WealthFactor Review & Update: January 2021





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Good afternoon. Welcome. Thanks for tuning in and joining me. My name is Bill Woodruff. Today, I'm going to be hosting the wealth factor, review and markets investing update through the end of January 2021. Before I get too far, in a couple words that I'm going to read for compliance purposes, this call is for informational purposes only and may be recorded statements made during this call or the opinions of the speaker, and are subject to risks and uncertainties, some of which are significant in scope. And by their very nature, beyond the control of wealth factor, there can be no assurance that such statements will prove to be accurate and actual results and future events could differ in a material way from said statements. Historical results are not necessarily indicative of future performance.

So by way of background, and just a little bit about myself, I've been involved in investing for over 20 years across a variety of both small businesses, one of which I had founded and managed, as well as operating as the managing director in running the liquid ops business for this subsidiary of a publicly public company fortress Investment Group. Well factor is, is comprised of the team listed here, Patrick, greener Berryville. And Hannah Domingo and Tyson Edwards, we are a Lake Oswego based investment advisor. And we're, we approach things I think a little bit differently than than many, you know, I've spent a lot of times over the last several months really reevaluating how our wealth related services being offered generally, and questioning that and saying, you know, what, what should that look like? And how can it be different. And, you know, there's a lot of things going on right now across the world, socially, from a technology and innovation perspective. And I think there's a lot of opportunity across a lot of things to do things differently and be innovative. And so well factor, were working very hard as team to approach things differently. And, and hopefully, through something that's perhaps reimagined in the way in which services were provided, offer something that is different and more efficient, as well as better. So today, we're offering an investment focused service that's plan oriented. And every one of the investment plans that we create and implement on behalf of our clients for personalized for each one, we don't do any model based portfolio work. We don't do anything driven through a really an intermediary or sales person, which is, you know, I oftentimes referring to the average financial advisor is not much more than a salesperson, which I think is a is a expertise gap. You know, I think there's a lot of value to be that's provided by the average financial advisor.

But a lot of that value is is behavioral oriented, or concierge oriented. And not a lot of not enough of it is expertise oriented. So we all the services that we provide, that are investment related are provided through an independent and third party custodian where we are granted an independent power, or sorry, a limited power of attorney. And then we operate through. And this is really the unique driver to what we do a very, very low point three 5% asset based fee for our services.

So today, I have spent a lot more time on preparing this than I do on average. And I'm a little bit concerned, I'm going to get a little bit wonky on some of you, and I'm going to work really hard not to do that. Because I know that's not valuable for those of you that are participating. At the same time. It's there's a lot going on, there has been a lot going on and certain elements and financial markets are repeating themselves or maybe repeating themselves. And I think there's a lot of a lot of market participants that are doing things that are probably based on the wrong reasons. And I'm going to go through some specific examples on that and hopefully try to unpack and describe you know, how does that

This time about what drives it, and why I think people should be thinking about and working towards doing things differently. So, you know, I'm going to start out with just a quick, here's what risk Smart Investing is which risk smart is the founding point four wealth factors, investment philosophy, and throughout all my comments, it's always through an evidence based perspective. And how I would describe evidence based is, is really, for me, the starting point for almost all things is, I don't know, I don't know, I can't predict what's going to happen tomorrow. And I think that those is my opinion that those that believe that they can purely just don't understand the risks associated with or uncertainties are drivers to what drives asset prices, or financial markets or economies. So we'll spend some time kind of going through what's been going on, both in terms of the real recent history January, and then kind of consistent to these calls, I tend to gravitate towards the long a longer term time horizon, as that's what I even though the cadence of these conversations are monthly, the the goal really is to make sure we're constantly focused on the ingredients that will lead to maximum probability of successful outcomes.

