September 25, 2022

Bogleheads® Chapter Series – Paul Merriman Presents Ten Life-Changing Lessons

Hosted by the Boston Local Chapter, Paul Merriman gives a brief discussion of the 12-million-dollar decisions covered in his book “We’re Talking Millions”. The Merriman Financial Education Foundation is celebrating their 10-year anniversary this year, and Paul discusses the 10 most important new lessons they have learned over the last 10 years.

Paul Merriman


Bogleheads® Chapter Series – Paul Merriman Presents Ten Life-Changing Lessons

Alan: Welcome to the Bogleheads Chapter Series. This episode was hosted by the Metro Boston Bogleheads Chapter and recorded on September 17, 2022. It features Paul Merriman from the Merryman Financial Education Foundation discussing the 10 most important lessons they have learned over the past decade. 

Bogleheads are investors who follow John Bogle's philosophy for attaining financial Independence. This recording is for informational purposes only and should not be construed as personalized investment advice.

Terese: Okay it's 12 o'clock so we're going to  go ahead and get started.I wanted to welcome everyone to the Boston Bogleheads Chapter meeting. I'm Terese Reynolds, the Boston chapter coordinator, and a few things before we begin today's meeting. The presentation

will be recorded including the questions and answers. If you don't want to be seen on the recording, you can turn off your video. The chat will be saved but all names will be removed.

The recording will be saved on the Boglehead Chapter Series on YouTube and I will also provide

a link to the recording when it's available, as well as a copy of today's presentation.

And you'll have an opportunity to ask Paul questions after his presentation. Please put your questions in the chat or raise your hand. And just a few Zoom tips before we start. Please mute yourself during the presentation and stay muted unless you're speaking. On a laptop you can raise and lower your hand by clicking on the reactions button at the bottom of the screen and then click to raise the hand icon. And you can change your name by right clicking on your photo and then selecting rename. And you can keep your video off during the presentation, but if you ask a question at the end it would be nice to have your video on.

All right I'm going to go ahead and start. I'm very pleased to welcome Paul Merriman today and a little background on Paul.  In 1983 Paul founded Merriman Wealth Management. After Paul sold his firm and retired in 2012 he established a financial education foundation and the mission of the foundation is--- the Merriman Financial Education Foundation believes knowledge is power---and is dedicated to providing comprehensive financial education to investors at all stages of life, with information and tools to make informed decisions in their own best interests and successfully implement their retirement savings program.

In the 10 years since Paul founded the foundation he and his team have produced five books and all but one are available at no cost through his website, and more than 700 articles, podcasts, and videos. His website also includes  recommended mutual funds and best in class ETF portfolios at Vanguard, Fidelity and Schwab. And I've been listening to Paul's podcasts for over three years while driving to work each day. And I've learned so much from him about investment strategies and how to invest more money with less risk. And I'm also so impressed with the time Paul gives to educate investors of all ages with free information and tools to successfully implement the retirement savings programs.

And when I contacted him to talk about our group, he not only said yes, but he was so enthusiastic and excited to do it. And we're really lucky to have him here today. The Merriman financial Education Foundation is celebrating their 10-year anniversary this year so Paul decided to take the opportunity to discuss the 10 most important new lessons they've learned over the past 10 years.

 And again, after Paul's presentation we'll open it up for questions. And I will now turn it over to  Paul.

Paul Merriman: Thank you Terese, and thank you for all that you've done to make this possible. I am excited. I've never made this presentation before and as I thought about the 10 years that we've been working to help investors I realized there's probably some things that are unique to our teaching,and so I thought I'd focus on the things that have come out of our foundation that we think are some of the best work in terms of helping investors understand the process of investing. 

And I do want to get my pointer up here,  for once in one second. You've already written the mission statement, Terese, so let me just add something about our mission and what we're trying to do. It's different, I think, from any other organization that I know. 

Yes I was an investment advisor and worked with many investment advisors to help people do the actual--not only the planning--but the implementation and the managing of the money. And so I had to, we had to, learn a lot about investing as a part of that process. And my goal is this: I am now here to help do-it-yourself investors do better. I mean that's the goal and that means from my viewpoint that when you are a do-it-yourself investor it means you need now to be the professional. You need to know the information that the people that worked with me needed to know to give advice to others. Because in your case you have one client theoretically, maybe

some kids and relatives, but basically you are the advisor to the most important investor on Earth. 

And so I want to make sure that you have all of the data, all of the studies, and when I say all. I've-- you know every study that was ever done---but the information that if you were an advisor to others you would want to have that available to help them. So let me speak with you, share with you, as a teacher. I'm not an investment advisor. I don't give anybody individual personal advice except very close friends.

So I am a teacher and I know this old saying about when the student is ready the teacher will appear. Well I'm hoping that today, for at least a handful of you, there's an opportunity to do some serious teaching here. And I thought it would only be fair if I share with you some of the major teachers in my life. A Dr. Fama and Dr. French  from the Dimensional Funds. That actually they are academics who were the ones who developed the early research on factor investing, the  premium for small, the premium for value. The premiums that now people understand

commonly in building a portfolio to take advantage of not just being in the market but what part of the market.

And then, of course, I mean it's not just because I'm here with the Bogleheads I say this, but John Bogle, he was one of the best teachers and yet my class with him was only 90 minutes in his office. But that 90 minutes truly changed my life. And then Jason' Zwieg, he writes for the Wall Street Journal. I hope if you haven't read Your Money And Your Brain that you will because it is a wonderful paperback book, costs next to nothing and I think you will learn about why it appears so many people are just a little bit crazy when it comes to money topics.

And then one of the best in the industry, as a teacher, is Larry Swedroe. I think he's written 15 - 16 books and every one of them is in its own way a classic. And if you want to be good to yourself, in fact I reach for this one, it's Your Complete Guide To A Successful and Secure Retirement. It is just terrific.

And by the way I am not a financial planner, I am not an estate planner. I am not a tax expert. I am not a CFP [Certified Financial Planner]. I'm a guy that likes the process of investing. And then two other folks--I know you heard one of them-- many of you did, that's Chris Pedersen. Chris Pedersen has been an amazing teacher for me. He is our director of research. Daryl Bahls is our director of analytics. You're going to see some of his work today. He has figured out such clever ways to teach people about how investing really works and  this is not my creation. This is his creation. And Chris has done what he's done. They both are working for our foundation without pay.

And the final person, I suspect nobody there knows her because at what happens to be her maiden name--Sarah Louise Atwood is my mother, and there are two things she taught me. She taught me about the respect for others and she taught me that it's my responsibility to serve others. And I am so happy she taught me that because without her I probably would not be here today.

So I'm going to focus on a handful of lessons. These lessons, I think, are some of the most important and yet not all of them are taught, or not taught the way I would like to see them taught.

 And lesson number one is about the importance of an extra one half of one percent. People throw returns around and then they oftentimes don't realize that just small changes in what we do with a portfolio could lead to little additional returns, and pretty soon you’ve got an extra half of one percent. And what is an extra half of one percent? Potentially lead to early retirement for some, having more to spend in retirement for some, leaving more to others at the end of your life. In my case my IRA all goes to the Foundation at my passing. And so to the extent that I can I want that to be as big as it possibly can to help to be there, to help others.

