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S.01-E.02: Trillions of dollars of government intervention: Are equity markets disconnected with economic reality?

Does injecting trillions of dollars make equity investing a slam dunk? Clients and advisors are at odds with risk and return. MIJ talks with ETF guru Corey Hoffstein about how the investment narrative has changed over time, the religion of quant, client longevity and the pandemic capital infusion.

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About Corey.

Corey is a frequent speaker on industry panels and contributes to, ETF Trends, Forbes and Great Speculations blog. He leads Newfound’s quantitative asset management portfolios, which are focused on risk-managed, tactical asset allocation strategies driving investment decisions in excess of $1 billion. Corey was named a 2014 ETF All Star by Newfound Research was awarded 2016 ETF Strategist of the Year and was named as a 2017 finalist. Corey holds a Master of Science in Computational Finance from Carnegie Mellon University and a Bachelor of Science in Computer Science from Cornell University. Check out Corey's podcast.


Rod: Hi, and welcome to this edition of Modern Investment Journey podcast. Put on by SmartBe Wealth Inc. Uh, my name is Rod Heard and I'm co-founder here with my partner Art Johnson. And today we've got a very special episode because we get to have a chat with Corey Hoffstein. Corey is the CIO of Newfound Research and is a prolific podcaster and social media guru on Flirting With Models.

And, uh, we're talking to Corey all the way across the country, uh, in the States he's on the East coast.

Welcome Corey.

Corey: Thanks for having me on gents. Excited to be here. It's fun for me to be on the other side of the mic.

Art: I was going to say, it's gotta be interesting for you to be interviewed for a change and it's kind of a, it's kind of a switch.

Corey: The thing is I always know the stuff that really annoys me when guests come on, that they do. So I just gotta keep that in the back of my head of how to be a good guest, you know?

Rod: Or either get under our skin.

Corey: Exactly.

Rod: We've been telling the audience, Corey, that really the purpose of what we're trying to do here on the Modern Investment Journey is to look at the quant universe, which both of our organizations are deeply in and, um, try to stay out of the technical lane and really understand the human side of things. So, you know, first and foremost, we're interested in, in the relationships that you have with your clients and, and what you find is working to help people make this migration from an uninitiated state where maybe they don't even know about quantitative investing to really fully understanding it and embracing it and, uh, adopting the types of strategies that we know to be successful in the marketplace.

Corey: I often think of my clients ... and I should really be specific here because my clients are financial advisors. I think of them really in often two categories in the way that they interact with their end clients who are individual investors. In the first category I have what I have found tends to be an older group of advisers who were raised in a world of commission based selling for whom deeply understanding and translating an investment strategy is hugely important because they are in constant communication with their clients around how the individual components of their portfolio work and why the advisor has selected a given fund.

And then I have a whole second category of advisers who candidly tend to be a little younger and tend to be a bit more focused on financial planning. And for them the financial planning conversation comes first and investing is a means to an end. And it doesn't mean that the investing is any less important.

It's just that the conversational focus tends to be on the plan itself and the portfolio ultimately ideally is thought of as a baked cake. That it wouldn't make sense for an investor or an individual to go in and ask the advisor, well, why did you use this particular brand of sugar? What you ultimately want them satisfied with is, is the cake as a whole.

And so I think the communication you have to take as an asset manager, which is the seat I sit in, is very different between the two. In the sort of latter situation it's about educating an advisor who probably is already at a level of knowledge. Um, but you're not trying to educate them and provide them a narrative or story that you think is then going to flow through to the individual investor.

Right? You can keep it at a higher level of education. Um, uh, perhaps a deeper dive than what would necessarily make sense to a less sophisticated investor. Whereas in the former case, I think there's a lot more work that has to be done with telling stories and providing hypothetical examples and really trying to tie some of these often esoteric, quantitative concepts into reality via storytelling so that that can flow through and maybe, you know, an investor doesn't understand the nuances of buying a what a six month 25 delta put ladder actually is.

That might be gibberish to them, but they can understand the concepts of perhaps buying put protection through a metaphor that is buying insurance for their house. And so I think it's a very different type of conversation that you ultimately have to have for the type of client that you're trying to educate.

Art: Do you see a lot of advisory groups that are ... I totally agree with your analogy and I, and I, I can tell you where it comes from. I came from the brokerage business and it was all around the narrative of the investment. Um, because of your commission structure, you had to have a new narrative every day to earn money.

And when you switched over to fee base, it was, it was hard to almost change your DNA away from being totally narrative. Um, but on the other side where there's a failing and it's on the, on the planning side, They seed, um, investment management to third parties, a lot of the time, which also can be a not efficient and not effective. Advice is good or experience is good.

As long as it's not just asset gathering, client placating and corporate structure advice. It has to be good money management advice. I think planning's more. I think it's easier to be good because the tools are good there. And you do you see more groups in the States? Uh, actually being good money managers and planners, not so much in different camps.

Corey: Often it's not necessarily the same people in the firm that are good at both. That you have certain people in the firm that are definitively focused on, um, the asset allocation and investment manager choices, then you have other people in the firm who are heavily focused on the financial planning, estate planning and tax preparation type topics. Because they don't always necessarily overlap.

