Fix It Friday Ep. 5 - The Myth of The Risk of Stocks

• The "risk of stocks" is often misunderstood. Long-term investments in diversified portfolios, like the S&P 500, are not inherently risky if left to grow through temporary market declines. Instead, the absolute risk lies in failing to protect purchasing power against inflation, which bonds cannot adequately do.
• Stocks vs. Bonds Misconception: Conventional wisdom often misrepresents stocks as risky and bonds as safe. However, over the long term, stocks consistently outpace inflation, protecting and growing purchasing power, while bonds risk eroding it due to fixed returns and inflation.
• The Psychological Barrier: Investors' fear of stock market volatility often stems from psychological misconceptions rather than historical evidence. By selling during temporary declines, they create permanent losses, highlighting the need for a shift in mindset to embrace long-term growth.

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A copy of Fusion's current written disclosure brochure discussing our advisory [00:00:15] services and fees is available upon request or at www. fusionfamilywealth. com.

Jonathan Blau: Welcome to the Crazy Wealthy Podcast with your host, Jonathan Blau. Whether you're just starting [00:00:30] out or are an experienced investor, join Jonathan as he seeks to illuminate and demystify the complexities of making consistently rational financial decisions under conditions of uncertainty. He'll chat with professionals from the [00:00:45] advice world, entrepreneurs, executives.

to share fresh perspectives on making sound decisions that maximize your wealth. And now here's your host. Welcome to another [00:01:00] episode of Fusion Vixit Friday. Part of the Crazy Wealthy podcast series. And today I'm going to talk about what I call the myth of the risk of stocks. And I, I call it a myth because one of the greatest [00:01:15] fears that I found as a financial advisor meeting with investors for the last over three decades, is their biggest concern tends to be that as, as they retire, their, their retirement, financially speaking, will [00:01:30] be exposed to the risk.

by virtue of them having too much money invested as owners of great company through what is normally called or referred to as the stock market. And I'll talk about that a little bit in more detail. I, I [00:01:45] think investors should never call their investments, investments in the stock market and I'll talk about why.

But, but I call it a myth, the risk of stocks a myth because As we sit here today on this podcast, a [00:02:00] diversified portfolio of great companies. I'll use as an example, the Standard Fours 500, the s and p 500, which is an index of the or, or a little basket of the 500 best companies, best managed, most liquid, best financed, most [00:02:15] profitable companies in America, in the world.

They're trading basically at new high levels, so. If we're sitting here today and we're at new high levels, and I meet with someone who tells me, I don't want to have too much money in stocks because it's too [00:02:30] risky. I said, what do you mean by that? I said, look what happened in 2008. The, the stock market, the S& P 500 declined by by 60%.

I say to them, well, what level was that at? Do you remember? And I can tell them it was at about 650. [00:02:45] Today it's at 6, 100. So I asked them, it's How did you lose money if it went down to 600 and today about 14 years later, it's, it's over 6, 000 and they kind of stop for a [00:03:00] second and think, and the lesson there is that no one has ever lost money as an investor in the, in the S& P 500 or a similarly diversified portfolio because the only declines that ever happened in that kind of portfolio are [00:03:15] temporary and, and so the only way that they become permanent losses is, is not something that the S& P 500 did to the investor.

It's the investor that humanly manufactured a permanent loss by selling into [00:03:30] a temporary decline. And so. This idea that stocks are risky and bonds are safe also has origins in how the industry defines risk and safety. So the industry I'm talking about is the [00:03:45] industry I work in, the financial advice industry.

Industry defines risk and safety for the investor in terms of the need to protect their principle. So if somebody has a million dollars to invest, the industry says, we've got to [00:04:00] protect that principle. And when they say protect it, they're not discussing protecting it from disappearing because of a decline in the value of his stock holdings.

They're talking about protecting it from mere. Movement, [00:04:15] volatility as they call it, the movement up and down in the price of the stocks shouldn't be frequent and shouldn't be steep. So the industry by defining the, the real risk as the need to protect against volatility or the movement up [00:04:30] and down of prices, the way they do that, the way they protect against what I call that illusory risk, volatility, is they tell the investor to have more bonds because bonds don't move around a lot.

But what bonds do is they [00:04:45] actually freeze the value of every dollar invested in them until their maturity date, when they owe the money back to the investor. So let's say the investor loans a million dollars to Apple computer and for 10 years the investor gets 3 [00:05:00] percent a year in interest. At the end of the 10th year, the investor gets back the million dollars they invested.