But for every extra half of one percent I can make the case that whether you're a first-time

investor or you're a first-time retiree it can be a million dollar payoff. Let me just show you quickly. Let's just assume we have two investors. One of those investors--and I want to get

my pointer here for me if I can just one second please. Well I guess I'm not going to get my

pointer right now. 

But one of these investors makes eight percent during the accumulation period and then in retirement makes six percent. And from that six percent they take four percent each year to live on.

The second investor makes an extra half of one percent. Now I'm sure you have lots of ideas how one might make more money, but if there is an extra half a percent that means eight and a half percent during the accumulation period and six and a half during the distribution period. And we make the assumption that five thousand dollars a year was invested and they started at age 21 and they and they retired 46 years later and they lived in retirement to enjoy the money to live on.

So what is the long-term impact on that? Well first of all there was an investment in both cases of two hundred and thirty thousand dollars. In the case of the first person, at retirement they had about 2.3 million dollars they took real withdrawals of four percent--and by the way that means a little money is there to build and become of greater value in the future-- but they took withdrawals of about three and a half million dollars. They'd left 3.8 million.

So from my viewpoint when people ask me how I've done with my investments I'm not going to really know how I did until I die. Because at that point they could figure out how much did he take out to live on and how much did he leave to others. And that is the real return on that two hundred and thirty thousand dollars. Which if you add those two together totals over seven million dollars.

But the person who figured out a way to earn an extra half of one percent, instead of having seven point four million dollars they have 9.6 million dollars. They have 2.3 million dollars more because some way, somehow, they found an extra half of one percent.

And so when we, Rich Buck and I, wrote the book We're Talking Millions: 12 Simple Ways To Supercharge Your Retirement, it was really about looking for those one half of one percent opportunities. And they're legitimate, which in theory if there are 12 of them and in every case we can figure out a way when you come to a fork in the road to do better with one fork than the other, you could in each case have an extra million dollars. And by the way I'm hoping that you will take the free copy of the book. I am hoping you will not go to Amazon and pay for the book. I am hoping you will take the free audio that you can get. And the reason I want you to get it free is because my hope is you will pass it on to family members. All you have to do is send them the link and they're in. And my goal my goal is if I can last 10 more years with this Foundation that

we're going to get a million books out to people. 

Now you all can get a copy of the book. It'll take you a couple of hours to read theoretically. But I can give you in just a few minutes what you're going to learn. Where can you get an extra 0.5 percent?

 And it turns out that the first one, choosing stocks over bonds. For the long term bonds compound at around five percent or less, historically stocks 10 percent and more as a group, depending what group you look at. You'll see that in a second. There is a five percent difference right there. If in fact a half a percent will add a million, think what five ten half a percent or five percent would mean over a lifetime. It's huge. And yet a lot of young people refuse to go into the stock market because it's so risky and choosing mutual funds over individual stocks. 

Young investors think they're going to  make the most money if they get on some hot horse and ride it. And yet every study I've seen says the probabilities over time are going to be greater with a diversified portfolio than a non-diversified portfolio.

And what do Bogleheads know above all. That lower expenses are likely to lead to higher returns. That is true. That is absolutely true. That doesn't mean because you could get a bond fund with one tenth of one percent fee compared to a stock fund of two tenths of one percent that you should be in the bond fund. No, first is the asset class, then it is the expense. But there's no question based on what we know, what Morningstar knows, that an extra half a percent is just sitting there for a lot of people who are in mutual funds that are charging one, even more than one percent. 

One thing a lot of people don't know is that when you're in a taxable account, Morningstar actually keeps track of the tax efficiency of funds. Some funds have very high tax efficiency, some funds have very low tax efficiency. When you look at the difference between index and actively managed funds and you look at the after tax return there's typically about one percent

lost to taxes in an actively managed fund. And so that is just one more advantage for the index fund over actively managed.

And of course we want young people to take advantage of tax favored accounts. I'm going to be talking in a few minutes about a young investor 17 years of age who was making that choice to do tax favored investing, and I think you're going to love the outcome, potential outcome, and maybe find someone in your family to do the similar thing, adding small cap and value asset classes to a portfolio.  Another way historically of adding a half a percent or more.

Now these are no, these decisions here are not exactly about getting something that you can compare so easily. But I can tell you that choosing saving overspending is one of the biggest decisions we make. Warren Buffett says don't say what's left over after spending, spend what's left over after saving. Pay yourself first and start it early. This 17 year old young lady who's starting at 17 instead of waiting and until she's got a full-time job. It's going to make a huge difference.

 In fact most people who see this today are not going to believe it and then choosing buy and hold over market timing. Almost everybody says, oh don't market time. Market timing doesn't work. You hear that all the time. Yet what do most people do? Yeah most people do market timing. If they think interest rates are going up they want to get out of bonds. If they think International is going to be better than the U.S. they want to get out of the U.S. and have it in international. They want to move things around. That all has to do with market timing.Now you can do it technically, mechanically, or you can think it all out. But it doesn't change the fact that you're taking steps to try to perform better. All of the evidence is it does not help. 

Lesson number two. I think this is huge. How to compare equity asset class returns. There's not enough information as far as I'm concerned,  but what Daryl Bahls has done to help us. First he gives us this information. This is pretty simple information but it's a good start about equity returns. Here's the S&P 500, large cap blend, here in the first column. Second column is large cap value, small cap blend, then small cap value. And over the last already 94 years those returns ranged from 10.2% up to 13.4%. 

Looking for a half a percent sounds like there's some in there. But these are very very high risk Investments. On a short-term basis this is what scares so many young people away. I might lose a lot of money. You will lose a lot of money, we just don't know when. But we know looking backwards that the best year that the S&P 500 ever had was up 54%. The worst calendar year was down 43%. And each of these asset classes, you can see there. And here's by the way the gold, the gold ring of asset classes is U.S small cap value because that compound rate of return is about three percent more than the S&P 500. That's a lot and the risks on the downside are not that much higher.

When you think about the potential return, now I'm just going to give you a little taste right here but notice to the far right we have these combinations of these four different asset classes. And if you put 25% in each of those four, the compound rated return of the last 94 years has been 11.9%. And the returns against on the upside and the downside--well on the upside they're much better, on the downside they're not that much worse. More on that later.

When we go out--and this is the lesson young people need to understand--when we go out and look at 15-year periods, all of a sudden you're not looking at a plus 50% and a minus 40%, you're looking at the best 15-year compound rate of return was 18.9% with the S&P 500 and the worst was a little better than break even.

And the other ones were not that different. By the way large cap value was a little loss. Small cap blend was a better profit, 1.6% a year, small cap value a loss of 1.9%, now that's 1.9% for 15 years so that's not a small loss, but that's the compound rate of return. And here again we have these combinations of asset classes.

 Look over here. I love this one. I just love it. The two fund strategy, half in S P 500 half in small cap value, compound rate of return the best was 21.6%,the worst was virtually the same as the worst for the S&P 500. 

But the best information is the longer term information because that difference between the best and the worst continues to shrink. That's an important thing for young investors in

particular to understand. That your risk in reality goes down a lot and the best 40-year return was a gain of 12.5% the worst was a gain of 8.9%. So the worst 40 years were still profitable.