Those are, those are different skill sets. So for, in some of the larger, more established firms, you do see them being able to bring both of those to the, to that, you know, sort of side of the table. I think what's really interesting Art, you said something interesting there about sort of transitioning out of a brokerage world where that narrative is so important.

At least anecdotally, for me, my other experience is that those advisors who come out of that world have always had a business proposition to their clients, which was centered around picking investments. And so as the world went from commission-based to fee-based. Um, and maybe the need to pick managers and tell that narrative went away.

It was very hard for them to unwind that business proposition. Cause they had already built a book of business versus younger advisors who were up and coming are sitting there and they're having the conversation with themselves around trying to build a stable, financial planning and financial advisory firm. Saying why would my value proposition to my clients ever be "I can beat the market."

Because all the evidence suggests that even if I'm really good, 50% of the time I'm just going to disappoint them. Right? Every other year my clients are going to be disappointed that I didn't beat the market. So if I'm trying to build a firm, you know, why would I, why would I choose that value proposition?

Versus if I can choose a value proposition as the, as the cornerstone of my firm, that is I'm going to help you achieve the financial plan and the safety you need to retire and live the lifestyle you want to live. That might be a more sustainable value proposition over the longterm.

Rod: You sort of identify that there’s a demographic shift between the older generation and this young generation. You also inferred that much of this young generation already is fully embraced in quant. Already

has the education of the academic side of things. That there's a less of a universe of traditional stock picking and active management with this younger generation. Is that an accurate inference from what I think I've heard you say? And then secondly, are there real factors, whether it be educational, whether it be growing up with the internet, whether it be, um, you know, just the, the whole influence of AI that's impacting the two, the two demographics.

Corey: And again, this is all my anecdotal experience, so it should all be taken with a large grain of salt. But in talking to these advisors, not that they're necessarily anti active management, they still adopt active management. I think they're just selective in where they do it. So there tends to be sort of in the zeitgeist that it's very difficult to be an active manager in equities.

But much easier to add value in fixed income. So what I tend to find when I see these advisor portfolios is that the equities tend to be indexed more lower cost. If they do go active, it is predominantly a tilt towards smart beta products where they can have an active tilt, whether it's value, quality, momentum, uh, defensive styles, whatever it is.

Very systematically versus on the fixed income side or alternatives, they tend to be much more willing to go with an active manager because there tends to be more substantial evidence that that active manager can add value versus the benchmark. So I think there is sort of an evidence-based approach there. In terms of how they implement it, but they're not necessarily

anti-active. I think they're just very conscious of cost and taxes and the evidence against active managers, um, or at least discretionary active managers. I think part of the trend here, honestly, when we think of these younger advisors for a younger than 50 versus older than 50.

Rod: So we're old, you're young?

Corey: Precisely how this is working out.

And by the way, the, the age part that is young continues to move upward with my age. as well, I should point that out. But I think a big part of it is a lot of them started to build their own book of business in the era of ETFs. So this younger demographic of advisors who are now in their early to late thirties, let's call that like a big group of them really started to strike out on their own over the last decade.

And ETFs really grew over that time. It was a time when smart beta products really grew. So as they were able to build their practice on a really a fresh sheet, they didn't have any legacy positions that they had to really work around. Um, the old funds that they had sold in, in a brokerage style or commission style, they heavily adopted these ETFs as being the new sort of world-class investment vehicle that would provide greater tax efficiency, lower costs give you all the systematic tilts you were looking for. None of the behavioral biases of a discretionary manager. And I think that was a huge influencing factor in the way that they build portfolios.

Art: Yeah, that's interesting. I can only speak for myself. My own experience was I grew up on the trading floor and I, I watched automation happening. In fact, I was part of it. I was manager of the trading floor in Alberta here. And my job was actually to computerize the trading floor. And then we eventually, um, eventually left the existence because you know, it was easier to just do it over computers, but how that framed my thinking is I saw markets becoming more efficient.

And I started to do, uh, junior stocks, which we could do in Alberta. And it's kind of a, there was a way to get an edge on the market. Uh, I knew it because I'd grown up on the junior exchange, but I guess long story long what I hated about that was because you are under the commission and narrative business you could never hold these young companies long enough until they came to fruition for success for your clients. Because you were constantly under pressure to either sell them, to feed your family, or you were under pressure to create new narratives to entertain your clients. And, uh, what happened in my world is when we went to fee base that whole freedom to not do that allowed us to actually hold whether it was a stock or an ETF or anything for the fruition that you needed and the length of time you needed for any investment to be successful rather than play this whole narrative entertainment game. As advisers became less narrative focused and less commission focused it allowed indexes to flourish, as indexes flourish ETFs flourish.

It's just a fascinating thing that's gone on in the States and why that's fascinating to SmartBe, I guess we're seeing, we're seeing in Canada, we're on the cusp, we believe, of that change. It's a tough market because our banks are a syndicate, uh, unlike the U.S. and they protect their turf pretty good. But even with a syndicate, the, the power of that business percolation and the value is perking up all over the place.

So it's, it's wonderful to talk to someone like you. That's an asset manager in the U.S.

