Peter and Jonathan discuss how 2020 has been unique in many ways, yet validates our long held beliefs.
Hosted by Creative Planning Director of Financial Education, Jonathan Clements and President, Peter Mallouk this podcast takes a closer look into topics that affect investors. Included are in-depth discussions on financial planning issues, the economy and the markets. Plus, you won’t want to miss each of their monthly tips!
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Transcript:
Jonathan Clements: Hi, this is Jonathan Clements, Director of Financial Education at Creative Planning. I’m in Philadelphia. With me is Peter Mallouk, president of the firm. He’s at Creative Plannings Headquarters in Overland Park, Kansas, and we are Down the Middle.
Peter, we get to the end of every year and we say, “Wow, it’s been an extraordinary year.” But 2020 really has been an extraordinary year and we look back at what’s happened in the financial markets, we had this 34% decline by the S&P 500 and this astonishing rally, and even now, as we head into the final month of the year, the market is still going up. When you look back at 2020, what are the aspects of managing money that have been re-emphasized for you more than anything else? What are the highlights of the year from a point of view of learning about the markets and learning about money?
Peter Mallouk: I think that one of the philosophies at Creative Planning is that we’re betting on the economy over the long run. We’re not betting on specific stock, how it’s going to do in the next 30 days. We’re not putting 20% of the portfolio in one industry and hoping it happens to rotate into favor at the right time for a three year period. We’re betting on progress across the markets and have a very strong conviction that tends to work out. We don’t know which markets at which times, which is why you have diversification.
One of the benefits of this approach is when you’re diversified and you’re going through a crisis, whether it’s 9/11 or the tech bubble or 809 or now the pandemic, you know certain sectors are going to come out earlier than others, but that the market itself is going to find a way. I think that the big reaffirming lesson of this year is markets are more resilient than people think. Everyone thinks the economy is so fragile, whether it’s a terrorist event or a pandemic or whatever, that somehow, we’re just going to stop going to Walmart for good. It’s just not how the human condition works. It’s not how the economic system works.
This myth of the market going up and down, it doesn’t. It goes up with breaks. Sometimes there are long breaks, sometimes there are breaks that really hurt. But the market has a very forceful upward bias and when you fight it, you tend to lose. When you look at the pandemic, it was an average bear market in terms of percentage. It was the pandemic. It was a 34% drop around March 24th, which 34% happens to be the average of a bear market.
What was unique here is two things. One, we got to that 34% drop faster than any time previously in history, and two, we all had all kinds of time to watch it because we were at home, and I guess we just throw in three, we all thought a lot of people were going to die. A lot of people have died, but the projections early on of 3 million plus Americans, for example, that were coming out when we didn’t know the mortality rate and didn’t know a lot about this virus, it was horrific. But no matter how horrific it is, the reality is we have a bias of operating in an open economy and the question wasn’t if we would recover, but how much cartage there would be and how long it would take to recover. It really just burned people that tried to time it or panicked.
Jonathan: I think you’re actually right. One of the things that was emphasized for me by 2020 is the value of doubt, and that is doubt in your ability to anticipate the future, the ability to guess which way the broad market is going, to guess which sectors of the market are going to do well. I mean, sure, there are certain things that you should not have doubt about. You should not have doubt that holding down investment costs is a good idea. You shouldn’t have doubt that managing taxes is a good idea, that diversification is a good idea, that stocks are going to triumph over the long run, but you should have doubt about your ability to forecast what’s going to happen in the weeks and months ahead. The people who got most badly burned in 2020 were those people who had really strong convictions about which sectors were going to soar or sink, and what was going to happen in the broad market. Having doubt turned out to be an enormously valuable quality in 2020.
Peter: Yeah, I agree. I mean another reaffirming thing for me in 2020 was that people are poisoned by this abundance of information. One great thing is we have so much with… Obviously when we were younger, there were three TV shows to… It was ABC, NBC, CBS, you got your news, it was a 30 minute increment and then the paper the next morning, and then that was it. Well, now it’s around the clock nonstop, all over social media and all these different outlets and we have more information, but I am convinced, less knowledge. People don’t have a filter for this stuff and a big key to success with investing, and I’ve been saying this for over 20 years, is to know how to filter out the noise.
What’s really changed in the last decade, and just basically throw out the invention of the iPhone right about a dozen or so years ago, that really changed. That opened up social media in a way where we have us abundance of information, abundance of noise, that’s harder to filter out. I see it with every election cycle. When President Obama won all these people told me they were going to move overseas, and some people went to cash. When President Trump wonk, people told me they’re going to move overseas. Some people went to cash. Now I’ve saw more people go to cash anticipating a Biden win than ever before, and what a mistake, what a mistake.
I mean the markets had, I don’t know if it’s going to be its best November ever, or one of its best Novembers ever, huge rally leading up to in post-election. Markets get past whoever’s in office. I don’t know how many newsletters… I think every election for the rest of my life, I’m going to have to write this same newsletter and just replace whether it’s a Republican or Democrat in there. People overestimate the influence that a president has on economics. They do have influence, you can’t say they don’t. They do influence fiscal policy, tax policy, but it is one of many, many, many factors that people tend to overstate because it’s such a big proportion of their news. Social media, cable news, it’s absolute poison, if you don’t know how to filter out what you need to filter out to make good decisions and I think I saw that this year more than I’ve ever seen in my career.