And by the way, if you inflation-adjust those returns for those periods there was only about a one percent difference.

So these are nominal returns without adjustment for inflation. And notice the average 40-year return of the S&P 500 happens to be the return of the last 52 years, 11%. Small cap value was 16.2% average, the last 52 years didn't produce 16% but it produced about 14%. And large cap value and small cap blend are in between. And again when you look at these combinations you go from 11%  with the S&P 500 to 13.7% with the combination of the four asset classes. And look, the worst 40 years was 10.8% about 2% better than the worst 40 years for the S&P 500.

I'm thinking that that four fund strategy is, at birth, at least taking the look and finding out more about that risk and return.Now here's--and I mentioned this before--short-term returns are random. They're all over the place. Now when you ask people what do you think the market will do next year invariably most people will say  probably up about 10%. Why do they say that? Because that's the compound rate of return, basically, for the long term. 

But the reality is it's going to be all over the place and I want somewhat, some way, some tool,

some information that would help me and help others understand that randomness. And here it is. Daryl Bahls, our Director of Analytics, built this table. I just love this table because I can look at this from 30,000 feet. I realize that these different colors---green is the S&P 500; the kind of yellowish tan is the large cap value; the reddish color is small cap blend; the electric blue is value; and then we have that four fund combo that's purple.

But when I look just at the green, because green is what I know, the S&P 500. By the way I also know that the S&P 500 that that expected return is lower because it's of higher quality, and if it is lower because if it's of higher quality, that means that it's probably not going to be number one very often. Well it is number one often regardless of what the long-term return is. But we never know when. I mean there's a period here from 1940 to 1945 where it's green every year at the bottom, for six years. But then if we fast forward to 2014 here through 2019 in all but one year it was at the top of the pile. And of course anytime it's at the top of the pile people say it's the only place to be. You see small cap value is dead. The premium for small cap value is no longer

available because the S&P 500 recently has been doing well.

That is one of the biggest traps. It makes you believe that there is something, a trend that is going to last longer than it is likely to last. So I just want to use this to show how this stuff just moves around from year to year. And those who think they're going to market time ,or find some sort of a pattern here--and I'll talk about the pattern that I get here that just knocks my socks off-- but as far as a pattern to know where you should be, green, blue, brown, red ,whatever, it isn't here.

Asset classes drive returns. Lesson four. If you look at those same, all those years, you will see if you look at one year at a time, that it is the asset classes that make you gain or lose you money. Not the stock picking, not the market timing. And let me just take you through four years, just four years of that, that quilt chart that Daryl put together ‘97--’97 small cap value up 39 percent, large cap value up 38.4. Hey looks to me like it was a year that value was kind of king of the hill or queen of the hill because it was the two value funds sitting at the top there of performance. 

Down here at the bottom--these were not horrible years-- but remember when you see the S&P 500 I want you to think growth. It is not a value index. Yes it has some value in it but it is cap weighted and those returns are driven by the most growth oriented companies. And the same is true with small cap land, you've got the power of small growth.

So that was not the place to be, and by the way, when I say that understand there's no risk in the past. I always know what we--and we always know what we should have done--and all we have to do is look at the past and see what we should have done. Well in 1997 we should have been in value but what good did that do us for ‘98 because in ‘98 it wasn't small it wasn't a value or growth that drove the positive returns, it was large blend and large value that created the positive returns. 

Now to tell the truth, yes large growth did better than large value. But notice the small cap indexes actually lost money. So if you looked at the list of the best performing funds for 1998 guess what they are going to be--large cap growth oriented funds--the worst performers are going to be in the small cap.

And yet these people who were in the large cap growth or blend, they'd like to think that they were reasonable, they were so good because they picked the right stocks. No, they were in the right asset class. 1999 all of a sudden it looks like growth was the winner because small cap blend and large cap blend, ever driven by growth, mostly did well compared to the value. 

Yeah value was up, but about a third of what the growth was up. And finally, in our fourth year here we see it again, value is leading the pack. In fact small cap value up 20.5%and the S&P 500 down 9.1%.  And you could ask yourself are they in the same market? How can that be? But if you look back at that 1928 to 2019 quilt chart that Daryl put together you will see that is not an unusual outcome. In fact between the S&P 500 and the small and the small cap value, the average difference in return per year is about 15 percent. 

Lesson number five. Diversification of asset classes is a million dollar decision. See, a lot of people have told all you really need is the total market index. All you really need, Warren Buffett says, is the S&P 500 because those are really good companies and they drive a good long-term return.

But they totally ignore the idea of diversification. Well they'll say of course there's diversification in the S&P 500, there's 500 companies, but they are 500 companies that are basically in the same asset class. And sometimes those asset classes fall apart for long periods of time.

But I want you to see the impact of diversification, and you can say that I am optimizing or data mining, and I don't think I am at all because I'm looking at this whole 1928 to 2019 period and I'm seeing the green and the blue and all these colors all over the place. But when I look at the diversified portfolio of all four of those asset classes I see a lower risk investment. I see a

strategy that is likely to help me stay the course when there are times that people want to bail out of other investments.

 And I'll show that to you in a few minutes with the S&P 500 from 2000 to 2009. You'll see it in action, it fell apart--oh yeah it fell apart after it was up over 17 percent for 25 years from 1975 to 99-- so it's not like it's a miracle that it was out of sorts and out of favor for the decade of 2000 through 2009. 

But a diversified portfolio of asset classes, what's the key lesson number six. Now I've already given it to you, but I'm going to add something to it. It's a little uncomfortable, but there's no question from looking backwards, if we want to use the past as any indication of the future ,that small cap value is the best of these major asset classes for the long term. And the academics would say, well that's easy to understand why, because you get the market return in it, you get the small cap premium in it ,and you get the value premium, all wrapped up in one.  You don't get the value premium in the S&P 500 in the same way you don't get the small cap premium in the S&P 500.

Let's just look instead of one year at a time, let's look at 10 years. Looking at the decades from 1930 to 39, 1940 to 49, 50 to 59, etc. And we can see in each decade which of these asset classes--by the way in this particular study Daryl was kind enough to add fixed income--so you could get an idea that for young people who think that fixed income is a good thing to do that for the long term it probably is not. And these are nominal returns, again Daryl's always there to make that difference, not inflation adjusted.

Look at there, small cap value at the top by significant amounts, by the way in five of the nine decades, but  there are a couple of decades the S&P 500 was at the top. There was also a decade that it was at the bottom. Another decade it was at second from the bottom. In fact t-bills from 1970 to 1979 had a better compound rate of return than the S&P 500. And over the whole period small cap value 13.7%, S&P 500 9.8%, 1930 through 2019.

But I want you to notice again about that four fund strategy--I think this is important- the four fund combo outperforms significantly in many of the decades the S&P 500. I'm here in 1940-1949, 14.3% for the four funds versus 9.2%.  1960-69, 11.3% versus 7.8%. 70 to 79, 10.6% versus 5.9%. Yes, in 1990 to ‘99 it was number one, and in 2010 through 2019 it was number one.