Corey: So I can't help but become a podcast host on a podcast. I can flip around and ask you a question Art. But you said something really interesting there to me, and I'd love to get your perspective on this because you were talking about your own transition from commission and brokerage base, and really talking and selling a narrative to fee-based where you didn't feel the same pressure of discussing a narrative.

And I guess, uh, what I would wonder is in the world of commission and narrative there was both the individual security story that went on as well as pitching fund managers, uh, and trying to sell funds. I wonder, did the narrative still exist? Did the need for narrative still exist as you went to fee-based? It was just a different narrative, you know, for example, I know you were a big and early adopter of DFA. Did the narrative move from, let me tell you about an individual stocker manager to let me tell you about the narrative of all cap value? And it was still a narrative, 'cause I think that narrative is a human necessity. But it just changed what the narrative is.

Art: You're absolutely right.

Uh, I guess two things happen. The narrative was, I guess, more germane to how I felt just as a human being, because it is a really crappy business on your soul when you're just pitching stuff all the time that doesn't work or some stuff works. And if this is your job every day to go up like you, and I understand why people

have issues in the brokerage business, because it's not a lot of fun trying to help people and using tools that may be okay, but maybe in an improper way, because of the constraints of the payment schedule and all these other conflicts of interest. But to answer your question, what was fascinating to me was that narrative is still such an essential part of this business.

Um, narrative is what moves people emotionally and what I originally did was, um, I was fascinated by insights and I've used this analogy multiple times in our podcasts. You know, if I was trying to lose weight, if I didn't have the value of an insight that I needed to work out more and eat less, uh, I'm kind of screwed on that insight when I get that insight though, the bad part of being human is you don't do anything with it.

So when, what people like you are doing and the people we're interacting with and even DFA, they were, they were taking these insights and creating principles. And I think it's that movement into action and the narrative around turning these into principles. And I think anything successful, like you look at Weight Watchers.

Um, I, I know we were talking about CrossFit earlier. Um, I've joined CrossFit and they've taken this, these insights around exercise, but turn it into narrative and principles. And when I see what the young advisers, that's what they did. And so my first attempts at narrative, we're all just trying to sell these insights, but as we got better at it, Um, it really is.

We turn these into principles and values that actually they're so fantastic because right now, one of the principles are that we believe in value, stock exposure all the time, not timing it on anything.

Rod: It reminds me of the whole FinTech community, frankly, that, um, there’s a group of people out there that have taken these principles and turn them into their own belief systems.

It's almost like religion. It's a, it's something that people have to own in order to get. Corey, how did you in your journey come to, obviously you're a math background, so you're you, you like numbers, you like quant. How in your journey did you end up with a belief system that investing based on the history of markets and the statistical analysis of, um, how returns are generated, how did you come about that?

Corey: Well, I want to start by saying, I am, I am so happy that you use the phrase belief system and religion because we very often call these things evidence-based. And yes, it is somewhat based on the historical evidence of markets. But that historical evidence still requires a leap of faith that it's going to work going forward.

I always find that people want such a huge degree of certainty in their investments, and I understand that need. But at the end of the day, if you have perfect certainty that something's going to work, well then you actually shouldn't expect it to work. Right? If I knew that I had perfect certainty, that value stocks were always going to outperform the market.

Well, then I could just buy value stocks and short sell the market and I'd have myself a nice arbitrage. Right. So unless I believe that there's an arbitrage out there, uh, the more certainty I have, the lower my rate of return should be to the point that I when I'm 100% confident I should just get the return of short term government bonds, which a lot of people would call quote unquote, risk free.

So I love that you call this religion and belief system because I wholeheartedly believe in that even as a quant, I think you have to have a leap of faith on the evidence when you implement it going forward. For me personally, I think it really just starts with personality. Honestly. I, um, have always been very mathematically inclined.

My undergraduate studies were computer science. My graduate studies were computational finance. So for me it wasn't necessarily an inherent belief that is superior to discretionary or anything like that. It was just simply that my mind doesn't work. As a discretionary stock picker, I think common stories, we all sort of start reading Ben Graham, and then we all think we're going to be the next great Warren buffet.

And then we buy a stock or two and go, well, this is actually way harder than we thought. I did the same thing. And I went, I'm never doing this again. Like for me, this needs to be systematized just for my personality. And then of course I have my own biases that once I started doing that, I said, Oh, and of course all the evidence supports that this is way better.

Cause I'm anchoring to all my priors in my own beliefs. I think for me, it starts with it ultimately was a more comfortable way of investing that I felt like for me to implement these ideas and not let my own personal biases creep in after the fact, right? The biases are there in the way I design the system and the way I design the investment strategy, but I hopefully understand them ex ante.

Rod: Well, there are intellectual biases at the upfront versus emotional biases if you're doing it in real time.

Corey: Precisely, precisely. And I know myself well enough to say that the last thing I want is those emotional biases coming in. I believe there are amazing discretionary traders out there and discretionary investors for whom it's better for them to actually work with the emotional biases, because they can actually sort of understand what's going on in the market and make the right traits at the right time.

For me, I am much more comfortable as an investor. Understanding the tradeoffs upfront and then implementing something systematically and then hopefully evolving that process over time. As we find what we believe is new evidence.