Jonathan: Because of social media, and because there’s so many news channels available to us, we can essentially opt into the narrative that we find most compelling. That’s not just in a political sense, it could also be in a market sense. So if you are nervous about the market, you can find plenty of people to reaffirm that belief and if you’re bullish, exactly the same thing. So this is one of the things that has really hammered home for me in 2020, which is this notion that risk tolerance is not stable. The number of people I heard from who came into 2020 and said, “I’m a hundred percent stocks. I’m big and brave. I can ride out any market decline,” and five weeks later, they were in the corner of the room in fetal position, whimpering quietly and sitting in cash. People do not understand their risk tolerance and social media only makes it worse because it fuels all of their fears.
I’ve said it before, I’ll say it again, if you cannot get this done on your own, you need to find somebody to hold your hand. It can be a colleague, hopefully the human resources won’t mind that, it can be a financial advisor. Whoever it is, you need somebody to hold your hand through these market declines so you don’t make panicky decisions.
Peter: Yeah, and I would say that neither of us want to belittle what happened this year. I mean, it was truly, really horrific, on many levels, particularly in March of this year. I had two advisors, interestingly both of them men that had been in the business for over 20 years, that were in tears, in tears, on the phone talking to me about the stress that they were feeling that they were under. Part of it was watching the markets, part of it was absorbing that stress from clients that were panicked. I mean, the fear was palpable. But I think that it’s a great lesson. You really need to reflect as an investor on how you got through. If you did not sleep for a week thinking about your portfolio, fine if you’re thinking about your health, but if you were losing sleep over your portfolio, you’re in the wrong allocation. The time to measure that is when you’re going down the hill on the roller coaster, not a week afterwards when your memory gets all fuzzy and you forget.
Really try to take a snapshot of your feelings and your behavior so that you can make an adjustment, because that’s the real lesson. You can’t get it from a questionnaire. You’ve got to get it from real life. The market is going to give you that opportunity every couple years, but you really want to try to correct after the market’s recovered, based on how you felt going through it.
Jonathan: So, Peter, before we move on to our next topic, I just want to mention one other thing about 2020, and it should be a reason that people are optimistic about the future. You think about what the world looked like in late March and through February, and you think about where we are today. The human perseverance, the human ingenuity that we have seen this year, the fact that, every day, people around the world get up and say to themselves, “How can I make my life better?” And that drives them to set out to improve their lot in life, and when they improve their lot in life, it improves the lot for the rest of us.
I’m not just thinking about the pharmaceutical companies and the work they’ve done in terms of developing vaccines. I think about mom and pop, business owners, restaurants, everybody trying to figure out how to keep going through this extraordinarily difficult period. In the years ahead, when you get worried about the economy and you get worried about the stock market, remember how people respond to this situation. I’m not saying there weren’t a lot of missteps this year in the way we handled the virus and so on, but the perseverance and the ingenuity have really been remarkably impressive. People should take heart from that. It should really make them more optimistic about the future.
So Peter, we’ve been through 11 months of 2020, we have one month to go. What can people do in the final month of 2020 to improve their financial wellbeing? What would you suggest that people think about doing?
Peter: Well, I think that this is a great time to revisit your allocation, so the markets are resilient. Many asset classes have recovered. In particular in the allocation, look at your amount that you have in bonds versus stocks. So there’s a lot of other decisions that happen in a portfolio, whether the stocks are US or international, whether they’re big or they’re small, these things all have some implications, but they’re not as significant as the difference between the three big groups of asset classes, stocks, bonds and alternatives.
Bond yields dropped a lot this year, so most people know mortgage rates are at all-time lows. That’s because interest rates are at all-time lows and bonds are tied to interest rates, and so if you buy a bond, you’re getting a very, very low yield now. If you loan money in the federal government for 10 years, you’re going to get less than 1%. This is a time to basically look at that allocation and say, “Do I need this much in bonds?”
Creative planning when we’re building plans for clients, we like them to have enough to get through five years, seven years, sometimes more. But once you get beyond that, those bonds have a very high probability of dragging down your return over time. So see if you can get comfortable pulling back on those and going to alternative investments, if you’re higher net worth, and willing to deal with some complexity or to stocks, if you’re willing to deal with a little bit more volatility. This comes back to the risk question, but bonds are very likely not going to do what they did in the past 10 or 20 years. It would be almost a mathematical miracle for them to do it for the next 10 to 20 years, and so that’s, to me, the biggest thing you can do to impact your financial wellbeing over the next decade.
Jonathan: So, as we approach the end of the year when a lot of people traditionally rebalance back to their target percentage years of stocks, bonds, and other asset classes, maybe you want to be rethinking those percentages and potentially allocating more to stocks and less to bond, assuming of course that you have the risk tolerance to go with that.