But look where the four fund combo is, it was just right in there, just almost not quite the same, but almost the same. So when somebody says put all your money in the total market index or put all your money in the S&P 500, I just want you to see there are other things you might do, if the future looks like the past, and when you do it you are increasing your diversification, not only with more companies but with more asset classes.

And then Daryl did something. This is just a part of the entire study but it's kind of the bottom line, and I love this study too because it tells us in a way what we might expect depending on how radical a position that we take. 

It turns out if we take the position that the S&P 500 is the place to be, that in 36 of these years that you would be in the top 20 percent and in 48 of the years you'll be in the bottom 20 percent. Interestingly enough, with very few in the center. 

At the other end of the spectrum is the small cap value, 45 times number one, 31 times number five, as opposed to a portfolio that's all valued small and large, you didn't get 13.4%, but you got 12.5%. That's pretty doggone good, or the two fund strategy, the S&P 500 plus small cap value 12.22%.  Better there, you were never in the top quintile, you were never in the bottom. You were always somewhere in the middle.

And then the four fund strategy, a little less 12% instead of 10.2%, again rarely at the top or the bottom, and then finally the S&P 500. Now I'm rooting for people. I get paid nothing to do the work that I'm doing. In fact I'm the one that has written most of the checks to keep this process going. I am trying to change the financial future now so many of you. You know you're in your 40s or 50s and your 60s and you're going to say, well that's interesting but I've already got a portfolio that I know enough about, that I don't need to improve mine. But I am hoping that you'll suggest to your kids that maybe this is a better idea than what you've been doing. Maybe, and by the way, this is not me with a big know-it-all head. In fact, just the opposite, I can't know it all. In fact I know what people want to know. I've been in the business. I was in it from 1983 and until

2012. People, the most asked question is what do you think the market's going to do? And if I answer, how the hell should I know, that people, well I don't want to do business with you ,I want to do business with people who know what the market's going to do. 

Well most Bogleheads and most members of the AAII, where I've been teaching since 1983 or 4, they know better. But we're all longing for someone to know. I think what you can know, you can know kind of how the volatility is going, what's going to look like. Now when is it going to be up 20 and down 20. But what should I expect in terms of down years and up years, and how long may a bad period go. There are a lot of questions that can get answered from looking at the past. That's the part of the past I want you to know.

But it was the academics who noted the small cap and the value factor premium, and you can choose to say there is no premium for small cap, there is no premium for value. Or you could say, by the way, you could because nobody knows, there also is no premium for stocks over bonds. 

Well in fact, since the year 2000 that's been largely true.Yeah I mentioned earlier for 25 years the market was up over 17% a year,  but since it was up over 17% a year for 25 years since 2000 the compound rate of return is less than seven and a half percent for the S&P 500. Is it reasonable to conclude that the premiums that we've known in the past from equities are gone? I don't know. Nobody knows. I don't think so.

Lesson seven. Why most people who try small cap value will be disappointed. There are people who should never touch small cap value because the moment that they're going to want to touch it is when it's red hot and that's when we get burned, right. Let me show it to you. This is thanks to Daryl Bahls again. This is called a Telltale Chart. Tp the best of our knowledge the first Telltale Chart was developed, or what was displayed by John Bogle, that we don't know that for a fact, but here's what it shows. And it's magic in the story it tells.

It compares the relative growth of two asset classes. In this particular case small cap value and the S&P 500. When the line is going down, when the graph is going down, it doesn't mean that they're losing money, it means that the relative growth for the S&P 500 is better than that for small cap value. When the lines are going up it means small cap value has better relative growth.

 Now if all I want to see is the bottom line, I go to the far right over here and I look at this 14 number, and it says basically if you put money into small cap value back in 1927 you would end the period with 14 times more money in small cap value than you had in the S&P 500. 

Oh well I want some of that of course, but you have to understand that from for about a whatever, 17 years and six months, from the beginning time in 1927 until sometime in the

the ‘40s you would have been better off to be in large cap blend, in the S&P 500. But small cap value finally caught up and did better only to move sideways for another 19 years. Then it spurred up again for a very short period of time, and then it moves sideways for seven years and 11 months. Then another spurt and another sideways for 17 years. Then another spurt then another sideways for over 16 years.

And what do you think, when do you think that investors are going to be most interested in adding small cap value to their portfolio? You see this is why I want you to think like an advisor. I want you to know what an advisor knows about these numbers. Because when you get tempted by the emotion of investing you see that's why people theoretically come out ahead with a professional investment advisor, financial planner. They're doing it themselves because they're supposed to be objective, one, and two they're supposed to be educated. And this is the information they're supposed to know, that they can say to you, wait a minute, I just want you to realize you're wanting to add an asset class that has been making tons of money at a time that maybe it's not going to make tons of money for many years.

 By the way, for those very long periods where it moves sideways, at the end of that period it means basically that the S&P 500 and small cap value ended at the same place. Thank you Daryl Bahls.

Number eight. Few funds, a couple of funds, three funds, four funds, maybe five funds to be just as profitable as having 10 funds, and without taking any more risk. Now this was a lesson that changed my life because I was out there telling people about the strategy that I was using for my clients, not thinking about the implications of people being a do-it-yourself investor.

So here was the pitch I used to make, and we updated this table every year. The pitch I used to make was you put a hundred thousand dollars into the S&P 500 in 1970. How would you have done if you just let it be, you didn't add any money, you didn't take any money out, without paying any taxes and 11 compound rate of return grew to 23 million dollars. A hundred thousand to twenty three million, it's all you need to know.

But if I made one very small step, a baby step, and I added large cap value as an asset class for ten percent of the portfolio. The return goes up from 11 to 11.2. And yeah, maybe you're saying that well, so what. I mean that's not all that much. Yes it is. The 23 million goes to 25 million. And then when you add 10 percent small cap blend it goes up one tenth of one percent more it adds over another about 1.7 million. And then you add small cap value and it goes up about 5 million.

And by the time you've added REITs and the international asset classes, big, small value etc and then you add also Emerging Markets, you have gone from an 11 compound rate of return to 12.6 and you're more diversified. You're a little more volatile, but most of that volatility, as you're going to see, is on the upside not on the downside.

But I tried to take this 10 fund strategy and shove it down the throat of do-it-yourself investors, and that's when I got the what for from John Bogle when I spent 90 minutes with him in 2017 in his office. He was the best teacher in that 90 minutes I ever had. He not only changed my life---and by the way Chris Pedersen was trying to get me to do the same thing. But he changed the life of a lot of people who were now willing to do something more than the total market or the S&P 500. Maybe not with much, maybe just with a little, but give themselves an opportunity to make a better rate of return.

 Another lesson on this page, by the way I want you to look down here. Notice instead of 12.6 this particular, same by the way, same asset classes, three tenths of one percent less. Instead of 47.7 million you end up with 42.6 million. The difference is the portfolio was rebalanced on a monthly basis instead of an annual basis. The top one is annual, the lower one is monthly.

But it's less risky because you keep taking money away from the more risky asset classes that are producing the higher return.Daryl is working on a wonderful study right now, the implications of rebalancing every couple years, every three years, every five years. I think you'll like it.