So I'll look at and unpack, you know, and think through what happens what what causes prices across global financial markets to change in the short run? And then what causes prices? What what drives price over Mark fuller market cycles? And then tying that all together? It's, you know, how do we capture that return? And what what should we do and what should we try to avoid? So risk Smart Investing is has three different component parts. And the first part is portfolio smart. And as as I've described this over the years, it's, it's kind of I used to kind of separate evidence based investing, but really all portfolio smart is, is evidence that all of the tenants or theories around what the industry calls, evidence based investing. And so those are relative to being portfolio smart, avoiding activities, such as trying to pick stocks, pick sectors, time those stock sectors or wind to be interested in the market. And then secondly, is really more about structural efficiency, avoiding layers of management, middlemen, salespeople, and then avoiding complexity. It's my belief. And you know, my background fortress, as an example is very much in the alternative Asset Management world where things got very complex very quickly, in terms of the the investment strategies and funds that that I may have been a part of in the past. And it's my belief that complex complexity forces one to charge more, and that when you have high fees, or high costs, you're forced to take more risk. And so I believe that for the most in most situations, one is far better off avoiding all of those things. The second component part of being risk smart is fee smart, which starts with our fee and unique approach to pricing. But then in certain situations, we're using underlying funds or ETFs. And in those cases, where we're using index based funds, which tend to be more cost, and fee efficient, and so be smart is the second part, the last part is tapping tap smart. It's my belief that the average advisor in the industry thinks about tax last, and which I suppose is hypocritical of me and that is the last component part in how I'm describing this however, tax I believe is the single greatest way in which a investment professional can add personalized value in providing an investment service and it should not be an afterthought it should be incorporated in thoughtfully in an investment plan. Well factors founding was really built around direct indexing systems and tools for the purpose of taking tax level control.

So as I think about you know, what's what are the what are keys to success? What are the primary keys to success, on avoid unnecessary risk, and so very much about being fi smart. And then as I think

About the second key here that I have listed, avoid emotional or behavioral mistakes, I believe, layers of management, complexity, picking and timing, all of that increases the challenge and likelihood of behavioral or emotional mistakes. And so RiskSmart really is a philosophy that blends the best elements of buying and holding passive Investment Management. But taking that through a unique personalized investment plan for each individual situation. So migrating over to the, you know, what's going on out there. So it's, it's been really, it's been really interesting, January was really interesting. And maybe it's just because the media got into our faces a little bit and drew our attention in. Maybe that's because they needed something to grab our attention with. And they found something. And so, you know, I'm going to look at last month, and I'm also going to kind of start to think about the last 12 to 24 months, and then tie that into intermediate and longer term cycles, and then start to ask the question, you know, does some of this activity that we're seeing makes sense? And what might we want to try to start avoiding, intentionally from an exposure perspective.

So you know, if we look back at the pandemic, it's likely accelerated a variety of trends in lots of different areas, but specific to investing, we have more people working from home, we have apps like Robin Hood, and others, making it super easy to trade and probably contributing to a reemergence of the individual doing the making effectively what our stock picks, they make it Yeah, picking stocks and timing, when to buy and when to sell them. You know, another trend that we can kind of identify that, I think is a broader trend, but certainly fits into the category of an accelerating trend. But larger businesses haven't necessarily been as affected by smaller companies and absolutely small businesses, by the pandemic. And that's fueling a broad scale increase, probably in wealth inequality. And there's probably a bunch of social interrelatedness to some of the active trading by individuals.

And so I think there's a lot there's lots to really think about and reflect on through all that. The last thing that that that was happening more from an intermediate term basis is momentum oriented stocks, specifically growth, tech innovation, and then more recently, with the Biden, when things like green energy, have been doing well, for quite a while now. And they continue to do well. And if you think about that, in tandem with the individual investor, there's probably a net another interconnected element there. And I think a lot of that is, it reminds me a lot of, you know, obviously, markets don't repeat themselves. But I've heard you know, one thing I've heard is they Ryan, and so a lot of this is reminding me of my activities, my personal activities in the late 90s. With the tech run up, you know, obviously, this is very different. But from a behavioral perspective and abroad society perspective, a lot of the, what I'm hearing from market participants, is, there's a lot of the same of that. So, so then I've got a couple examples here, I'm going to spend a little bit of time on, try not to, I try to avoid completely individual name, energy at all. But GameStop is worth commenting on in the context of using it as an example of an A really accelerated case. So GameStop, in case you're not familiar, although it'd be hard not to immediately really made a big deal out of all of it. It was a it was a company that a group, a social media group, got very behind and started buying. And then they identified that there was a bunch of hedge funds that were short this stock and betting against it. And they they identified that they if they put enough buying pressure on it, they could force those hedge funds into very difficult decisions and potentially force them out of their short position causing more upward pressure on the price and so that the thing that I want to highlight here is those sorts of activities are not investing. Right. So

