Best of MFM: Listen To This Before You Invest Another Dollar

how would i take ten k and turn it into a million circa twenty twenty five we cannot go into the s and p the s and p is overheated so what i would do that would treat berkshire hathaway as the index if you bought the s and p when the pe ratio is twenty three your annual return of the next ten years was between two and minus two so all you have to know buffett made at least four hundred investment decisions he's saying twelve are the ones that mattered the god of investing has a four percent hit rate investing is in it game you don't really win all news the players just decides to drop out there be such a freaking idiot the risk is thing in the world is the beliefs that there's no risk when the time comes to buy you won't want to if i said what's the number one trait that makes a great investor what comes to mind i feel like i could rule where to know i could be what i want to from at all in and like a days off on a roll let's try so look let's play game you're my coach you're my investing coach let's say and i have ten thousand dollars and i wanna turn it into a million right podcast called my first million i wanna go from ten k to a million so that's a hundred x how would i take ten k and turn it into a million the thing about investing is that opportunities are not going to show up just because you have the cash so i would make some tweaks to your thinking first about the ten k so i would say okay the ten k is a good starting point but i what i also want you to do separately from that is have a day job yeah okay and i want you to spend less than your earning and i want you to take the ten k and i also want you take your annual savings maybe that's five ten thousand a year or whatever it is and normally i would say put it into an index right the index that the s and p is overheated mh we can't go there right now circa out twenty twenty five we cannot go into the s and p okay okay maybe twenty thirty five we can but not twenty twenty five so what i would do is i would treat berkshire hathaway as the index so i would just say the default currently is you put it you know dollar cost average into the into berkshire class b shares okay and you keep doing that day in day out and if we did that you know the the math is really simple even if we were doing ten percent a year right i mean of which i think is for pretty reasonable for berkshire rule of seventy two we would double every seven years life is all about doubles okay let's say we are a twenty something guy with ten thousand and you go for fifty years or forty nine years it's seven doubles right okay seven doubles is one twenty eight okay it's one twenty eight times your money i gave you more than a hundred x right i gave you one twenty eight x in forty nine years without having to with genius with without doing anything right right so this is just plan b right where we put the ten thousand in it becomes more than million one point three three million with no taxes paid right there's no dividend there's no taxes there's nothing and we haven't even gone to plan a yet right this is just sitting there alright let's take a quick break because they got a little freebie for you so if you're listening to this episode and you like what just talking about you might be like me you're trying to take notes you're trying to remember these principles that he's talking about because the dude is just a wealth of knowledge when it comes to investing well the fine folks at hubspot listen to this episode they took the transcript they put down the nine principles that he talks about as well as the examples that he have and they put it all in a pdf for you so you don't need to take notes they did it all for you you could read that learn from it that's much better way to get more value out of these episodes it's in the show notes below just go download that and enjoy so i wanna ask about the s and p because you don't know much about us but the the short version of of the guy you see across from me there sam is sam's entrepreneur sam builds his company he sold his company and he took the money that he made and he said look i worked hard for this money now i want this money to work hard for me but i needed to be safe and so sam went into a a mostly you know best practice low cost index funds in the s and p five hundred and anytime i ask sam about his strategy or i tell him dude you gotta buy bitcoin in theory if you gotta buy this gotta put some money over here because i'm i'm like you know if sam is vanilla i don't even know what i am i'm some flavor off in the side that's how about strange two fruity yeah i'm two fruity over here and i keep trying to pull him over here but he says no no i like vanilla and so he it basically just says the long term average asp five hundred is ten percent if i just hold this for fifty years i'm gonna double you know this many times i'm good but you know i do get a little wary when anything seems too for two two certain i guess two taken for granted that this ten percent number over the long term will be the be what it'll be i guess what would your message be the same sam as sam just you know is he right is he wrong would you give him a caution warning if if he was your nephew he looks like he might be or nephew if he was your nephew what would you be telling him well on the one hand sam you're right because if you if you have more money than you need to eat the first purpose of your money should be to make you comfortable it doesn't make any sense buffet says don't risk what you have a need to get what you don't have and don't need it does makes no sense for somebody with a surplus of money to make their daily life less pleasant by going to investments that put them under pressure but there's gonna be a butt on your statement it sounds like but on the other hand the risk is thing in the world is the belief that there's no risk the risk in the markets does not come from the companies the securities or the institutions like the exchanges the risk in the markets comes from the behavior of people and it's that for that reason that buffet says when others are imp you should be