Art: For me, it's, it's emotionally hard now not to run a global diversified portfolio, not to run factors, not to run these kinds of bedrock principles.

And as a human being, I should be challenging myself, which I'm probably not enough of on a, well, that's a great bias, but on the other hand, there's actually a large group of investors that kind of being out there and just picking stocks, it's emotionally very difficult. Like there's a huge emotional part of investing that I believe the, these type of bedrock ideas actually help more proportionally even than the returns that they create. Um, because it is about, you know, the part we wanted to get the word journey into our podcasts because who cares if you can do stuff, if you can sustain it? And emotionally sustaining and embracing these ideas and be able to narrate and curate that and help people sustain a system, um, is $10 thousand times better than anything else I could narrate in the past, Corey. I'm a pretty darn good narrator, but these allowed a win win, where they actually worked when we put them into practice and we looked like 10 years back, we actually achieved our goals for our narration, but clients could emotionally stick to the program.

And I think that's a huge thing.

Rod: Art you've often told that same story and talked about humility and the need to let go of ego. So there's a, not only a, a bias component of it, but there's a, a deep felt human, emotional part of it.

Corey: I think one of the things that often comes up with quants is we often think of ourselves as being almost the antithesis of discretionary investors.

And at least for me over time, what I've come to believe is that discretionary investors and quants really aren't all that different. If you open the pitch book of any discretionary manager, they all have the same upside-down triangle picture. Where it says, this is our investment universe, and these are the things we start to look for.

And this is how we whittle down the universe into our core portfolio of holdings. And my view has become over time that at the end of the day, a quant can take all of those ideas and systematize them and turn that into a systematic portfolio. And then the question really becomes, okay. When does a discretionary manager choose to override the system?

And if the discretionary manager overrides the system for a reason that they will always do that, that, that is always the case will just become a new rule that gets folded into the systematic strategy. And so what you find is that a discretionary manager at the end of the day is ultimately a quantitative systematic manager who then makes totally idiosyncratic decisions.

And that their value add is in recognizing truly idiosyncratic cases and choosing to override the system for those idiosyncratic cases.

Rod: That's a really good way of thinking about it.

Corey: And then I sit there and say, how much evidence do I need over time to be confident that this manager can actually make these choices?

Because by the way, by the definition of the word idiosyncratic, every time they make the choice, it's different. So I need to not be confident that they're good at sort of some type of decision it's that they can just deal with these idiosyncratic cases. And so I guess for me, that's where I see, I started to say, okay, if I want a particular style, systematic at least makes a lot more sense.

Unless I believe it is a style that lends itself naturally to value add because there's these idiosyncratic cases, perhaps like merger arbitrage might be a case where they are truly idiosyncratic events happening all the time. A discretionary manager might be able to really add value there.

Art: We characterize that as, um, it's our push the button problem.

Our only, it's really hard to articulate to people that they get tremendous value out of us because we have learned to only push the button. When the system says, push the button. Rod talked about humility and various things like that. Uh, it took us a long time. Even when we started to run quant portfolios, we had little edge cases where we would do things and it was just the ultimate, uh, looking at the data of how those took money away in aggregate that we learned that our best value was to basically only push the button like a fricking monkey.

And when I got into the business, having, I still have a tremendously strong ego, you can talk to anyone in my family. My ego was satisfied by these narrative things. And, you know, battling the market and all of those things and laying down the swords and just pushing a button was, was a whole head trip.

Reality was, is we actually achieved our client's goals better and that was so humbling.

Rod: I'm hearing a couple of things there. One that this whole space of quant and analysis has almost commoditized the investment hypothesis. But what I've learned in so many different people is we're all snowflakes and each and every strong manager has their own set of rules and own nuance to how they're interpreting the evidence and how they're building those systems.

But for sure, the commoditization is in we're pushing the button every single time.

Corey: I think all you have to do is look at the dispersion of returns within different value funds, right? And you can go look at a whole slew of different smart beta value ETFs out there. And you're going to see they're all sort of tied on average.

Like when value as a category tends to do poorly, they all tend to do poorly, but you can have hundreds to thousands of basis points of return dispersion in a given year. So, you know, the worst performing stock fund and the best performing fund could be, you know, 10 percentage points difference, just very random in the short run. Art, it's something you said, sort of triggered something in the back of my head.

Thinking about the consistency of running a book for clients, thinking about having all these names for these different clients, right? How does it change when you go from: I have to think about not only what am I buying for a given client, cause I'm trying to generate commission and the returns they're generating, but then the client conversations?

So you need to manage all these different portfolios for clients, but then you go to meet with different clients and they have totally different holdings that they purchased at different dates from one another. How does that compare versus when you go fee base and you do start implementing a systematic strategy?

Art: The sad truth of that is, if you have bad start date bias, you get fired. And I, and it's just such a human thing. And what I mean by that, if people are listening in, if you have come to me and I take my exact same system and it has a, you start with a bad sequence of short term returns, I can, it's really hard to get you off the emotion of that. Where it does help though, is over a very long period, we've been doing this since 2000, um, our narrative hardly ever changes. So the certainty and the consistency, I believe, that allows people to be emotionally tied to the things they should be tied to in investments, which are, are you meeting your goals? Are you not paying too much?