If you have a group of market participants that are buying something solely for a purpose that doesn't have any relationship to the economic, the economic viability of the future potential profits of an enterprise, that's an unhealthy activity. It's also as GameStop has already shown, I think the peak pricing was just under 500. And last I saw was down under 60. Again already, and again, why I'm using it as an accelerated case is that that sort of behavior is not investing and likely very speculative. So I'm not going to spend a ton of time talking about GameStop, because in the grand scheme of things, outside of perhaps some social inequality, issues that might be deeper issues, is not really relevant. It's more of just, I think, an example of this disconnect between rational investment, rooted decision making and buying and selling. The other company that I think is worth talking about is Tesla. And a lot of people are trying to compare Tesla and game stock. That's not a fair comparison, because even though Tesla may not have its core business, one that's currently profitable, you know, Tesla has, is wildly different, right? The, there's a lot, Tesla probably still needs to figure out and prove to, to grow into its current value, I think the market capitalization is around 800 billion. So it's very large. But unlike GameStop, where, you know, and I'm not going to say I know, certainly GameStop couldn't be a 20 to $30 billion value company. And I haven't shared a lot of detail about that on purpose. But basically, they sell actual physical video games out of 1000 plus retail locations, mostly in malls. And so you could kind of quickly draw the Connect to why hedge funds were betting against the company. But anyways, Tesla is has a lot of these same themes in terms of market participants, purchasing Tesla, for reasons that might be very much driven by future hope. And in contrast to GameStop, Tesla has had a lot of things go very right for it, which had you speak to this momentum concept which I must spend more time on next, and other different tailwinds. But you so if you rewind one to two years ago, Tesla

was, there's a lot of people that were thinking that they would have a difficult time having enough cash to pay down the debt that was coming due. And so hedge fund is very similar to GameStop, we're betting against it. And then and so Tesla, that risk is largely gone away. I think it's also worth noting, and Tesla's just a very good example of this, in addition to a lot of structural and business elements going very right for Tesla. In addition, they are in the right place at the right time from a short term driver of price. They're innovative. Again, specific to the Biden election, when they're green, energy oriented, and they're absolutely the poster child of all things momentum, right. They and momentum, what momentum is is a major of what's done while yesterday is probably the simplest way to say I'm gonna invest in things that did well, yesterday. And if you also think about the individual investor, they have a very high propensity to pick their universe of what they're going to buy based on what did well, yesterday. So when momentum as a driver to tomorrow, stock price change is doing well. Those are the sorts of environments where the individual actually is likely to do well. And there's been a lot of talk about individuals, outperforming entities or advisors or buy and hold. I think that's probably largely linked to momentum being the factor. That's been the tailwind.

And so I don't want to spend too much time on individual companies. But I wanted to share those to kind of subset data points as a kicking off point to some more thematic or global topics. So I got my red X's out on this, I found this graph on the internet. And so I borrowed this study, but I applied my evidence based logic to it. So what what this is, is this idea of the company and this could be applied to factors sectors, overall markets, and this is trying to say what's the behavior and cycles of behavior. And so the particular person that put this together says smart money, institutional investors and then the public. As an evidence based investor, I would argue that smart money's probably not smart, whoever it is public institutions.

You know that the, it's I think it's very difficult to discern between luck and skill. So I crossed that I'm called that lucky money. And then for institutional investors, the thing that I think makes institutional investors is their time horizon, they have a very long time horizon. And then they generally are pretty inactive. And so I cross that out. And so now the buy and hold investor, regardless of what type you are, is the type that probably, you know, they're not going to be the first one to get a significant part of a portfolio exposed to something that ends up doing really well. But just through diversification and buying, holding, they're likely to benefit. And then, you know, at the end and cross out public, and really all things active traders, and I spend some more time on that. But what this is kind of saying is, you know, there's these cycles where the media grabs attention to something which sort of happened with GameStop, it gets really enthusiastic greed and delusion start to kick in, gosh, I can't, I engaged I was I just couldn't help myself, I engaged in some social media channels, kind of by intent. I was just curious, you know, where's the psychology app for these individual traders? And it was in regards to GameStop. Specifically, it was fascinating to win the price up in the 300 plus range to hear about the way in which they were thinking about the opportunity, I mean, in their minds. And this is what the benefit of hindsight, right, the stock traded well, under 75. Today,