prudent when other people are care free you should be terrified because their behavior un raises prices and makes them precarious when other people are terrified you should be aggressive because their their behavior suppress prices to the point where everything's a giveaway so i don't i mean look in the long run you're right about the s and p and over the over the coming years american companies unbalanced are going to produce prosperity what what's that defined as long term in this well i would say the twenty or more is is is the is the real long term and i'll tell you in in a minute how i get there but my favorite cartoon i have a file of cartoons from over the years my favorite one there's a guy he's got his is a car pulled over to the side of the road the guy's in a phone booth so you know it's an old cartoon because they're on no more phone booths and there's a as a factory going up in the background and he's screaming into telephone i don't give a damn about prudent diversification sell my fe chemical in other words prudent diversification calls for certain investment positions and a variety of them in a certain composition reality says i see fe chemicals burning to the ground get me out and you have you can't ignore a reality now why what's reality in this case for you reality is recognizing where things stand and jp jpmorgan published the chart around the end of twenty four and it was a scattered diagram showing over the years if you bought the relationship between the s and p five hundred ad purchase and the return of the annual return over the next ten years and it looked like this on this axis we had return and on this axis we had pe ratio and it was a it was a a negative correlation which means the higher the pe ratio you pay to lower the return you should expect makes perfect sense and it showed there was a number here twenty three on the pe ratio axis and it showed and which is what the pe ratio on the s and p was at the time and it showed that historically if you bought the s and p when the pe ratio is twenty three in every case there were no exceptions in every case your annual return of the next ten years was between two and minus two so all you have to know i wonder how do you manage your ecology in a period of time where your performance is not as good as you want because you seem like a really well balanced well regulated emotionally you know emotionally regulated guy but at the same time this is big game you're playing and how do you manage your psychology during a window of time like that so yeah it's a it's absolutely spectacular question it's funny because i did a sort of dry run through i'm gonna be talking about the fund to our investors in in a day or two's time and i think it's like it's seven or eight years that i've under performed the s and p index in this case and so i don't know why it always comes up for me when i think of this is the question that was asked me just after tried published my book and i was invited to give a talk at google and the app outperform was looking better at that point than it was it is right now and a very smart engineer asked the question how do you know that the outperform you've gotten to date is not luck and my answer then as as it would have to be now is we don't know well i'm just one data point and amongst thousands of data points and so you know you're you're argue that twenty five years a long period of time but in eight years of under performance in that twenty five years is also a long time and so you know this was already a year or two ago where i said in the face of other performance what am i going to do i'm gonna say this sucks this isn't working i need to strain change my strategy and risk everything that's dear to me potentially or i'm i gonna say look i understand what i'm doing somehow the market's not rewarding the way i would like it to be rewarded but i know that what i'm doing will in the even in the worst possible cases that lead to a really really good life even if i am underperforming and if i take the starters you know my first investors friends and family had never invested in equities before so in that case even if they're underperforming the s and p they're vastly out form that what they would have gotten in fixed income and all the cash instruments that they have there they've won many many many times over and and i actually got to have i like to call it courage where where i kind of realized that the key to compound and to take make moves that i know will enable me to compound and if i can end up beating an index then that would be great but but i cannot jeopardize compounding for the sake of beating the index i i have to focus on compounding and and that leads an end if if you step back i mean i think that you know this this idea of playing the infinite game so many people think they're playing a finite game but they're playing an infinite game explain the difference finite and infinite games yeah yeah sorry so so finite clear distinction between finite and infinite games a finite game is one which has a clear set of rules a clear space in which it's played out both in terms of time and physical locations so an example would be chess there's a set of rules it's played across a board and there's a winner and and a loser according to the time controls or a game of american football it's played an american football pitch their end players each side the game starts it ends there's a winner there's a loser that declared according to the rules and but the thing is the most important things in life are infinite games what is an infinite game an infinite game has no clearly defined rules no clearly defined game space no clearly defined time when it begins and ends and one of my favorite examples for an infinite game was the cold war the cold war was fought across many battle fronts whether it was the southeast asia or you know building nuclear missiles or rivalry between the super superpower and all sorts of ways it didn't not really clear exactly when it started and here's the thing and it played out itself multiple rules multiple places the in in the infinite game you don't really win or lose usually one or more