Hello everybody, it's Sam from Financial Samurai and in this episode I want to talk about a Nobel Prize in economics Gunning for that one and also how to have a risk-appropriate asset allocation when investing so recently I wrote a post called how to enjoy your life after the Fed ruins the world and The thesis was well rich central bankers are rich Jerome Powell Fed share is worth over a hundred million dollars They were able to sell stocks at the top of the market in 2022 And so no matter how much they tighten they will be okay because they got out they were cleared of any supposedly wrongdoing insider trading and front-running however recently you saw Atlanta Fed Rafael Bostic break rules break Fed trading rules He said that he was unaware that he wasn't allowed to trade this and that whatever the case may be There's just a different set of rules It seems for Fed governors and information they know about and the rest of us so the point of the post was to just Encourage people to accept reality that there are two sets of rules for different types of people and to accept the reality We are in a bear market and to try to enjoy life more.

That was really it How do we enjoy life more when the global economy is heading into a recession into a deeper recession? This was a classic case of trying to make lemonade out of lemons and I've always thought this way For example when I sprained my ankle my immediate thought is hmm.

Thank God. I didn't break my ankle What are the things that I can do now that I'm immobile for one or two weeks, right? Maybe I can write maybe I can soak in the hot tub. Maybe I can record more podcast. That's a pretty good idea Hmm bear market time.

What are the things we can do more of now that making money is harder The return on effort is harder. Well, I talked about maybe you don't want to be 99% in your job anymore because you're probably not gonna get that raise and promotion that you want instead of being a 99% Maybe just be a 40 to 60 percent or like right in the middle Because the folks at the bottom 10% are likely going to get cut So if you can just hover in the middle, it's a better alignment of reward and effort You know if you're a 40 to 60 percenter, that's the average person you're in the middle of the bell curve But then a lot of commenters got really hot and bothered by that Suggestion of just doing the middle because I assume most of you listeners and readers are top performers You care about your finances you're listening and reading financial samurai.

You're trying to optimize your time and your money wisely But there comes a point where you know, no matter how much you try you're not gonna get that reward that you expect Therefore you have to align your efforts more appropriately. Otherwise, you're gonna get bitter Annoyed pissed off. So because the post how to enjoy your life after the Fed ruins The world was picked up by flipboard this reading app over 10,000 new readers who are unfamiliar with financial samurai or my background or my work ethic Ran my post and a lot of them commented and there were a lot of very angry and emotionally charged Comments and a lot of people talked about politics.

Whereas the post is not political at all. The Fed is not political This is money. This is life, but based on the feedback because comments are a reflection of how you feel I 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 The fear of your political party not winning the midterm elections and if you think about it happy people don't go on Random sites and write nasty comments and start getting into fights over social media about stupid things, right?

Happy normal people just kind of live their lives do what they want but as a writer of financial samurai I have the privilege of reading comments and you have the privilege of reading my post that reflect how I'm feeling and what I realized from all the comments and on the feedback is that Emotion emotion plays a huge role in living a good life and in investing if you're overly Emotional during bull markets you got to be aware because you might be investing 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 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 Was out and made the bestseller.

I was like, man, that's it and I started thinking well, what's next? What else can I spend the next two years of my life on? Of course, you know parenthood taking care of my family Writing on financial samurai recording these podcasts, but you started thinking about you know The future a lot once you have this kind of letdown and you have time to think conversely You might have an inappropriate asset allocation if you find yourself losing Patience with your spouse and kids who have nothing to do with your investment choices when stocks are going down It's pretty clear sign that you know You're bringing your emotions from something irrelevant to people that you care about the most and that's really sad If you find yourself binge eating and gaining weight or drinking heavily during a bear market Your asset allocation to stocks or any other risk investments is probably too high and the same thing goes for feeling Let's say chronic back pain or any kind of chronic pain you have Our bodies provide great warning signs if you pay attention One of the key things I realized after working in finance for 13 years is that chronic pain is unusual?

