wealth inequality worse, because rich people have the financial means to buy financial assets when they're at depressed prices. And so a lot of people were shaking their fists at the sky and saying, "Oh, the rich people are getting richer during the pandemic." That's probably going to happen in every bear market in the future as wealth inequality continues to have a separate, you know, between the haves and the have-nots.

So unfortunately, downturns level the playing field for a little bit in the short run as those holders of financial assets see their prices fall. But they're also buying when they're falling. And so over the long run, that's a positive for rich people. And unfortunately, it probably makes wealth inequality even worse.

I know this is, we're kind of on a downer here, Duncan, for the first two recessions. I'm feeling a little depressed now. But I think that's how it probably plays out. It'd be nice to think, like, all the wealthy people are selling and they're panicking. But that's probably not the case, because they have the financial means to actually hold on.

Yeah, right. Yeah, they don't have to. Yeah. Yeah. Yeah. Okay, let's see if we can get cheered up with the next question. Let's do it. Okay. Do you think it's a good idea to use an S-block or a down payment on your house if you don't want to sell any stock?

Can you first explain what an S-block is for newboyals like me? Yes. I just have to do the acronyms for you. We're gonna have to do like a sheet of all the acronyms for Duncan. So S-block is securities-based line of credit. So that's like borrowing against your portfolio, taking it, you can use that as collateral, borrow against it, pay a low level of interest, and then use that money for something else.

So this is really more of a financial planning question than it is an investment question, I think. So let's bring a certified financial planner on here from our firm, Kevin Young, who's in the office with Duncan. He's in an undisclosed location because they can't be next to each other.

So Kevin, when thinking through something like this, and this is a question we've been getting a lot actually, like, can I, I don't want to take taxes into account and have to sell something and pay taxes on it, but I have this big outlay coming up. When you, when you have to think through something like this from a financial planning perspective, like, what are the main areas of concern or what are like, what are some of the variables people think about when taking a loan against their portfolio?

Yeah. So, you know, these lines of credit have become really popular the last couple of years. And I think partially people are seeing what's going on with the ultra wealthy. And there was an article in the New York Times, the Wall Street Journal, maybe a year, 18 months ago, talking about, well, how did these people that have so much money pay zero tax, but they're still managing to pull money out of their portfolios?

S blocks are high. And the reason you might use one is if you're sitting on some large appreciated portfolio, the idea is you take the line of credit at call it 3% and use the money for a down payment, as opposed to selling out of the stocks that you own and getting yourself hit with a capital gains tax somewhere between, you know, 18 to could be as high as 30% with state and federal depending on where you live.

So that's ultimately why you might do it. I think it can make a lot of sense in the right scenario. You just got to be very careful about how you use the leverage. This seems to me like it would be a decent scenario for this. So you want to have a down payment on the house.

You don't want to have to get out of your investments to do it. You're borrowing against your portfolio. You're paying probably a low interest rate. Does this kind of thing make sense? And like, does the reason for the loan, obviously, if you're leveraging up to buy other stocks or some other risky asset, that might not make a lot of sense for a lot of people.

But for a down payment where you have, you know, the house as collateral, it seems to make more sense. Right? Yeah, it definitely can. And again, it's really you're looking at just the spread between the interest rate that you're paying and the returns on the assets that you potentially make, as well as the taxes coming into play.

So yeah, I think for a down payment for a house, certainly if you're sitting on a large portfolio, it can make a lot of sense to leave those assets in the portfolio and let them continue to grow. Where you made a great point, it's got to make sense for what you're actually using the money for.

Right? If you're taking money out and putting on an eight leg parlay on DraftKings, maybe not the best idea. But certainly for a home purchase, it can be very useful. Again, using leverage in the right way can be a good tool. The other thing I want to think about there is the way these loans work is like any other asset you're borrowing against, there's a loan to value ratio that the lender wants to stay below.

What's like the ceiling there that you'd want to borrow against? I would say average is probably around 50%. Depending on the lender, depending on the assets, I've seen some as high as 70%, right? So if you have a million dollar portfolio, most places, they'll say, "We will give you half a million dollars at 3%," or whatever the interest rate is going to be.

The danger then becomes, and what the lender is trying to prevent and protect against, is that the value of your securities fall, forcing effectively a margin call. What they'll do is they'll either liquidate positions without needing to ask you to pay themselves back to keep that value the same, or they'll say, "Hey, you need to put 10 grand, 20 grand, 30 grand into the portfolio to keep that ratio correct." By the way- Go ahead.

Parker in the comments says that Kelvin Ridley did not appreciate the Parlay comment. That's a good point. Yeah. That was a rough trade for him, however many millions of dollars he is for a year's salary. But the last point I wanted to make on this is, with that loan to value, if you set something like this up last year and your collateral securities that we're using were Facebook and the Ark Complex or tech-heavy names- Anything that's gotten crushed.

Those are down 30%, 40%, 50%, 60%. If you're in a broad-based, globally diversified equity portfolio, you're probably down 8% or 9% year to date. So make sure what you are going to put up as collateral is not going to be something that could potentially draw down 50% in short order.