you know, in their minds, there was no risk, it was all opportunity. And I'm seeing that there's, I know a handful of people that have a phenomenally high percentage of the portfolio. In Tesla, I think the same psychological mistakes are being made where it's, there's no way this is going to fail. And I think there's a disconnect between the the market is being driven by things that are not there, there are other elements, not just simply the probability, that over time that company will produce the profits that warrant its current valuation. I pause there and highlight that you hear a lot of counterpoints to let's say, Tesla as a great example, oh, it's overvalued, I would push back on that concept in that, to conclude anything's under or overvalued, you'd have to know what's going to happen in the future. So I would argue the better way to think about this is, is Tesla's current market capitalization or total value over pricing or the the probability of economic earnings supporting that current valuation? So that's the best I think one can do is say, it looks probable that Tesla cannot, that the math just won't work in terms of what their earnings opportunities will be going into the future. But But really, one cannot predict what earnings will be really even the next quarter out. So, which is part of why one probably shouldn't try to pick stocks to begin with.

So what drives price in the short run? And sorry, I warned you guys, I was gonna get a little wonky today. But what what drives price in the short run? Well, first of all, I'm going to start off with this adage, which the hedge funds learned the hard way. And it feels like, in my time in the hedge fund industry, it was interesting to see a hedge fund manager launch his strategy, do really well it stopped working, then close the fund, come up with a new idea, launch a new fund, and rinse and repeat. But markets can stay irrational longer than an investor can stay solvent. And what that effectively means and GameStop is the example of that, where this time the and this is why I got I think the media's attention so much the retail or individual trader, in aggregate, was forcing the hedge fund or those short game stock to become insolvent, even though it was irrational. So that was it, it was super interesting what happened with GameStop. I think the sad thing is, of the three to 5 million individuals that participated in GameStop, I would estimate, I'm just guessing, but 90 plus percent of them probably bought after a price that's a price that's higher than it is right now and and are selling at a loss. And so while that's very entertaining, it's probably an activity that hurt a lot of people. Individuals. I think it's also worth noting that while the managers of hedge funds are
people that probably are quite wealthy, and it's really most of the funds they control are just other investors or market participants. And really, hedge funds are not much more in my opinion than a perform a fee scheme. So that there's incentive to take a lot of risk and generate a lot of return. So that fees will be higher. That's that's an over general

Okay, so what moves, what in the short term moves, what drives prices in the short term? Things like supply and demand that GameStop examples, a perfect example of that market sentiment, you know, what's the general perception about a stock, a sector, the overall market, etc. And then lastly, fear and greed. And so greed, fear is obvious, right? markets 2020 pandemic happens, the economy's going to be poor, for a while, I'm afraid I'm going to sell. You know, that's, that's happened over and over again, across all types, all investor types. And you know, the way to avoid that is to have an investment plan, and have that plan, consider and know that there's going to be those market events. Greed is probably not quite the right way to talk about this, it's greed slash, a disconnect between understanding and thinking about what the true underlying risks are. So it's almost whether it's greed, or just simply an ignorance, or an intentional, or some sort of just natural human tendency, during certain situations to overlook risk. And so, you know, risk smart as a philosophy. And really, I think my biggest area of expertise, is thinking through very intentionally, you know, what is the actual risk here? And am I getting compensated for that. And then more importantly, is that risk, the right type and right amount for the time horizon, or the structure of an investor, as well as their behavioral tendencies. So should one try to pick stocks, I've got this, I'm not gonna dig into the detail, but investor behavior elements here.