About six months after I left finance a lot of my pain went away my chronic back pain my sciatica my TMJ and That was when I realized man for 13 years. I was just putting up with this chronic pain and now 95% of it is gone and it's been gone for over 10 years now So if you are feeling bad, there's something up some random injury Maybe it's a neck crick that goes down to your back and you know, you just suddenly can't move something inexplicable That wasn't caused by something specific 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 Things list those things that are stressing you out Tell your body look I understand.

These are the things that are stressing me out. They're pissing me off It'll be okay and you work systematically to try to reduce those items Take them off your plate for your own health and safety and longevity the bottom line way, you know How you are investing appropriately in a bull market or bear market is when you don't let your emotions overwhelm you 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 It'll never go away But if you don't let that sting negatively affect your day-to-day life and your relationships You probably have a risk-appropriate Asset allocation on the flip side enjoy the gains, you know, the gains never feel as good as the losses feel But again, those gains don't make you have like this crazy investing FOMO where you suddenly alter your asset allocation Towards heavily risk assets or much more riskier assets You're just operating in your normal band day to day and part of the reason why You're not very emotional is because as a veteran investor, you know The downside risk you accept that trying to make money from risk assets means Occasionally losing money you understand history, you know The average bear market lasts between 12 to 15 months and the average drawdown is about 35% So once you know that downside average for investing in stocks, for example Then you can calculate how much exposure you should have because when you're investing You're investing to potentially make more money passively And why do we want to make more money passively?

To do more of the things we want and less of the things we don't and why do we want more freedom? It's because we know that time is limited We can always make more money, but we can never make more time as a result I highly encourage everyone to translate money into lost or gained time Think deeply about it folks time is so much more valuable than money and somewhere around 35 to maybe 40 for the average person They're gonna start really realizing this because you know, they're gonna feel some maybe aches and pains Maybe friends or family will pass away they're gonna realize more and more how precious time is how ephemeral time is and This you know this constant grind for more and more and more money Will start eating at your soul and I'll start making you wonder, you know What is the point if I'm losing all this time and I can't do the things that I want to really do So the next time you read a financial samurai article 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 So think about that as I you know present a thesis or share an argument or tell you a story To help you quantify your risk tolerance.

I introduced FS seer seer stands for samurai equity Exposure rule the FS seer formula is basically this risk tolerance multiple equals your equity exposure Times 35% because 35% is the average bear market drawdown Divided by your monthly gross income. Does it sound confusing? I hope it's not because you'll see her more clearly in the post but your risk tolerance multiple Equals the number of months you are willing to work to make up for your potential losses So this formula again risk tolerance multiple equals equity exposure times 35% Divided by your monthly gross income can help you find out whether you are risk loving Very extreme or very conservative.

So for example, let's you have 1 million dollars in equities with a $10,000 monthly gross income so hundred twenty thousand a year You're considered to have an extreme risk tolerance because you are okay with spending 36 months Working to make up for your potential equity loss of three hundred sixty thousand So we plug the numbers in take 1 million dollars times 35% that's 350 thousand dollars and then divided by your monthly gross income of ten thousand, right and that equals 36 36 months are you really willing to spend 36 months or three years of your life?

Making up for your losses your potential losses. If so, you've got extreme risk tolerance and that 36 multiple Identified as extreme risk tolerance is my opinion so you can play around With that multiple if you think hey, you're willing to spend ten years of your life making up for potential losses For that to be considered extreme.

Well, you can plug that in and find out how much equity exposure You should have based on your risk tolerance So let's do the math again the maximum recommended equity risk exposure equals your monthly salary times your risk tolerance multiple Divided by 35% I remember the risk tolerance multiple I said as extreme was 36, but now you think it's actually 120 So let's say you take your monthly salary of ten thousand times by 120 you get 1.2 million now you divided by 35% or whatever you think is Going to be the drawdown in this bear market I'm just gonna go with 35% because that's the average drawdown.