Are we emotionally navigating? Those come out in the longterm and, and, uh, you know, it's like, I mean, you do a lot of content creation and the hard part with content creation is you've really got five, really good basic ideas, and you've got to repackage them every way to say them differently. So we have a bit of that, but I will say the consistency in those bedrock beliefs that over time really wins an advantage for an advisory group.

Like it is the in the narrative stories’ fun, but you're always changing your narrative. So it's like an addiction almost. Like it's, it's like you're feeding an addiction and, and what you do find in a book of business like that is 20% or 15% of people want to be addicts in the stock market. So that's your typical guys that you can make a lot of money off. That like, I, that was a really crappy way to make money.

Like you're basically soliciting gambling. You're not investing for people.

Corey: You just said something Art that, that reminded me of, uh, another narrative, a story, uh, another asset manager told me where they were looking. They're doing a deep quantitative dive into their book. And what's really important as an asset manager in terms of generating profitability is the length of time clients stay with you, right?

There's a cost of acquisition of clients. And the goal is those clients stay with you long enough that not only do you recoup that cost, but you obviously make multiples of it. And so what they wanted to do is all the data they had collected throughout the years. What was the top factors in determining whether the client would stay with them and, and ideally, you know, you want them three years, five years sticking with you and what they found is it, you know, was it how much interaction they had?

How many times per year they saw them in person? Was it the type of support they provided in going to conferences? The number one thing was when did they open the account and what was their first quarter of performance? If the first quarter they had was a good quarter, they tended to stick with them longer.

And if the first quarter was a bad quarter, it was such an anchoring bias to them saying, this is a disappointing start. That it was the number one indicator as to whether someone would stick with the strategy.

Art: Yeah. It's, it's maddening.

Rod: It make perfect sense once you start to understand human bias.

Corey: Absolutely.

Art: I guess so, but my worst quarter is your opportunity to get the highest returns out of my system.

That's the paradox. If my system actually sucks, and if you are investing for the longterm, you should be praying for the market to go down every year you are putting money in. Like, if I was buying cars for the rest of my life, I want cars to go down in value every year that I need a car. The only time I want a car to go up in value is when I don't buy them anymore, and I own the car and I can sell it. But that, that, that inverse trade, we all get wrong as human beings is detrimental. And, and it's, uh, I, I'm glad you shared that research cause that's my anecdotal research and it's really hard to get people off that trade. Now I will say we were able to do that with quant.

Um, once they understood the bedrock principles, it's really hard. Like we went through a period, especially as a Canadian advisory team where your country is not doing what it is now. And actually it was the, when we started in 2003, the U.S. was the worst performing asset class. And I cannot tell you for seven years, I would have the same conversation.

Hey Corey, do you believe that stocks in the U.S. are never going to go up in value? And we live in Calgary. Which was just like Silicon Valley, uh, oil and gas and oil and gas all went to $140.

Rod: The Canadian dollar was above the U.S.

Art: And I'm shucking this smart beta academic U.S. stuff for a third of our portfolios.

And, uh, but what I did find is that, uh, it's really hard to come off these narratives. Like, because they are principles, but you know, you're absolutely right. We created a new narrative, but I would say that the narratives were based a lot more on how markets worked and teaching people and educating them and, you know, Wes Grey education, empowerment, year education, empowerment through thinking found on how markets work was a lot more sustainable way for all of us to get our arms around these ideas, because investing is really hard. So yeah.

Rod: The one other narrative that we've talked about in the past, Art, that I'd be interested to hear Corey's perspective on is your belief system. And again, it's not, um, academically evidenced it's just through your years in practice is that, um, women tend to be much stronger quantitative investors in general, because they can believe in the biases. What's your experience between men and women and in the clients that you deal with Corey?

Corey: Well, I think a lot of the early evidence that I have seen about women as investors suggest that they tend to take longer making a decision and, and seeking more evidence and are more rational in that decision.

I will say that this is a heavily male dominated field though. So anecdotally, do I have the evidence to support that? The number of female advisors that I deal with is so small compared to male advisors that any sort of evidences for sure is statistically insignificant. So it's very hard for me to say. So I know a lot of the early studies, Elissa of Individual Investors heavily suggest that, um, men and women have their own key strengths.

And, uh, there perhaps certain areas where one of us might be better than the other, but I think with all these social studies, it's so very difficult to try to really pinpoint any true, um, statistical certainty. And so I'm always, I'm always reluctant and I personally don't have enough strong anecdotal evidence either, either way.

Art: We've got to admit in the industry that it's a male dominated industry and men are over confident and that's probably going to not be great for investors. What I find hopeful though, is you hear about these young, you know, hardwired overconfident men that are coming into the industry. And I think, you know, where there's real hope is that taken out of the commission and narrative business

they're not doing as much of the overconfidence trade. Where we found women thrived with quant, especially as clients of ours, is that they tended, they got it. Like there was, this was, they absolutely got it. Loved the idea, but their biggest problem was they were actually taking on too little risk. So where quant helped them is they could systematically increase their risk to the level that they should be taking to, to get the fruits of the capital markets, but they didn't have to do with a cowboy.