One other thing I would think people might toy with doing, particularly if they’re self-employed, which more and more of us are, working in the gig economy, and you’re thinking about, do I want to be, say, buying a new computer this year? Do I want to be rushing to bill clients before year end to get in that extra income? And what you might want to do is think about what’s your income’s going to look like this year and what it potentially will look like next year. If you’ve had a really good year this year, maybe this is the year when you buy the new computer. If it’s been a really good year this year, maybe you hold off billing clients until January, so that income hits 2020’s income tax return.
This is a great opportunity for people who are self-employed to manage their taxable income, and I don’t think people give nearly enough thought to it. And similarly, if you’re a retiree, and you have a lot of flexibility over your income, you can think about, “Is my taxable income in 2020 going to be all right or too low? Maybe I should do a Roth conversion.” Maybe it’s been a really good year, in which case you want to push off something like a Roth conversion or a taking capital gains until 2021.
What about other things that people should be thinking about before year end, Peter?
Peter: Well, I think that this is not going to be a planning tip, but it comes back to what you were talking about in terms of people’s resiliency. I think that a big takeaway for people should be reframing the way they think about the world. I mean, decades ago, people said we were going to run out of food, but we invented ways to create more food with less land, and turns out, that wasn’t a problem. Human ingenuity resolved that.
There was a very famous book, Peak Oil, we’re going to run out of oil and the world’s going to fall apart. Turns out technology allowed us to find more oil and technology allowed us to extract oil that we didn’t think we could extract before, and technology made us less dependent on oil. So it turns out, that’s not a problem. In March and April, the smartest people in the world, the people we were supposed to be listening to told us, there’d never been a coronavirus vaccine, and so we may very well not get one, or it might be 5 or 10 years. Here we are within months, we have three of them that have been approved.
Look, we don’t want to get ourselves into a bunch of crises in mankind and hope that human ingenuity finds a way out, but the reality is, what drives markets, and I talk about this all the time, is technology and innovation and we are living in an era that people will be reading about centuries from now. I think we can appreciate that simple fact, it will make us better investors. It’ll just give us the confidence we need to get through the next crisis, because if somebody’s listening and they’re 60, there’s going to be 5 or 6 more crises in your investing life. So keep that at the forefront, instead of maybe hearing drumbeat of negativity coming through social media, cable news and everywhere else.
Jonathan: One last thing to think about before year end, a lot of people at year end make charitable contributions, and this year, more than ever, it’s a great thing to do. Even while the economy has shown remarkable resilience, there are a lot of people out there suffering. If you can afford to open up your wallet and make a charitable contribution, this would be a great year to do that. If you think that you’re not going to be able to itemize your deductions because your contributions are actually small, maybe you want to make a big contribution this year and count it for both 2020 and 2021. I’m sure you do this for lots of clients Peter, also think about setting up a donor advised fund. That way you could make a large charitable contribution today, get the tax deduction, and then dole it out this year and perhaps into early next year, as you identify the charities you really want to support.
Peter: Yeah, I’m a very big fan of donor advised funds and you still have time between now and the end of the year to set one of those up quickly, get with your financial advisor or CPA and figure out the right amount to transfer over there. Like you said Jonathan, pre-funding the future. If you’re giving 5000 a year away for the next 10 years, and you can get a bigger break this year by giving all 50 away this year, move the 50 to your donor advised fund, it’s the amount you were going to give away anyway, but you might get a bigger break if you get the right advice.
Jonathan: Peter, it’s our final podcast of 2020 and you know what’s coming next. My final question to you, what is your tip of the month?
Peter: We talked about one of the things you’re allowed to do to avoid a state tax, you can give money. Anything you give to charity is not subject to a state tax. But the other thing is, anything you don’t own when you die isn’t subject to it either, and so a lot of people like to give away money and the government has a limit on that. Right now, it happens to be $15,000, but it expires at the end of the year. If you don’t give it away this year, you don’t get to add it to what you give away next year, so think about the gifts that you want to make and you’ve got another 31 days to make them.
Jonathan: Good idea, Peter. I’m willing to take gifts. You can give them to as many people as you like.
Peter: A lot of people think it can only be to family, but you can actually give it to anybody you want.
Jonathan: That may not be allowed under securities laws-
Peter: Yeah,
Jonathan: … to give it to me, but anyway. My tip of the month, take a moment, go through your latest bank statements, go through your credit card statements, see what regular monthly deductions are coming out of your bank account, getting hit on your credit cards. It might be things for streaming services, it might be for special cable packages, gym memberships, subscriptions for apps, subscriptions for magazines. A lot of people sign up for these regular monthly or annual deductions for services they no longer use. So go through, find out which ones you aren’t using and hey, pick up the phone and cancel them if you can. So that’s it for us, Peter. That’s the end of our final podcast of 2020. I’m Jonathan Clements, with me is Peter Mallouk, President of Creative Planning, and we are Down the Middle.
Disclosure: This commentary is provided for general information purposes only and should not be construed as investment, tax, or legal advice. Past performance of any market result is no assurance of future performance. The information contained herein has been obtained from sources deemed reliable but is not guaranteed.