of the players just decides to drop out in the case of russia russia kind of in a way imp and dropped out of it what's the most important point the key the key mistake that we make so often in life is we think we're playing a finite game when we're playing an infinite game life is an infinite game investing is an infinite game so how many people i would tell you out of i don't know how many funds that were around at the time that i started how many around today and it's like less than two percent now some of the people left that game of investing because they actually were utterly superb made enormous amounts of money and decided to go and do something else a famous example of that is nick sleep he's in william greens book and and so that those people there are those people but i i did a study this about ten years ago and that there was lip database where i could look up all the funds around at the time they don't really give their reasons for dropping out if because but in many cases it because they had any an imp of one kind or another and so you don't want to be the guy who close what's the circle of the wagon philosophy well the circle of the wagon philosophy actually came out of when i was thinking about buffett letter last year to shareholders the twenty twenty three letter he he pointed out that in fifty eight years of running berkshire there were only twelve decisions that he had made that had moved the needle for berkshire berkshire had a tremendous run they've compounded i mean till recently they were compounding it twenty plus percent a year for fifty eight years that's you know if you're doing if you're twenty percent a year you are doubling every three and a half years okay and that means after thirty five years it's a ten doubles and fifty eight is another twenty three years so you've got another what one six six doubles so sixteen doubles two to the power sixteen now the way it do to above sixteen is two to about ten times two to bar six two to about ten round numbers one thousand it's a thousand x right and two to the power six is sixty four it's sixty four thousand times what you started with okay if you started with a hundred dollars it's six point four million okay hundred dollars to six point four million okay so he he's saying i would calculate in the last fifty years fifty eight years buffett made three or four hundred at least four hundred different investment decisions he's saying twelve are the ones that mattered right the god of investing has a four percent hit rate that's the god of investing that's why we should index right well what are the rest of us mere mortals supposed to now the thing is that the i was thinking about his twelve bets right and i i i thought about okay which was the twelve and i think he never mentioned that but you could guess which one sees would be one of them coke would be another one on am gillette cap cities washington post you know you can come up with the name you know berkshire hathaway energy a g chain hiring a g chain probably was the biggest bet for them with paid off huge for them so what i realized when i thought about these twelve bets was it wasn't the buy decision the buy decision was important the important thing was they never sold sees stayed in the stable for fifty years coke has been in the stable for forty plus years right so it wasn't the buy decision it was the paint drying decision okay that was the important thing so when you find yourself in the happy position of a small ownership in a great business just find something else to do with your time play bridge or whatever i have you have you considered golf i have yeah and malt is great can i ask you about your reading habits how do you pick what books you read i've never read any books about how to be an investor like you know multiply this by that and add this and subtract that and the books i've found most interesting have always been the ones about investor behavior and i mentioned devil take the high most ninety nine one of the greatest books i ever read was before that john kenneth gal book called the short history of financial euphoria that was really pivotal for me and since i'm slow reader i like the fact that it was only about a hundred pages and then you know back in back in seventy four i think charlie ellis wrote an article winning the losers game where he said that because you can't predict the future active investment doesn't work he was a believer in the efficient market so rather than try to hit winners like the tennis player you should try to avoid hitting losers and keep the ball in play and that has always defined my investing style in fact i wrote a memo in the summer of twenty four or twenty three called fewer winners fewer losers or more winners and that's the basic choice of investing style today's episode is brought to you by hubspot did you know that most businesses only use twenty percent of their data that's like reading a book but then tearing out four fifth of the pages point is you miss a lot and unless you're using hubspot the customer platform that gives you access to the data you need to grow your business the insights that are trapped emails call logs transcripts all that unstructured data makes all the difference because when you know more you grow more and so if you wanna read the whole book instead of just reading part of it visit hubspot dot com there's a great luck i think like sort of math paradox that you've pointed out which is a you know a fund i don't if it was your fund but any fund it could be you know never a but never in the top ten percent but sort of never in the bottom fifty percent and there's this strategy of just consistently being above average will place you right in the top five percent right it'll it'll place you in the top percent can you unpack that idea a little bit i i just sort of butcher your in nineteen ninety i wrote a memo called the root to performance and i had dinner in minneapolis with my client dave van ben scout and ran the general mills pension fund and dave explained to me that he had run the fund for fourteen years and in fourteen years the the equities general mills equity portfolio was never