And there's all sorts of this stuff going on right now. And in my brief time, in the social media forums, it's hurt, you know, hurting copying the behavior of others. I've had a conversate extra verbal conversation with somebody prospective client. And, you know, he shared with me, I've got my Robin Hood account, and I've got my friend, he has this method. And every time he's been doing really great for the last 12 months, he's up 100%, or whatever it is. And this guy was explaining to me that he just buys those names. And he doesn't even think twice about why other than his friend is doing really well. And I skipped over unintentionally, but I'm going to touch on it in the in the overview of agenda, you know, has the individual

day trader become a talented stock picker over the last 12 to 24 months. And it's clearly a rhetorical question, their skill didn't really change. It's probably just more of a variety of tailwinds. And then also maybe social
circumstance and situation that put them into a position where they think they should be doing these sorts of things.
Okay, so on a related topic, should you so I don't think one should try to pick stocks, that's supported by evidence based investing an academic research the case for passive? And then should you try to time the markets as the other thing. And, you know, really, if you're picking stocks, you are timing.
It's, I think there's a lot of people that are this group who has gotten active in picking their own stocks, some of them are saying, Oh, I'm going to buy and hold this portfolio for a long time. You know, to the extent you have concentrated positions, or you're just there, it doesn't make sense for you to probably hold that into perpetuity. And so you're, you're kind of forced into tiny decisions unless you have if you're picking stocks, by by its very nature. But this what I've done here is organized. Three different data points the and the timeframe. 2016 2019 was driven one by HFR hedge fund, index i use and then the dal bar study the data available for there confine me to 2006 to 2019. So buying and holding s&p 500, over that period produced approximately an annualized return of 9%. If you took the top 500 largest investable, hedge funds over that time period 4.4%. And then the dowel bar study, which attempts to quantify aggregate individual investor behavior and what their results are was 6%. So the media, I think, has really done a lot of people a lot of disservice in the last several weeks where they're going in and talking about this hedge fund versus individual and really emphasizing that in the news. I think it's really missing.

Guided, that if the media weren't trying to just get your attention and sell you and keep your attention and sell you media, that's entertaining, you know, the proper way to think about the examine this isn't hedge funds or institutional investors versus the individual. It's the activity associated with trying to pick stocks and time markets, or active management in aggregate versus passive investing. And so, you know, unfortunately for passive, it's really boring, and it really doesn't sell media. But the point here, one point that's really worth highlighting is hedge funds, while they get this perception that they're super risky, you know, just like the s&p 500, if you invested in one stock, that's super of the s&p 500. That's super risky. The same thing is true, we invest in one hedge fund, but as soon as you aggregate them all together, the risk really goes down. And that makes if you look, if you examine what your net exposure is across an enormous basket of hedge funds, in this case, 500, you really have a net exposure to equities of less than a full portfolio. And then on top of that, you have an incredible fee level. So without out market outperformance without picking and timing being successful, you would expect hedge funds in aggregate. They're all competing against themselves to have less return in the market. And then in regards to

the dalbar study, which they're the kind of the industry thought of research engine for investor behavior. They their studies consistently show that the average investor largely underperforms because of timing oriented decisions. And so I think the evidence is one the media ought not to I think sensationalize things that probably aren't really relevant to
investing success. And to the case, from an evidence based perspective really is one of efficiency, buying and holding and passive over time. And I'll continue to spend time on that, or I'll tie this back together at the end. And so going back to this topic of

you know, I started with GameStop. I talked about Tesla, and I'm going to take it next to the next, the next step of factor overall exposure. So I talked about the momentum element as a trend. Well, momentum is something that we can take a big group of stocks and quantify. And that's what this has done here. And I apologize, there's 1000 data points on here, I'm going to hopefully use my mouse to highlight just what I want you to take away from this. So and I think again, it links I think to why the individual who is suddenly decided to try to pick stocks in time markets feels confident right now. So momentum as a factor has done really well, for this time period 2006 to 2020, it is the best performing factor over this time period. In addition, momentum and again, momentum. So the way in which this MSCI underlying momentum factor is being calculated is looking stocks that did well the prior six and 12 months. And then how did those stocks do over that next year. And so so, in 2020, this data point right here, so stocks had done well, in the last six and 12 months in 2019, did produce a 29.6% return in 2020. So that's what this data is trying to communicate. So one this entire last, whatever 15 years, momentum has done really great. And then even and then on top of that momentum is was the best performing well year to date, this January, it's in the top 2020 was the top third and 19 second and 18 first and 17. And so both in this intermediate term, that's kind of push into long term, this whole period, and then in recent period, momentum has been the place to be. And I think that's creating it contributing to what this there's nothing I'm not saying that we look at this data and we can use it to be predictive. That's not the point. I can say from all of my limited, I'm just human research. Most of these sorts of things tend to cycle. We can't predict the rate in which they cycle. But to the extent I see a factor that is one, the one that's probably going to drive individual investor confidence and is done really well recently. That's probably one I'm not super comfortable having a disproportionately high amount of exposure to At a minimum.