The problem is they need about a million, 300, 000. because of inflation to buy what a million dollars used to buy. They don't have a million three hundred [00:05:15] thousand and so begins the death spiral of their money because risk and safety needs to be measured not in terms of protecting principle from fluctuating but against what I call the only real risk to investors which is the [00:05:30] need to protect against purchasing power or buying power of each dollar from disappearing.

And so when we reframe risk and safety in those terms, we, we learn something that's actually shocking to most investors, [00:05:45] because what we're now telling people is. Not something different than what they've always been told, which is that stocks are risky and bonds are safe. We're telling us something directly opposed to it.

We're telling them that investments that lead [00:06:00] to the diminution and destruction of the value of your dollar, the purchasing power, those investments are risky. Those are bonds. Bonds are risky. Investments that lead to the protection and the growth of your purchasing power. Stocks, [00:06:15] those are safe. I'm going to pause for a second because I want to give a little bit of an illustration.

In 1970 the, the Standard Poor's 500 Index was at 100. Today it's 60 times higher. So a million [00:06:30] dollars invested then has turned into 60 million. What do you need to buy what 60 million bought, what a million bought then today? That's to say, what did inflation do over, over that period of time from 1970?

It went from [00:06:45] 40 on the consumer price index to about 300. So inflation went up about seven times. I need 7 million to buy what a million bought then. Stock investing didn't do that for me. It did something much greater. I have 60 million. [00:07:00] So I've increased my standard of living. Many, many fold. I didn't just keep up with inflation.

Now, had I bought a bond back then for a million dollars and it was maturing today, I'd get my million dollars back, not 60 million. And in the last year, even if [00:07:15] the bond was paying me 10 percent a year, I would have gotten 100, 000 in income. I need I, I need about two and a half times that. I need, sorry, I need about six times that amount, or seven times that amount.

So I need, [00:07:30] I need 700, 000 in income. I've long since run out of money because I've had to unwind the bond principal to make up for the fact that the interest was fixed at 10 percent and wasn't growing for inflation. So again, we need to understand [00:07:45] that. If we define risk and safety properly when it relates to our investments, we need to understand that safety means that my dollar is not disappearing to what I call the disease of money, inflation.

And the only investment that's done that, as I just [00:08:00] demonstrated over long periods of time, is investments in great companies. So when we, when we, when we educate people about this phenomenon, they can understand it. And so, They can look at all of history and they could see [00:08:15] in any of the periods they look at, that both the dividends on stocks and the stock prices themselves far outpace inflation.

Dividends in fact grow since 85 years ago at about twice inflation at 6 percent a year where inflation runs 3 [00:08:30] percent a year. So we can show them that. So the problem investors have is not one of learning. How the financial markets have always worked. It's a psychological problem and I, and I call it a, an abnormal psychology problem because [00:08:45] they come to an advisor with a deep belief in something.

The risk of stocks wiping them out. A deep belief in something that can overwhelmingly be shown to have never, Again, as we sit here today, we're [00:09:00] basically at new highs. So that's why this podcast was created. I really want to give the audience an opportunity to, to learn what I believe are some of the problems that are endemic across the [00:09:15] industry as, as it relates to misdefining risk and safety, as it relates to the folly of, of.

Claiming to be able to forecast the economy consistently which was what we talked about in last week's Fix It Friday and, [00:09:30] and all of those things. So hopefully these are, these are going to be helpful to everybody who, who is listening. So when we talk about, when we talk about investing in stocks and the ability to stay with a plan that's mostly in stocks, again, I recommend people [00:09:45] have two to three years living expenses outside of stocks when they're getting ready to retire.

That protects them against what I call the sequence of return risk. So what happens if I retire in 2007 and then the next two years it's 2008, nine, the [00:10:00] market's down 60 percent I now have if I was all stocks had to liquidate my stocks at a temporary decline, lock in a permanent loss. We don't want to do that.

So we'll put two to three years living expenses outside of equities that allows [00:10:15] us in the average retirement, which is about three years, three decades. to compound most of our money at a much higher rate than the industry might advise us to when they're trying to protect against volatility and telling us to have 40 percent or so [00:10:30] of our portfolio in bonds.

These are the things that destroy my purchasing power. If you have two to three years living expenses, what I find is as an investor, you would have only about 10 percent of your money in bonds. So an extra 30 percent would be compounding historically at two and a [00:10:45] half times more than you would Then what the bonds would be, and it makes the difference for a lot of people, not in just terms of legacy that they leave behind, but in terms of their ability to maintain their lifestyle, given the ever increasing cost of goods and [00:11:00] services.

So, so. What I advise people to do in dealing with this reality, because it is, it's a new reality for most people. If you're listening to the podcast and you're not a client, it's probably a new reality that stocks are safe [00:11:15] because they help you defend against them. The big risk inflation and bonds are risky because they're the carrier of the disease of inflation.