Right. Okay. Dunkels, the next one. Okay. So up next we have, here's a challenge question for you. This is fun. We all like a challenge, right? So I'm 53, and as of January 2022, I had a net worth of $600,000, which was composed of cash, IRA, stocks, and home value minus mortgage.

No debt. After the sale of my company, I now find myself with $2 million in cash. A year ago, I would have gone Warren Buffett and put 90% in S&P and 10% in bonds. I love to work, but I have the goal of retiring by 60 with at least 5 million in net worth.

What in God's name should I do with $2 million in this new economy full of uncertainty? Great question. And obviously the value here doesn't matter as much as the thought process of investing in windfall when things seem scary and uncertain. And my one rule of thumb for this is obviously you have to take into account what's going on in the world and where the stock market is and interest rates and all these things.

But it's far down the list in terms of setting up a financial investment plan, right? Like when it's not the first variable, it might not even be in the top five in terms of what's going on in the macro right now and how should this impact what I do with my portfolio.

So Kevin, you have a client come to you and they say, listen, here's a certain time horizon. So this person says, you know, in seven years, I want to go from A to B. They're telling you I want to retire at 60, I want to have this much money.

How do you handle a situation like that where they give you like the outcomes that they want to get? And then they say, okay, create a portfolio from your financial plan that gets me there. Right. Yeah. And I love this question because it allows us to touch on a lot of different concepts in financial planning.

You know, ultimately this is just a math problem, right? This is just a question of assumed rates of returns and what you have and what you're going to contribute to it. If you took the simple math and let's say, let's say that this person, again, wants to get to $5 million in seven years, currently has about $2.6 million in net worth.

If they're a regular W-2 worker contributing, you know, the max to their 401k, they're going to need around a 9% annualized rate of return to get to $5 million. That's obviously the tricky part in that we don't know for sure what those rates of return are going to be.

So ultimately, you know, you end up with a situation that you have something that is true on a piece of paper in your plan or on a spreadsheet, but the real world obviously comes into play here. So that's where the variables can be tough to figure out. Right. And I guess if you have that end goal, you can use it to set expectations, right?

Like here's what you need. Here's how this could, here's like your range of outcomes. And then as you get closer and you build a financial plan, you kind of say, all right, we're getting a little closer. Here's what the actual returns are going to be. Here's what you wanted.

And sometimes I guess the good thing is you can tell someone, listen, your expectations are so far out of whack with reality in the current situation that you're never going to get there. And so you can use that as a conversation starter. Maybe you're going to have to put more money in, or maybe you're going to have to work longer, or maybe you're just not going to have as much at retirement as you think.

So you can use those all as sort of signposts along the way to help them understand their goals. But I like the idea of managing a financial plan when we have this target. And then I guess the other thing is, is that, right? I'm sure you have this conversation a lot.

Like when you turn 60 and retire, that doesn't mean your financial plan is done. And then that's like when the hard work begins. Right? Yeah, exactly. And, you know, one other point on kind of the math side of this is that 9% rate of return. If this guy is saying that, you know, he's really uncomfortable right now, 13% off the all time highs.

If he had put this money in a year ago, if he can't stick with that 90/10, that might not be the portfolio for him. And so that's where the behavioral coaching comes in that I think we can help a lot of people with is, yes, you might need 9%, but if the volatility that we're experiencing now is making you really uncomfortable and it's going to cause you to do something silly like panic sell or something like that, then we need to kind of marry the rational, right?

Which is, okay, you need a 9% rate of return with the reasonable, which is what portfolio and plan can we develop for you that you'll stick with? Because ultimately that's going to be what the biggest driver of success is. And to your point, if we've got, we don't have seven years to make this work.

We've got seven years until potentially he's going to start drawing the money. Then we've got another 30 years that this money needs to keep up with things like inflation and spending and things like that. Yeah. And I always like to remind people too that this is by far one of the craziest macro environments I've ever seen, especially just with all the really cross trends going on.

But you're never 100% certain what's going to go on. Uncertainty is always at an all time high, I guess. It hits a new high every single day. So it's really hard to know. So that was a great question. So thanks. Thanks for coming on, Kevin. Yeah. Thank you for having me.

This, this is a really crazy macro environment. I see we've got a bunch of questions here on the side, a lot of people asking about inflation hedges and can housing help there. So keep those comments and questions coming. We're always looking for more. Remember, askthecompoundshow@gmail.com. On that note too, I wanted to mention, if we pull your question from the chat and you see it on a future show, just email us and we'll send you a sticker.

Usually we can't like track you down just from a comment though. So if you want a sticker. What's the sticker look like Duncan? Did I even get one of these yet? I think you got one. The compound sticker? It's this one back here. Okay. Yeah. And we're not even selling those, right?

We're just giving them away. The only way you get it is from having a question selected. It's exclusive. That might be an inflation hedge. Turn it into an NFT, Duncan. It's true. All right. Remember, askthecompoundshow@gmail.com. Thanks to Duncan and Kevin for joining me and we will see you next time.

See ya. Bye. Bye. Bye.