above the twenty seventh percentile or below the forty seventh percentile so fourteen years in a row solidly in the second quartile now if you said to the normal person not in the investment business so this thing fluctuate between the twenty seventh and the forty seventh where do you think it was for the whole period they would say well let me think probably around thirty seven the answer is fourth so if you if you can do well for fourteen years in a row and avoid the tendency to shoot yourself in the foot in a bad year you can pop up to the top at the same time another investment management firm had a terrible year because they were deep value investors and they were heavy in the banks and the bank suffered terribly so they were at the bottom so the president comes out and of course things people in the us business are great rationalize and communicators and he says the answer is simple if you wanna be in the top five percent of money managers you have to be willing to be in the bottom well that makes great sense except that my clients don't care if i'm ever in the top five and they absolutely don't wanna see me in the bottom five so my reaction is the first guy's approach is the right one for me so that's why at oak we go for fewer losers not more winners yeah i love that because it's one of the un sexy ideas like i think any idea you can't you know make a movie out or won't make you sound really cool are generally undervalued ideas when they when they actually logically map out the way the way that one does and so i i sort of that was one that stuck out to me is like nobody's gonna nobody's gonna give you a motivational video about being consistently above average and just never shooting yourself in the foot right it's all about hero heroic greatness and huge risks you can take and you know being willing to do it and so you know that's all you hear but but you know the financial times of london every saturday they they have an article called lunch with the f t and they take somebody to lunch and they write an article about the person the restaurant and the food and they did that with me in late twenty two and i took the reporter to my favorite italian restaurant near the office in new york where i go a hundred percent at the time if i have a lunch and i and i said to her eating in this restaurant is like investing at oak tree always good sometimes great that terrible now that to to me that sounds like a modest boast but if you can do that for forty or fifty years i think it'll compound to great results if you never shoot yourself in the foot and i think it's i i don't know if the sec is listening but i think it's descriptive of what of what we've accomplished the most important thing in life is how long does something take to double okay because that basically leads to everything else so for example if you look at someone like warren buffett right he started he started his compounding journey when he was like ten or eleven years old right i think he's he would say it's when he was seven years old he's gonna be ninety four this year okay that's a eighty seven year runway so far right now the thing is that if you have a really long runway then a low rate of compounding would still get you a big number or if you have a shorter runway and a higher rate would again get you the same result so it's very important in life and that's why i think that i wish they'd did this in high school is to start that engine early so for example let's let's take a situation of someone who's just finished college right at twenty two years old they got some job maybe like making a know seventy eighty thousand a year or something and they they put away ten thousand dollars and therefore four one k right they're twenty two years old in an index right that index has done ten percent a year now what that means is the ten percent a year means that that ten thousand will double every seven years alright today's sponsor is a company that i used that i actually built the company on that i sold for millions of dollars and it took me sent zero upfront capital we had one employee and those are the types of business i love i love lightweight businesses things that don't require a lot of capital don't require a lot of employees and you can just get them off the ground quickly and so have has a platform that lets you launch a newsletter about anything and the great thing about newsletters is it could just take one person you're just writing stuff that you already know and already enjoy and it can grow and grow and grow for us with our crypto newsletter we built the brand called the milk road and in one year we went from zero to being the biggest crypto newsletter on earth and we sold the company for millions of dollars in a year and the only reason we could do that is because b have had all the things we needed out of the box we needed to be able to write the newsletter send it had growth features referral programs monetization everything was built in and so highly recommend if you're looking for a lightweight business something that you can get going very quickly highly recommend bee hive as a place to start go to b dot com slash m m and you could actually use the code m m thirty and get thirty percent off your first three months so let's take a situation where the person is now sixty four years old right now they started at twenty two it's sixty four is forty two years forty two years is six doubles right i do this to make it easy right okay so six doubles right that's two to the power six two to the power six is sixty four so that ten thousand that the person saved at twenty two is six hundred and forty thousand at sixty four but that's not all they have at twenty three they save eleven thousand that's again sitting at some big number right and you keep going and you know sometimes we see this news article there's is some guy who's a jan of some college and he gives four million to the college and lived in a one bedroom apartment whatever right why are we surprised okay if you actually run the math he actually didn't even save that much and he didn't even have that a such a great compounding and did he start like he found apple