So out of this came between John Bogle's motivation and Chris's willingness, along with Daryl Bahls, to work hard to help us see what these small portfolios, what they could do. We developed all these different portfolios and now what we need to do is to be able to show people how with a few funds we're still getting access to value we're still getting access to to small---we're not ignoring those things that we want in that portfolio---and once again Daryl Bahls hits a home run.

 I'm not kidding. The first time I saw this table ,and I love tables of numbers, and saw what Daryl did and tried to help people, to educate people, I was just blown away because I  now understood risk from a whole new way. Here's what he did. He took each one of these portfolios, the S&P 500, the 10 fund strategy, the four fund worldwide, the four fund U.S,  the five fund worldwide, all value, the two fund all value US, the worldwide two funds, small cap value that could actually be three, and the combination of the U.S large blend and small value, and there's one more here--no, there's the all small cap value-- in the last one here is the US two fund, half S&P 500/half small cap value.

 And here's what he did. He created--and he sent this to me with these boxes because he knew it would help me and I hope it helps you-- because one way to look at return is to break this down over some periods of time that would be meaningful to see how different they might be for what we'll call a relatively short period of time. In this particular case he looked at 10-year periods. He looked at the S&P 500, looked at the whole period from ‘70 to ‘21, got an 11 compound rate of return. But he looked at ‘70 to ‘79 and ‘80 to ‘89 and ‘90to ‘99,  2000 - 2009, and 2010 to 21. Just to catch what we had.

And the first thing that just stood right out to me was not only the difference between 11% and these other compound rates have returned.  But ‘70 to ‘79, here is this problem of owning one asset class. It wasn't good during that period. 

And yet the worldwide all value, or the US four fund strategy, or the worldwide all small cap value, they were clear winners during a period of time that people thought was the end of the stock market, literally. The end of equities was the front cover of U.S News and World Report.

And by the way, the same thing happened in 2000 through 2009. The S&P 500 had a terrible 10-year period but everybody else, all these other combinations, because they were other asset classes, in many cases along with the S&P 500. 

So I thought the blue area was really helpful in understanding the kind of randomness of this. How different these different strategies might perform. I thought maybe people might start thinking about well, maybe I'll have some of the four fund U.S and  worldwide all value. I mean I didn't know how people might use this information.

But then Daryl did a second thing. He looked at only the up years. So we looked at the S&P 500 and each of the others, and he looked at how many years, pardon me, were they up. They were up in 42 years out of the 52. And the average gain was 18.7 percent. That's an important number. The sum of all of those years was 787 percent when they made money. And the best year was up 37.5. 

Now I can look at other strategies and the first thing I noticed is in every case the averages were much, much higher. Well, I guess we should have because the returns were higher, but in some cases by a lot. But that tells us about the good times and nobody has any trouble with the good times. In fact I would bet that if somebody owned the S&P 500 and they were up 18.7 a year average on those 42 up years they would be pleased as punch.

 Okay, but it's the down years that causes people to leave the industry, to give up on their investing. Which is the  reason I'm so pro for the four fund strategy to try to protect from things getting too far out of whack. Well here's what we know.

If you looked at all of the down years you would see the sum of all of the ten down years with the S&P 500 was 141 percent. Well, that's a nice relationship 10 losing years 141 percent, 42 profitable years 787 percent. The gains are 18.7 the losses are 14.1. You know I've got a feeling for that asset class and that strategy.

On the other hand, just for fun, go all the way to the right side of the page and you'll see the number of up years, 41, for the two fund strategy that is half S&P 500 and a half small cap value.

Total sum of the bad years 130 percent versus 141 percent for the S&P 500. Whoa! I mean the part I don't like is losing money, and that tells me that it is not unreasonable to believe that the losses that I will sustain in the future will be similar, whether I am in the two fund strategy or the S&P 500 alone. But one gets 11% and the other gets 12.7%, at least during this period of time.

And here's the other part that we should understand. If the down years are about the same, but if the standard deviation for that two-fund strategy is higher than the standard deviation for the S&P 500, people are thinking oh it's more risky. Well in a sense it was more volatile, but it was more volatile in the good years. It was the good years that made the difference in that standard deviation, not the bad years.

 I love this work Daryl, thank you. I know I'm running out of time. I'm going to keep going. Here I'm going to make this one real short. Lesson number nine. The Bogleheads in Boston already heard from Chris Pedersen. He developed a strategy called two funds for life. It is one of the most clever strategies I have ever seen. What he did was he combined a target date fund, a fund that changes its asset class, its mix. As you get older it starts adding more fixed income to the

portfolio, as you would expect a pension fund who was taking care of your pension payout would get more conservative as you get older. But he adds a little something that just isn't there in that target date fund. He adds small cap value, and he's got a couple of ways to add it. One is you just put ten percent-- let's say you're investing ten percent of your money-- nine percent goes into the target date fund, one percent goes into the small cap value. And over a period of investing you will probably pick up an extra half percent return over time. And if you put in 20% instead of 10% you even make more, from everything we know about the past. 

And you would be making a weak fund stronger. I love target date funds. I am not being critical of that. But for reasons of not wanting to deal with questions from investors, why is this in there it didn't do well last year, they don't put small cap value into the fund for any significant amount.

And by the way Chris then came up with another super idea and that is for people who are young and more aggressive he---and by the way the last half of We're Talking Millions is dedicated to this particular strategy. In a really basic way in Chris's book, Two Funds For Life, he digs in like a good engineer would and really tears the strategy apart. For people who are really interested It's a wonderful book. It's the only one of our books that aren't free but I can tell you that every book that's sold at Amazon, the royalties all go to the foundation. Chris does not get a cent.

You multiply your age times 1.5 --you're 30 that'd be 45. 45% goes into the target date fund, 55% goes into small cap value. As you get closer and closer to age 60 and 65 you are in the process of eliminating the small cap value. And if you really want to spend the time, go watch his presentation to Bogleheads, the Boston chapter that was done earlier this year.

And I think in the chat notes you all have access to a PDF. So if you want to capture these links you all you have to do is download that PDF and it will give you all the links I'm going to mention as we go along.

How much in stocks and bonds, this is a huge decision. I want you to be all in stocks when you're 20 and 30. I want you to be all in stocks probably to your 40, and then start cooling your jets a little bit. But here's what we provide, and I know this looks like a lot of numbers, but that's what an investment advisor wants to see. They learn from these numbers, and by the way, the numbers are way better than a graph because the graph hides a lot of stuff that you can see when you see the numbers.

But we have fine tuning tables for every one of our strategies. Equity strategies, combinations of those different equity asset classes. And on the right hand side of this table is the 100% equity portfolio, so you can look year by year from 1970 through 2021 and see how the S&P 500 did.

And we loaded it with a minimal expense that you would pay today.

On the far left hand side is 100% bonds and as you move to the right from the left, every time you move one line you are adding 10% equities.

So those of you who are afraid of equities, I want you to see the bottom of this page. This is where the learning is really good, I think. I want you to notice 100% bonds over that 52-year period at a 7.1 percent compound rate of return. That's probably too high, isn't it today, by a lot.

Maybe not for long, we don't know. I want you to see what happens every time you add 10% in stocks. The return goes up half a one percent, half a one percent, four tenths of one percent, five tenths of one percent, four tenths, three tenths etc.