So that, that's my only anecdotal comment. And I truly believe the world would be better off women advisors. The problem I, you know, from my own, my own observations when I first started in the business, half of the advisors were women. But as the industry professionalized the industry, uh, women have not gone into the profession of finance.

They've gone into law, they've gone into the sciences and that's kept more women actually coming in. It's become more of a male dominated business than it was when it was more of a sales business, because women were great salesman and, and they, and it's a real struggle because we've set the technical barrier so high in the business to get women in.

Cause they're just not getting into the channels in the university that eventually get them to us.

Corey: And you see it on the asset management side too. Morningstar has done a large number of studies here. And I think some of this, unfortunately, as much as we would all like to see change and be agents of change, some of it just might be: we need, we need to just let things burn off that what some of these studies of Morningstar found is that new funds that are getting launched by younger companies do not seem to have the gender disparity in terms of portfolio managers, for example. But when you start looking at older, more mature fund companies, there is just a structural gender bias that's been embedded over time as to who's been hired and promoted through the ranks. And by the time it's time to name someone a PM of a fund is just a male dominated cohort from which they're choosing. And so it's hard to break the mold there unless they're very consciously trying to do it.

Rod: We can only hope. So Corey, in your business, in dealing with advisors as an asset manager, We're in very interesting times right now with the trillions of dollars being injected into the market, the protectionism and global trade. As the markets are in flux, in the volatility and the, the meltdown and the rebound. Um, what are you hearing in the space that, uh, is keeping advisors up at night in the United States and, and how are you helping them, um, through the situation?

Corey: There's really been, I would say, two things. Um, there has been over time, this building question of have markets fundamentally changed. And I think the answer for me has always been well, of course they fundamentally changed. They're always different. They're always evolving, but does that necessarily mean that the way we invest no longer works?

Right? And I think that's sort of the implicit question of, you know, for example, Hey, if you buy value stocks or you used to buy value stocks, is it different this time? Um, that maybe that no longer works. And I think March was one of those events where people walked away from that saying that was so weird and it's still, this feels so ultimately disconnected from economic reality.

This feels so weird. That it seems like markets aren't working and something is wrong. And that is the continued sort of pulse that I feel from the advisors I work with where they say, I don't know what it is, but something feels fundamentally broken. The other interesting thing that has come up has been over time, uh, going back to this idea of, uh, younger advisors are trying to ultimately bake this cake and bring the whole portfolio to a client. Regardless of how well they try to train their client to think of it as an entire portfolio. There is still this, what I call line item risk. Which is if the advisor's putting the client in a whole bunch of value funds and trend following funds and things like that at the end of the quarter, the client's getting their portfolio back and going through all these things piece by piece and seeing, well, this value fund has really underperformed or way this trend following thing, didn't work the way I expected it to in March. And those are starting to cause problems for advisors from a communication perspective. Especially where you see things like the NASDAQ having rebounded so strongly.

Why are we doing international diversification? Why are we buying small cap stocks? Why are we buying value stocks? Why do we have any alternatives? Why are we managing risk? Why even hold bonds? The market just rallies. Right? And so that is becoming a conversational problem for advisors who are trying to get clients to do the prudent thing and diversify.

But when the clients are starting to go through line item by line item and pick out those positions that aren't working, it's getting harder and harder for advisors to not just capitulate to clients wanting actually to take more risk. Really interesting anecdotally for me in my conversations with advisors in March, the number one thing adviser said to me was they had clients calling saying, okay, how do I put more money in the market?

It wasn't to take money out. They had been so trained that everything is a V-shaped rebound. And by the way, they were right. But they've so trained that everything has become a V-shaped rebound that clients were clamouring to get back in and put more money to work, because they were saying this as another 2008 type opportunity.

And so advisors are having, at least the ones I'm talking to are having little warning bells go off in their head saying this doesn't feel right. This isn't the way it's supposed to work. Something fundamentally broke in March. It seemed like a liquidity event. The fed has now stepped in, in a massive way.

What are the impacts of this? And what's the end game? In either direction, right? If does, has the med crew fed created massive moral hazard? And now stocks will never go down again and we're just going to balloon up the debt? Right? Do we have a hyperinflation risk? Or do we risk the fed doesn't show up the next time and the market falls apart because everyone's expecting the fed to step in.

And these are the conversations I have had nonstop for the last four or five months with advisors who are going: I feel like my clients want me to do one thing, but my risk alarms are going off like crazy right now.

Art: That's, that's a prescient insight. Cause I think that's where everyone is. And there is no answer there either.

And it's really challenged the classic assumptions of what we had this last go around. Like it, uh, The, the big change and it is the elephant in the room is the actions by the fed are changing some of the fundamental principles that we are possibly or changing them. But what that means is the real hard part.

And do you change anything because, uh, um, the downside from that changes is pretty dramatically in either direction. Like you either get hyperinflation or you get, you know, a big drop off in the market or the market rallies. Like these are not good solution times,

Rod: But isn't the real question there – Art is does it fundamentally change our ability to predict the future?

Because really what we're trying to say as quantitative advisors in this space that history informs us. And every weird event in history was weird at the time. And that, you know, our best belief system and back to the religion is, yeah, we just have a belief system that we don't have the ability to predict the future.

Art: Where it hampers advisors though, is in managing risk and communicating that yes, there is always risk inherent when you are investing.