They're not a cure of it. Once you learn that, you have to understand that crises are going to happen all the time. One year at five or [00:11:30] six, you're going to see your stock portfolio appear to disappear to the tune of 33%. That's the average bear market or market that's down 20 percent from recent high.

Average is down 33%. Happens one year in five or [00:11:45] six. And then every year since about 1980, the stock market, the S& P 500 has declined by about 15%. So one needs to be prepared to watch. 15 percent of their money appear to disappear each and every [00:12:00] year and about twice that amount one year at five or six.

And the crises that that, that occur at the time the markets go down, whether it was the financial crisis in 2008. Whether it was COVID in 2020, [00:12:15] or, or whether it was the stock market crash in, in two, in 1987, went down, still holds a record for the single biggest daily decline, or whether it was the terrorist attacks followed by the dot com bubble bursting in 2000 [00:12:30] each time these things happen, we could not have predicted them in advance and, and we don't, we didn't know when they would happen, nor when they would end.

We have to just. internalize that they will end. And what really scares [00:12:45] investors, and this is the last thought I'll leave you with on being able to invest in stocks as a big part of your plan and stay with it, is you need to become what I call anti fragile or unbreakable. Nassim Tlaib wrote, wrote, wrote a book, Anti Fragile.

And what it means You [00:13:00] need to be able to understand that every 10 years or so, there's going to be some big crisis. And, and, and whether it was in in 2000, again, with the dot com bubble, 1990, we had the biggest, one of the biggest savings and loan crises. 2020, [00:13:15] you had the, you had the terrorist attacks and almost 10 years before that, or 12 years, you had.

crisis. So every 10 years or so you, you, you're going to face these things. At least that's what history has shown us. And you have to be able to face them, understand that [00:13:30] it's another crisis. We, we don't even care about the crisis as investors. That's not what scares us. It's not the number of crises or even the nature of the crises.

It's the fact that each one is different. different. And if you ever listen to yourself as an investor [00:13:45] who wants to get out of the market, you'll see that you, you often, or friends will sing what I call the four word death song of the American investor. This time is different. And, and in, in, practical terms.

In [00:14:00] reality, every time the market goes down, it's, it's different from the previous time based on all of the crisis I just mentioned. But it's the difference that scares people. It's the idea that they feel they haven't seen it before. So when you become anti [00:14:15] fragile, you're You learn just to say, well, I don't really care what the crisis is.

We're going to recover. Companies are resilient. Companies are innovating. Companies are logical when they, when they're dealing with a crisis, they're going to work on it, in it, and around it. That's the job of these highly paid [00:14:30] management teams at the companies. They've got to maximize shareholder value.

They're not like Western governments who go into crises. By lending more money or sorry, borrowing more money and, and and increasing the deficits and so forth. Companies do the opposite [00:14:45] and, and they actually go into crises as opportunists. They'll buy divisions of lesser successful companies who aren't as prepared and they come out of the crisis stronger.

So, so going into a crisis and, and coming out, [00:15:00] having not reacted by selling stocks, that's not anti fragile. You came out the same way. You're still going to be concerned the next time. Anti fragile is when you start coming out of the crisis, say during the crisis, where can I get more money? Can I mortgage [00:15:15] my house to buy more at these discount levels?

That's when you know, you've become anti fragile. It takes time to get there. Some people will. get closer to it and never achieve it. But if you, if you can endeavor to understand that every crisis is [00:15:30] different than the next, no one has ever lost money investing in stocks other than if they humanly manufactured the loss by selling into the only kind of declines we ever had, which is temporary.

And that the real risk of money is having the purchasing power of it disappear because [00:15:45] we freeze too much of it in instruments that freeze. fix the the level of the interest at five or six or whatever percent for the term of the bond and also freeze the principle for the term of the bond. We understand the real risk is that and that [00:16:00] stocks are the cure.

We can retrain ourselves to succeed as investors and to lose our belief in the myth of the risk of stocks. So hopefully this has been a helpful episode of Fusion Fix It Fridays. You can hear us on your favorite [00:16:15] venues. We listen to podcasts. We're on Apple. We're on Spotify. And you can also listen to us on our website, FusionFamilyWealth.

com, and our podcast episode website, CrazyWealthyPodcast. [00:16:30] com. Thanks again for listening and look forward to talking to you again in a couple of weeks.

Thank you for tuning in to another episode of the Crazy Wealthy Podcast. For more insights, [00:16:45] resources, and to sign up for our newsletter, visit crazywealthypodcast. com. Until then, stay crazy wealthy.[00:17:00]

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