And every time you add more equities, not only does the return go up but so does the risk. So my wife and I, we are not in the fine S& P500, we're in the ten fund strategy. But we, with the S&P 500, if you have a 50/50 stock/bond portfolio, you’ve got to be ready to lose 23 percent of your money in a year. Well, I mean you do if you think the past is relevant.

And I love to be able to show these negative numbers to go along with the positive numbers. You see when you get a sales pitch, and not a real advisor, you'll be learning about the upside. You will not be learning about the downside. And I want you to prepare. Hope for the best, of course, but prepare for the worst. Make sure. In some cases it makes sense for people to take less risk and save more money because if they take too much risk they're going to  throw in the towel and then where are they.

And I have, like I said, I’ve got these same tables, Daryl puts them together. This table's for the U.S four fund portfolio. You can see the exact same relationship between return and risk except that as you move across the table you're picking up more than five tenths of one percent because the underlying strategy had a higher compound rate of return,  yeah 11%. 

Young investors, please share this with them another one of Daryl's goodies. I told him I wanted to figure out a way to help young people understand what it's like to put a little bit of money in and keep adding some money, and he came back with this, and I love it.

You take the strategy, we do the same with all the different strategies. Some of them, by the way, our 50/50 U.S/ International, some of them are 70/30. I mean we look at it from here from every direction, or many directions. Here's what happened. You put away a thousand dollars, 83.33 a month. At the end of the first year, after taking the risk of the stock market, you had one thousand and twenty two dollars. In other words you put in a thousand dollars of your money and all you got was 22 lousy dollars in profits. And you could say, what is going on here, I did this to make money.

Well, you see when you see the rest of the table, and you understand what patience---and maybe these tables help build patience--and that is always what an advisor is trying to do, is to build patience with the investor. Notice what it looks like at the end of 10 years: sixteen thousand. At the end of the next 10 years, a hundred, and almost 120,000 at the end of the next 10 years. Almost 700,000 after 30 years of putting away from a thousand to twenty three hundred dollars.

And then the worst thing happened. For the next 10 years, remember this is the S&P 500 only, no asset class diversification, the next 10 years ends with 662,853. You lost money overall.

But what if instead you had the U.S four fund strategy. Remember it's a big, small, value, growth etc. Where were you at the end of 30 years? Well you were a little over 700,000 at 783. Maybe not as much over as you thought you would be. But at the end of the next 10 years, instead of losing money you had one million 282.And at the end, if you look at the whole 52-year period the S&P category, all equities,  3.7 million in value versus almost 6 million in value. Little things mean so much.

And then there's the distributions. We have over a hundred tables devoted to looking at different ways to distribute money. I know it's overkill, but we're trying to make sure we have information that will help as many investors as we can.

Fixed means you start with an amount of money, let's say on a million dollars, you start with 40,000, you take that out--there's that old four percent---and then you adjust for inflation each year.

Flexible means that you totally ignore inflation, you just take out four percent a year, or five percent a year. That's what my wife and I do. We ignore inflation because we over saved, we don't have to worry about inflation. that I think is one of the greatest financial luxuries we have, is to have oversaved when we retire because we don't have to worry about inflation so much.

But with the flexible you take out four percent of whatever the portfolio was worth the end of the previous year. The market goes up, you get four percent the following year of a higher number. If it goes down, you get four percent of a lower number. 

And here it is the S&P 500 on a fixed basis again, you see all of these columns because it is replicating the fine tuning tables. Putting the fine tuning tables to work, and we can see how bad it got with a 100 percent stock portfolio. You got down all the way to 718, 000 from a million at the end of 1974. 

Ah, but if you've had fixed income you got down 50/50--that's what my wife and I had---you got down to 956. It still wasn't pretty but it wasn't 718. That's why we have fixed income in there, is to protect against those kinds of periods. But I can look at the bottom, oh I can go out 30 years, the 50/50 ended up with 5.4 million, the 100% stocks 6.3 million. But you went through hell to get there.

Here it is. If you made one small change, exactly the same Investments, but instead of taking out forty thousand you take out fifty thousand. You run out of money. Now you won't probably let yourself run out of money. You'll simply reduce your lifestyle and instead of taking 50,000 plus you'll be taking less. They'd be moving in with your kids.

Then there's the flexible. As I say we have over a hundred tables to support you in this arena.

And here we look, for example, this is the five percent a year. Remember, starting with fifty thousand you ran out of money. Notice every column goes to the bottom. Why? Because there was an adjustment downward after a bad year, not an adjustment upward makes a difference.

Lesson 13. I'm almost done. This is for young people. You want to do something special. You want to do something for one year of a kid's life, just one. I want you to do something that means you will be able to give that child, for one year of their life, a million dollars.What I want you to do is I want you to put, please, I want you to put 365 dollars into an account in small cap value, and I want you to hold that in your name until that child is earning some money where you could take whatever that 365 is, and you put it into a Roth IRA. And through that whole period you're in small cap value, and from that point for the rest of that child's life I want that money to be in small cap value. And if small cap value for 70 years compounds at 12 percent that is over a million dollars.

Now Daryl would say, but yeah what after inflation. Okay about a hundred thousand now just for one year, do something like that for them and then if you feel like it the next year you put in 365 dollars for when they're 71, and then the next year for when they're 72 . You get it now. By the way, a three thousand dollar upfront payment we'll get you a huge amount of money in terms of funding a Roth IRA, to turn into tens of millions of dollars. I will be funding this for my new grandchild. Every one of my grandkids gets a little pot of money to grow for them for the future.

But then I want to talk about this first five years of a Roth IRA. This could be for when that little kid grows up, but the bottom line is is that if you are able to early in a child's life put away the six thousand--and in this particular case I'm going to tell you about, it's a real case, it just started in the last months---but I believe as much as anything I believe about the future that this young lady is going to do what she says she's going to do because she's been working and earning money and she's going to put away six thousand dollars a year into a Roth IRA. Now she is getting some help from Grandma and Grandpa and Mom and Dad for college, okay.

So they're actually very proud that she's doing this. She is going to put the six thousand dollars a year for five years and then she's going to stop that Roth IRA. And she is going to let it go in small cap value .And if she does that, and she does it until she is 65, and then she takes out four percent, and she continues to own that small cap value. I mean after the five years she can go ahead and do whatever conservative thing she wants. I want her to own this package of companies. It's not like they're a bunch of losers. It's not by a bunch of bums .These are little companies that are all, you know, they are let's say three billion dollars in size on average.

Right. Now, so what I'm saying is that if this works in the end, the 12% is achieved, she will have in that account 5.3 million at retirement. She will take withdrawals from age 65 to 95 of 22 million, if she takes a 4 annual withdrawal ,and she will have 46 million left over for her heirs.

All right, your child cannot afford six thousand. If they could afford 600 you just simply divided by 10. If so, it's still a huge amount of money and a great lesson with patience. And it's not unusual for people to believe in putting money aside and leaving it forever. People do that all the

time in corporations that they like for the long term. I'd like this asset class for the long term. If it's too late for you to do it at 17, do it at 20, do it at 25, do it at 30.