Because the tools and one of the I'd like to spend some time with Corey on this, one of the hobby horses I have, because there are so many baby boomers in the, in the, uh, in the world now retiring, um, is, uh, something called sequence of risks. And that's, you know, do you get good returns early in retirement or poor returns?

And that's really, Corey's specialty. He's spent probably more time on that field than anyone I've ever met. That's managing risk. And so what this is what I believe Corey saying, correct me. If I'm, if I can speak for you, is advisors are having a really hard time to tell clients that this is not just a time for our typical prudence, potentially time for more prudence, but they want no prudence and they're super vulnerable.

And it's really a tough, that's the tough discussion that's going on. Because being prudent has, has been, you have looked like an idiot on the prudence trade.

Corey: I think you're spot on there and hitting that. And I think there's been another really interesting sort of unintended consequence of quants getting more and more popular, which is, I think one of the worst thing quants ever did was allowed back tests to be used as marketing.

Right, maybe we didn't intend for that to happen, but when you allow ETFs to be indexed, those indexes are created by quants and everyone can go out and look at the history of the index. A lot of advisors use that index performance, the back test as their evidence and justification for buying a strategy.

And so what has become a problem, and I think it's a question for quants in general is thinking about what does it mean to be evidence-based. If I do truly think that the Fed has changed the game ... I'm going to steal a phrase from an advisor I work really closely with. If they've gone from referee to active player in such a way that I think the way we have to think about building portfolios has changed.

And I think I have evidence for it. And a client wants a back test. Well, the back test is irrelevant because I'm saying we've entered a new regime. So we need to rethink as quants what does it mean to be evidence based? If my evidence is, Hey, look, look at all the options selling that is now occurring in the market that is potentially distorting market volatility.

Well that doesn't, that's not relevant going back more than five years cause that wasn't around five years ago. So it's an, it's a different type of evidence that will never show up in a back test. And I think we had this sort of knock on effect in the industry where as ETFs got adopted and smart beta got adopted and we showed hundreds of years of performance back tests, clients and advisors and individual investors got trained that that's what evidence meant. And so now if we have evidence of anything else that doesn't come with a back test, it's very hard to call it evidence.

Rod: Yeah, the challenge there is that, uh, as everybody teaches us, Time is your only way to create evidence and something this recent, you have no ability except to jump forward 20 years into the future to determine whether it really was a change or it wasn't a change.

So, you know, the right logical thinking in my mind is until you have evidence that the referee has turned to player probably better off sticking with what you know, than trying to predict something that you don't know

Art: The best quants are also very adept at, I would also say, um, being historians, um, being, uh, English majors, like all of these, all of the nontechnical things, because if you don't know history that, you know, the railroads went through a similar time or this.

That that's student of history makes the best quants because they can look at a back test and say, yeah, I mean, that's boy, a boy could a, could I recreated that with frictional cost is a whole other thing, but there is this history of markets to understand how it gets affected, unless, you know, the history and various things it's very difficult to put those things in the right framework or else you just accept them as truth. And then when you don't get that, you're disappointed.

Corey: Absolutely. Rod, one of the things I think it's interesting that you brought up there as this idea of, if you don't have the history and the evidence, you know, how can you try to incorporate this?

Do you just have to stick with what you know? And I do think there is, you know, you should default to your evidence, but I think the other way potentially to think about this, and this is where a lot of people, in my opinion, struggle, as they tend to think about things in probability space, where they go, okay, I'm 99% sure that the Fed isn't an issue.

I'm a 1% concerned. And so therefore I'm going to stick with my old way of doing things. But the other way to think about this is what I would call the payoff space, which is, well, even if I'm only 1% uncertain about the Fed's influence, if I'm wrong and the Fed ends up creating a hyperinflation scenario, that 1% regime that I'm wrong about the probability has a huge, massive payoff impact on my portfolio.

So, so I go back to thinking about these different regimes and how I can try to build a portfolio that's robust to all of them and Art I think it goes back to what we were saying at the very beginning, which was the prudent thing to do is diversify. It is even though growth seems like the only thing that's working right now to say: part of me says, yeah, you should probably buy some growth. And part of me says, you should probably barbell that with some deep value, right? And then you're on both sides of the trade. And it seems a little bit like maybe you're, you're sitting on the fence, but at the end of the day, you're trying to hedge yourself to either extreme outcome, um, of the way these things go.

And so I think where people are really struggling as they keep seeing U.S. large mega cap growth equities have worked for the last decade. And it's hard to imagine the counterfactual where that wasn't true.

Rod: Especially as we keep on purchasing Amazon products, jumping on the net during COVID.

Corey: Exactly. We all stayed home.

The rest of the economy fell apart and we were all spending our checks on at Amazon. So I think it's really hard for people to imagine that counterfactual and how it can fall apart because we're so much more apt to consider how it can continue. It seems like a self-fulfilling prophecy. It seems like, well, this is just inevitable.

Um, but I, again, I think prudent portfolio construction is not about always trying to seek return. It's about trying to manage risks.

Art: Why I love quant is because it brings stuff up that I would never look at. And, and an example of that is in a, if you ran a Canadian, a Momentum portfolio, just a simple Momentum portfolio of Canada in the last two years.