And so another data point that I would highlight here is value over this entire period is the worst performing. And small companies are very low as well. And if you looked at this sort of factor based research over the very long run, I highlight small and valued because they are actually the top two performing factors, if you look back over time, so again, the point isn't to be predictive here and say, Okay, well, small and value have historically been the best factors to be in over the very long run. And we've had other factors like momentum, driving recent results, maybe it's time to be tactical and shift, I don't like that, again, just based on trying to avoid picking timing. But what I will highlight as a concluding point to this is, if you look at multi factor, which is effectively a basket of these various factors, it generally tends to be in the middle. And I think in this sort of graphic, perhaps you've seen it before this sort of chart in Sector performance or asset class performance, it's fairly common to display this sort of data in that way, whether it's sector, or overall asset allocation, I believe the best way to do it is just like this multi factor, approach, and attempt to avoid the picking decisions and timing decisions of where to be in favor of diversification.

So tying this kind of together, right, so we're I kind of picked apart and picked on the idea that one should try to actively manage really anything, I focus mostly on picking stocks, and timing, stocks, the market sectors, etc. But really, there's a compounding element here across the industry in that when you have a business that is built around layers of people, and really Wall Street just grew up this way. And they're they've created this perception and created this business around it. And really, you think they want you to believe that you're hiring them for this expertise of picking and timing, even though there's no evidence, oh, that really is robust enough beyond them identifying some probably intellectually dishonest window of this one manager did very well, or our universe of picking this universe of managers is really good or really talented, you know, we're really talented at that. And I guess that's the world that came from. So I'm kind of picking I'm throwing class or rocks at my own former glass house, but this is how I got here. Right. I, I grew up in a hedge fund world, I grew up in building portfolios, where I was picking underlying managers and, and so

back to the kind of the concluding comments or thoughts. So you know, picking and timing in my mind is is something that is easy to get sucked into and drawn into for lots of reasons. But if we if we take a step back and say, Okay, well, if our goal is truly to maximize the probability of success, or in a way, what a success mean, maximize return, maximize return relative to risk, I suppose that needs to be defined. But if you're an investor, the thing that I think that you're what you're wanting to capture is displayed in this graph. And what this is, is a fairly long stretch of earnings aggregate earnings for the entire s&p 500. So the 500 largest to be the s&p 500, you have to have for profitable quarters. And so there's some technically active criteria to what goes into this 500.

But what you're trying to capture as an investor really is through buying and holding this phenomena of earnings, earnings, growth, earnings, and then the growth of those earnings. And so, you know, it's not quite 10 times over this period of time. But I think when investors starts to make decisions on buying GameStop, or buying Tesla,

it gets disconnected from what what drives actual s&p 500 returns and why passive investing is so valuable and is likely to work, which is it is the simplest and easiest way to capture the change in earnings or the future earnings of what is in effect. The currently Let's hope, you know, we can continue us has a lot of privilege to be an incredibly influential economic driver to the global economy. And I'm not concerned about that changing anytime soon. And I think it works. We're just going to see a broad more diverse landscape of large countries. contributing. But it's
so the if you think about the s&p 500 it what it represents, it's not something magical. It's not a mystery, it isn't in the short run. But over a long run over the long run, owning a diverse basket of companies is just being exposed to enterprises that provide goods and services that people and businesses use. And there's earnings over time, and then therefore the share price goes up. So,

you know, at that point, at this point, I'd like to pause I have made the practice in just because of the cadence of this. Two different questions to individual dialogues. So I'd like to thank you for tuning in and participating. And please feel free to shoot me an email or give me a call and actually through the website there in the top right, there's an opportunity to schedule time and so if you have any questions, or would be interested in discussing any of these concepts or other concepts in greater detail, I would welcome those conversations. So hope you have a great rest your day.

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