Daryl took it over all these periods, what you would have at the end, including the legacy amount from when you could get started. We have a lifetime investment calculator that I hope every one of you will give a shot. It is wonderful. It allows you to do all of these things I'm talking about, that I talked about today. Except to do it with your own numbers. And there's one other thing it does that I just love. Let's say you thought the numbers I'm showing just don't seem reasonable for the future but you like the idea that all the volatility is there, and yeah, life is probably going to be something like that. Or maybe I should start in 1973, and see how it works out, or 1990 and see how it works out. All of those things can be done. But it allows you to go in and say take a half of one percent off of all the returns to the table, take a percent off hey, well there you go, make the assumption I want to hire an advisor and pay them one percent. Take one percent off top and see how I'll do.

This is all that stuff-- as a matter of fact a matter of fact Terese went through all of this in the introduction, so I'm not going to do anything except I want to mention one thing what I think is of great importance. It's the last one, we have a best advice link on our site. When you go there on our home page, when you go there you're going to see a drop down with a bunch of topics. These are topics I talked about today. I did not talk at any length, or in fact I didn't talk about the portfolios, the recommendations that we make for investors, and our best in class ETFs. I don't think I touched on that, but if you go to any of these links you're going to get an article about the fine tuning tables. You're going to get a podcast about the fine-tuning tables, and you're going to get the updated fine tuning tables through the end of the previous year. Every year we go in and update all this work, with a new podcast, with a new article. In the hopes that it will get you up to date in the work that we're doing. 

And what can you do for us, easy share our information with others, leave comments and kudos on social media. You all know how to do it, whether it's YouTube or podcast, we need that help. And give a speed feedback. I am more than happy to find out that. Well I happen---I'm happy when you tell me you like what we're doing--- but I'm also happy when you tell me what you would like us to do more of. And we are a 501(c)(3) Foundation and we do use the donations that are given to us, about a third of the money that we spend each year comes from outside donations. The other money comes from inside. 

And there's my email.  I'm available. I'm not available to be an advisor. I'm available to answer generic questions, and most of the answers will go into a podcast or a newsletter or video,

and every once in a while I pick up the phone and call somebody because I'm confused. So I appreciate it when you leave a phone number. Again, do not give personal advice but I know how to nudge.

 All right Terese. Thank you. I'm going to stop sharing and open this up if we might for questions.

Terese:  Okay thanks so much Paul. You know just having you go through all those tables is really helpful because it's a lot of information. I know it can, they can all be found on your website.  But it can be overwhelming, so I think it's helpful to go through that, especially for young investors, some really good information. I know that my two sons are actually on this Zoom cast, so hopefully they're learning a lot. 

Paul Merriman: That's great.

Terese: We do have a few questions that have come to me either through email or I've gotten some of them out of the chat. So I'm going to start. I'll just start with the first one here: I've been listening to Paul's podcasts. I'm interested in his four fund approach to investing in equities. I currently have my Roth and Vanguard's Total Stock Market Index, VTSAX,  for simplicity. My questions are one, does VTSAX approximate the fund approach, and two which would have provided the best returns in his historical analysis? 

Paul Merriman: Well the total market index is going to give about the same return as the S&P 500. They've tracked it all the way back to 1928 and there is a one-tenth of one percent a year advantage to the S&P 500 in those long studies. So what that really says is even though the total market index does give people some exposure to small cap value, into large some large cap value and mid cap holdings that the S&P 500 does not, because these things are cap weighted and are driven by the growth part of the portfolio, that's not enough small cap value, that's not enough small cap blend, that's not enough large cap value, to move the needle.

So what happens is by moving the needle and putting 25 percent each into each of those four asset classes, you move the needle over one and a half percent a year in terms of return. Now that's from the past and we don't know what we should expect out of the future. But the academics tell us that they expect there will be a small cap premium, they expect there will be a value premium. What they don't know is by how much. We know that for the period of 1928 to 2021 the average 40 year premium was 16 percent return for small cap value versus 11. That's a five percent difference.

But over the last 40 - 50 years it's been about a three percent difference so the return of the four fund strategy should be somewhere between one and two percent better rate of return then the total market index or the S&P 500 and at virtually no more risk. I mean if you go back to that quilt chart that showed that the four fund kind of goes along the middle, and the green one, the S&P 500 or total Market is up at the edges, the top and the bottom. I'm thinking the four fund strategy is a lot less volatile. One year at a time, one day at a time, that's a different matter. But one year I would pick the four fund over the big cap  S&P 500 or total Market, either one of them okay .

Terese: Thanks. We have a question that was in the chat. Paul do you know of any target date funds which incorporate the four fund concept in their equity portion as much as I'd like to do it yourself investing equities to bonds, as I age I prefer the automated set it and forget it solution which target date funds provide.

Paul Merriman: Yeah. Unfortunately no there is not. That is not available. There's a good reason and this came up in the conversation with John Bogle when I was there in 2017 because I've been very outspoken about the target date funds at Vanguard because why would you put 10% of a portfolio of a 21 year old in bonds?  Every and all you have to do is look at those fine tuning tables, every 10 percent of equities or bonds is going to reduce your return by a half of one percent. Well we don't want to cost a 21 year old a half of one percent because of the 10%  bond position. How much of a bear market is that going to protect, and should you even be protecting a 21 year old against a bear market? You should be encouraging them to take advantage of the bear market. It's old people like me that don't want the bear market.

So the fact is, and what  Bogle said was these have to be created to make them acceptable to all investors so we have to do things that make it highly likely that they will stay the course. We want them to understand that bonds are a part of this portfolio over a long period of time and we're going to start with just a little bit and then we're going to grow from there.

But that little bit is costing the investors. and they also don't want to load up on smaller value because all of a sudden the portfolio is going to look different than the S&P 500 or the total market index and anytime you start looking different than the index that people rely on, see

on TV, hear on the radio, then they start saying what's wrong with my portfolio, why am I making less, oh it's that small cap value, what idiot put that small cap value in the portfolio. 

So what they do is they solve the problem. They don't expose the investor to what the investor really should have, and they understand that by the way, but they're doing it for the sake of the investor because they're trying to make it very easy for people to stay the course.

Terese: Thank you. Krista, do you want to ask your question?

Krista: Yeah, absolutely. Thanks Paul for all of the great info.  One thing, nice to see you.

Paul Merriman:  Yeah. Thanks for having me.

Krista: One thing that I wanted to circle back on was  how do you approach the international funds in like the four fund approach. Are you saying just stick in the US or where does international factor in?

Paul Merriman: Oh now that's a great question. I went to the US because I wanted to compare it to the S&P 500 and keep it U.S. That made it kind of work for me. For today, no, I absolutely believe in international. We have the same portfolios built with 30% in the international equity portion, and some in 50%.  I happen to personally use 50% but the difference between 50% International and 30% International is almost nothing. It's amazing how close they come over a long period of time, when you and I didn't spend any time on this.

So Chris Pedersen has done an analysis of the universe of ETFs. So in every asset class that we have, he has picked what he considers to be the best ETF in that asset class. He doesn't mean the one that's going to be the best performer in the next year. He wants to find the best small cap value that over the long term is likely to do better because it has the right amount of value deeply discounted. It's the right size new company inside of the fund. The expenses are low, the turnover is low. I mean they're all these things that he looks at, the profitability of the companies are a consideration. 