twenty years ago or something that's not what happened what what happened was that there was a consistency and so actually my my pushback to my dad when he was telling me to start a business is i was telling him at that time i said look i got a four zero one k i got thirty thousand in the four one k right right i'm gonna i'm concerned with fifteen percent a year my employer at that time of matching the first two percent so it was becoming seventeen percent tax free basically tax deferred and my income going up over time so i was when i first started working my salary was thirty one thousand right so i'm saving forty five hundred a year right but if i was still working my my my pay would have been hundreds of thousands mh or more and i'm putting away a lot of money so by the time i get to retirement it's like it's game over you know the lots of extra cash available no problem and i never missed the money because it was pre tax right taken out so it's just great so i think i think i i i wish that young people understand that yeah listen you can pursue lottery tickets you can pursue entrepreneur entrepreneurial dreams you can do all of that that's fine but on the side keep this going i came across a great quote within the last year from a guy who's a retired trader when the time comes to buy you won't want to and and that in that that that encapsulated encapsulates so much wisdom because what is it that causes the great moments to buy it's probably the point of lowest consensus so but when most people don't believe would be the time that the price is gonna be the lowest writes it's the time with either the most uncertainty or the most pessimism or the most fear most conservatism so you also wanna be all those things what causes those things you're talking about you're talking about the manifestation what's the cause bad news i don't know about bad bad events bad news either either exogenous or geopolitical or or or in the economy fu corporate fortunes declining stock prices widespread losses and a proliferation of articles about how terrible the future looks so the point that's why you don't wanna buy at the low who would wanna buy under those circumstances right and so you you talk before in your introduction about z when others zag the only thing i'm sure of is if you zig when they zig you're not gonna outperform do you still feel that fear you know the of you like when you know you're supposed to buy do you still feel fearful or do you feel like nice hello my old friend i love this emotion this is what i'm supposed to right yeah i mean it's not easy but you have to know you have to do it if you think about it the fortunes of companies and the outlook for companies doesn't change much what and i'm i'm writing a memo about this that'll come out one of these days and what changes is how people think about what's going on and think about the future and c so what changes is the relationship of price to what i'll call value sometimes they hate them sometimes they love them when they love them too much you should expect them to probably go down that sounds like a bull market or a bubble and when they hate them too much you should expect them to go up that sounds like a bear market or a crash and so you have to do the opposite and and the the same developments in the environment that that affect everybody else will affect you you're subject to them you feel them you read about them you hear about them everybody tells you how dire or the outlook is and you know it's hard to ignore them but you have to do the right thing in the face of them nineteen ninety eight we had the russian rub devaluation the debt crisis in in southeast asia and the meltdown of long term capital management and one of our portfolio managers who who was young came to me and he said i think this is it i think we're gonna melt down i think it's all over i'm terribly pessimistic i said tell me why he went through his reasoning i said okay now go back to your desk into your job a a a battlefield hero and i don't wanna compare what we do to being a battlefield hero but a battlefield hero is not somebody who's una afraid it's somebody who does it anyway and that's that's the way you have to be can you get the i think there's a von thing i don't know or maybe he'd got it from somebody else the the two gas stations across the street i thought this was a great metaphor so yeah it comes from a good to great so yeah it's a beautiful idea that i haven't thought about for for an enormously long time the idea is and this is a story i think is in his isn't in his book good to great two gas stations opposite both opposite sides of the road and the guy in the one gas station you know when he gets the customer he's made some money he paints the wall of the gas station he puts out some flowers he makes this gas slightly cheaper and these are all actions that the guy on the other side of the road opposite him could do not only could he do he's seeing the other guy do it right in front of him right in front of him and the fact of the matter is that in so many cases in life the guy on the other side of the road who has all the opportunity to do exactly the same thing as the winning gas station just doesn't do it and you you come to this situation in years down the road and it's very hard to understand why one is so sas and the other isn't and so you know the the way i think i tell the story in my book is yeah i'm sort of sitting with mona and he's told this story a few times now and i'm like yeah yeah i what a dumb guy on the other side of the road he isn't copying any of the things that the that the that the one with the successful business is doing and and i i don't know exactly what happens i is actually you're guy on the other side of the road because here's mister von p all these things and you're not doing any of those things why the hell not don't be such a freaking idiot right i feel like i could rule where i know i could be what i want to put at all in it like a day's off on a goal travel never looking back you made it this far then you're gonna love what i'm about to tell you so there's this 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