So the maximum recommended equity exposure based on your perceived risk tolerance is 3.4 to 8 million dollars based on a ten thousand dollar monthly income. So how about that folks a very practical? simple applicable formula that anybody can use to find their risk tolerance multiple based on their existing exposure and Also to find out the maximum recommended equity exposure Based on what they think their risk tolerance multiple is and we're using time and money We're translating time into money lost time Based on losing money and gain time based on making money from your investments And I started this episode by talking about winning the Nobel Prize in economics and I was delusionally thinking But maybe not so much Why can't this formula FS here win the Nobel Prize in economics?

It's practical. It's applicable It's easy to understand and it takes a very important concept of translating time into money I see no tenured professors with PhDs at the most prestigious universities coming up with such a practical formula for millions of investors Instead there are numerous research papers with complex formulas.

The average person will never read or utilize It doesn't matter folks how great an idea how smart an idea if it is not easily implemented or understood Theory is not as important as practice. So how did I come up with this formula? After all I came to America at 14 and attended public schools, you know I'm not supposed to be here.

The only way I could have created this helpful formula is through firsthand experience Losing money during the 2000 comm bubble was difficult 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 So I made adjustments by investing more in real assets Then seeing 35% of my net worth that took 10 years to accumulate disappear in six months was very painful But the 2008 global financial crisis taught me not to extrapolate my income or returns far into the future The crisis also reminded me about the importance of diversification and not to confuse brains with a bull market Finally as a practitioner of early retirement since 2012 I'm experiencing firsthand what it's like to not have a day job not have day job income The scarcity of time is one of the main reasons why I negotiated a severance at 34 in the first place Retiring early was a hedge against dying early so I could live my life with the least number of regrets and most of the people I know who invest who are hardcore investors don't write and Most of the hardcore writers I know Don't talk about investing so I think I'm unique in this way that I'm sharing both the ups and downs and the journey of investing and this is how the FSC or formula was created by first-hand experience and one of the greatest things about being human is that we're all Long-term rational in the short run.

We're all going to experience and make mistakes in the long run We learn from our mistakes and make wiser decisions with by this not that the book I try to encapsulate all the experience and all the mistakes that I've made to help people make more optimal decisions We won't keep making the same mistakes over and over again.

Otherwise, we'd be insane, right? Instead we will rationally learn from other people's mistakes Learn from ourselves so we can make better choices going forward this latest bear market stinks But we got to put into perspective We've had 10 years of a great run and if you're feeling highly emotional during this latest bear market Then except you probably have an inappropriate asset allocation I think it takes two cycles or between 10 to 20 years to figure out what your true risk tolerance is and Then it takes an effort to invest accordingly.

You're gonna always be tweaking your asset allocation You're gonna be in touch with your inner self in terms of how you feel when you're making money and losing money Personally, I'm unwilling to spend more than 12 months of my life trying to make up for losses Therefore I consider myself a moderate to conservative investor and it makes sense, right?

I left my day job because I thought I had enough now I have two goods so I did make more money over the past 10 years to try to generate more passive income But I'm good now. I'm good 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 with me until she goes to Kindergarten in three years, so it's really precious time that I just don't want to lose because once they're in school They're in school for what eight to nine hours a day Alright, so what do you do when you're feeling highly emotional right now in this bear market?

So you accept except you have an inappropriate asset allocation and you will either have to lower your exposure to risk assets by selling Some of your assets or saving and investing more in lower risk or risk-free assets or both My favorite way to reduce the percentage of risk assets to overall net worth is by raising more cash and buying more Treasuries and other lower risk investments like municipal bonds 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 You know, that's always a bummer And if you believe in the long-term trend of stocks and real estate and other risk assets You want to hold on for as long as possible?

Because eventually such assets tend to recover and finally I do want to encourage you to focus on your cash flow Because the cash flow every two weeks or every single month or quarter is real Whereas the net worth is very volatile and subjective. So focus on your cash flow focus on Bolstering it and adding more income engines because we're in rocky times We're probably gonna be rocky times for another six to twelve months and that's just the way things are in these cycles Thanks so much everyone for listening.

I do enjoy recording these episodes. They do take time though. So I appreciate the positive reviews They're very motivating. Also. Thanks for picking up my book by this not that the show notes We'll have all the relevant links and also shout out to other podcasters who had me on during my book tour 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