You would say all of these gold companies started to populate that portfolio. And it was, I was watching that and I was just fascinated because 15 years ago when a company like BreX was a big scam here in Canada and gold was hot. And, uh, back then brokers were putting garbage cans over their head and pretending like they were in the mine.

I could tell you everything of what an ounce was and ounces mattered in gold companies had that narrative down hot. And these new companies were entering into that filter. And I didn't even know what they were called anymore. It was fascinating to me. And now gold is 2000 bucks and that's, that's the problem with the, the, the issue with the current narrative.

And that's why I love quant because the system doesn't care about any of that stuff. It's actually just doing, doing this stuff. And I, you know, the problem I would have had is that I'm thinking through this, like, how would I have talked to a client that, you know yeah. You should be like a, you know, a lot of 15 stocks should be in eight gold stocks. When they haven't even heard about gold forever?

And Amazon's role in the world, I guess that's my fascination with quant. And I, and I always, like, I'm such a human being. I look at that and I go, man, that's something I would have never done. Yeah. And that's that. So I, I do believe this narrative, like I don't, when I see something like that, I don't think much has changed.

I think the narrative gets embedded to a level and the momentum in that narrative pushes that further than probably it should. Cause that's what happened in technology, but there are still fundamental issues to these businesses where they are cheap and producing profits and eventually people buy them.

So, you know, and, and we do that too slow.

Corey: Our joint friend, Mike Philbrick over at resolve. He's got a great phrase that I'm just going to paraphrase here, where he says systematic strategies force you into uncomfortable positions. And I, and I, and you need to learn to love that. And part of me just says, well, don't even look at what the underlying positions are, but the whole point is, you know, where they, they run multi-asset positions, they'll end up in these positions where it's like, really, I'm buying gold now? I, this is just, this is a trade that hasn't worked for years. Right. But you follow the system into something uncomfortable and because it's uncomfortable, other people probably won't do it. Right. And that's where potentially the edges. And so to your point, the people are talking about is value not working.

Oh, it's real like it's really fallen off a cliff. Well you pair it with something like Momentum and you create diversification in your portfolio. And again, you hedge yourself to the different outcomes that can unfold. Maybe value will continue to not work, but momentum's on the other side of the trade.

Or maybe value's going to come screaming back and momentum's going to lag behind. And again, you've, you've hedged yourself out in a way that I think is prudent, that a lot of people struggle to stick with in the long run, but in my opinion is the right way to think about portfolio construction.

Art: Yeah. And I, and I think the big message that we want to be told and want to scream from the rooftops in this podcast to Canadians or Americans or any other investors is our ability to be money managers to do that has, is so cheap, efficient, effective. Easy. Uh, it is, uh, it is a, it is a whole new world. So you can be a top flight money manager in the advisory business using these new tools to actually go get those outcomes because all of the hard work of, uh, cost cutting in technology has made those strategies just so compelling to use where they were actually high friction high intellect, uh, corners of the market. But as Wes says, West Grey, our friend, you know, it's the democratization of these areas in levels that we've never seen before is such a transformation in the business. So that's why it's exciting to have you in the, as an asset manager, cause you're building amazing stuff at excellent costs for clients.

It's just a wonderful time to be an investor.

Corey: I think this was none of the stuff we planned on talking about in our prior discussions, but it's all super relevant. And perhaps, you know, again, for investors out there who were feeling this struggle, the number one thing I can say to almost anyone is they always ... the idea that people have when they start investing, and I hear this from advisors all the time is they, they get uncomfortable and they want to know all in all out type decisions. It's either I want to be deep value or I want nothing to do with value. I'm going all growth. Or I'm not, I'm going all passive or I'm going all active. And I think shades of grey is the prudent decision that always gets overlooked.

If you're uncomfortable, you don't have to take an entire position off. You can take a half position off. Right? And that I think goes massively overlooked. The benefits of diversification are proven over time. I think people should stop thinking in black and white and portfolio construction and more shades of grey.

And I think they will be much better off than the long run.

Rod: I think what I took away today the most was really about narrative and not only from the asset management advisories perspective to understand your own narrative, but the importance of, uh, Um, ensuring that you have a balanced, your principals are rock solid as you continue to say Art.

And that you have a narrative to coach people through these unusual times and changes in the market. So, Corey, it's been such a pleasure chatting with you as usual. I'm looking forward to the next time we get together. It's always a, it's always a great time. Hopefully it'll be Montebello in 2021 up in Montreal.

Cause it's a hop, skip, and a jump for you now, rather than your California digs.

Art: Yeah, and I love how you love the business. Corey. I, I, that's such an alignment of with us is fantastic.

Corey: Well, thank you for having me on guys. I'm looking forward to more Canadian adventures in the future. I've definitely missed it in 2020, so hopefully we can get together soon.

Rod: The warm-blooded guy who has to do all these polar bear swims.

Corey: Exactly. It's initiation!

Rod: Yeah, exactly. So you've been tuning into a modern investment journeys. My name is Rod Heard, co-founder of SmartBe Wealth. And I'm sitting here with Art Johnson. Thanks so much for your input today, Art.

Art: That was awesome.

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