So when you go to our website and you go to portfolios you can drill down to ETFs. Then you can drill down to “best in class” and there  you will see the recommendations that Chris has made. Now he updates those periodically so he will probably in the next year make a few changes. But he doesn't make them all the time even though even if he found an ETF that he would like to. It's just too confusing, if you move around very much and, by the way, tax inefficient if you're in a taxable account.

But yes, as a matter of fact you would see-- let me just think about the worldwide four fund strategy---has the same asset classes as the four fund U.S portfolio. But how can that be? Well, in the worldwide, the first fund is the S&P 500, that's large blend. The second fund is large cap value but we use an international large cap value, that's the second fund. Then the third fund, small cap blend, is an international small cap blend and then small cap value is U.S. So you still have the small cap value and the blend and the big value and big blend, but you have them balanced between U.S and international. And the returns come out almost the same. You can see it on that page that I included, of how they did. So you can get almost the same return. The key is having the exposure to value, having the exposure to small, and we're doing all that we can to make it easy.

Terese:  Thanks, Paul.

Paul Merriman: Oh, I should mention too---this is important--- you can go to Vanguard and get all of these recommended ETFs commission free. Now you’ve got to enter it online, you can't call up, but if you do it online, whether you're at Fidelity or Vanguard ,you can do it. You can do it commission free.

 Okay, awesome. And because we are at Bogleheads here, Chris has also made the recommendations with the corresponding Vanguard ETFs if you were stuck emotionally on owning Vanguard. We're doing what we can to help you, but it's a one percent, about a one percent lower compound rate of return than using the best in class.

Terese: Miriam do you have a question

Miriam:  Yes. Hi Paul, thank you for your presentation. It was very interesting. 

Paul Merriman: Thank you.

Miriam:  I have a question about small cap value. The small cap value  is a fund. They're funds made up of small companies, value companies, and what is it about those companies in small cap value funds, what is it about those companies that gives a premium? What do those companies do that gives the premium? And what happens, it's a great, a small cap value when they grow too much and they're out of it?

Paul Merriman: Well that small cap premium according to the academics is simply the premium for small over large. Small companies are more risky, so if they didn't pay a premium then nobody would ever invest in small companies because why would you take the risk. I mean there is historically a higher rate of return and it comes at higher volatility. So it's not  a freebie. You're being paid for taking the risk of small.  Value is another premium, whether it's large value or small value is defined by a number of ways, but according to the academics the book value versus the market value-- if the book market is relatively high, that's the book value, the net value asset value of the company---if it's relatively high versus the market price, or if the P/E ratio is low versus the market price that would typically be value. Growth companies might sell for twice the P/E ratio, twice the book to market. People are willing to pay a lot of money for those companies because they have an amazing future. That's the good news.

But when growth companies fail they fail miserably, and people can lose huge amounts of money. In fact, sometimes you've probably seen it after the close, a company comes out with disappointing earnings, they miss it by a penny, and the company drops by 25 percent. That's because people had huge hopes for that company.

And you could look at companies like Amazon. People are counting on Amazon. They become many, many times bigger than it is right now, because it's priced with the idea that there's going to be a return. Well with value companies people don't see that return so they're not willing to pay much, and what the academics tell us, don't buy value companies one at a time because if you took a hundred value companies that were out of favor, they're out of favor for some reason, selling for a high book to market. Out of a hundred, five years later 50 of them are still dogs, the other 50 have done something special that turned those companies around, changed the view of investors, started making money when they weren't. And so it's the half that do that bring the premium up, because there's the other half that don't, that are still keeping the premium down. 

But overall there has been a premium historically for taking the risk of investing in dogs. And when Warren Buffett, who's a value investor---it isn't that he won't get into a company that becomes a fast-growing company---but when he gets into it it's typically when it's not a fast growing company, when it sells for a fair price.

And it's interesting because these small cap value, like the 17 year old young lady who is going to put that money in small cap value, she probably won't know the name of any of those 500 to a thousand companies. They're not household names. And at some point you brought up the point they're going to become growth and they're going to move out of the value portfolio into a portfolio that is some other index.

Miriam: So could you define value for us, how it could be a low price to earnings ratio.

Paul Merriman: It could have to do with cash flow per share. It could have to do with the book value versus the market. There are many ways that professionals identify value. From my viewpoint, when we recommend an Avantis fund, and we recommend several of their ETFs, they are probably--this is one of the finest fund families for what we're looking for---for the people who follow our work, we know what step by-step, what they do and how they buy and how they sell, and at least as much as they're willing to share that isn't truly proprietary.

So at that point we say, obviously you do it. Dimensional Funds may do it differently from Avantis and there are other small cap value funds. Vanguard, I mean if you read the  article about how he chooses ETFs that fill each one of these brackets, he explains what he's looking for. But, for example, at Vanguard, I think it's VBR, the average size company is about six billion dollars as opposed to the fund that we use, that we recommend, is about three billion. It's smaller, it's more deeply discounted, and so they overlay the size and the value with the profitability factor. That's something else that might be there.

Now are we expecting the people who follow our work to become experts on factor investing. Probably not, but if they read Larry Swedroe they can kind of become one. He does a great job  of digging into the ETFs, and what we're hoping when I say that I'm trying to turn the do-it-yourself investor, and to help them have the same knowledge an advisor needs to understand the risk and the return.

They need to be prepared for all the things that naturally happen in a portfolio. Where the individual investor says what the hell is going on here, I don't understand. Well you should understand because you should have seen the past gains and losses and notice that things for different reasons go down, but they seem to go down very similarly, and that's the part of investing that we can know the history. 

Nobody, professional or amateur, can know the future. Nobody and anybody who talks like they know the future is just blowing smoke. It is nothing more than telling people what they think you want to hear as an investor so they can sell you something.

Miriam:  Thank you 

Paul Merriman: You're welcome.

Terese:  Thank you. Miriam, okay we have another question from the chat. Is there an advantage to a four fund strategy if you're retired and maybe have a 15-year horizon?

Paul Merriman: Funny he should mention 15, I'm 78. I'm thinking in terms of a 15-year horizon. Well I'll tell you what I know. I know that if I look at that table that I used early on and I looked at 15-year periods and there were ranges of what the good times looked like and the bad times looked like, and so I have to ask myself when I look at some of the money that's in our portfolio, are we investing for ourselves or are we investing for children and charities. And in large part we're okay if we just sat on fixed income, if we just took the half of the money that's in fixed income and put it aside we could live upon that. 

The other money is really for others. And so I look at the 15-year numbers in that table that showed the S&P 500 and shows the four fund strategy. It was that first the equity returns from 1928 to 2020 - 2021. What you'll see is the four fund strategy had virtually the same worst 15 years as the S&P 500 but the returns were better in the good times. So yes, I would if I had 15 years take the risk with money I don't need to live on, but if they decided they want to put 15--I mean put the S&P 500 in---when you go back to that quilt chart the four fund strategy is less risk, it's more dependable than the S&P 500 because it has many asset classes. The S&P 500 would likely be the worst of the four asset classes. The four asset classes together are likely to be better than the S&P 500 on its own.

But we have to also remember we all want the best of the next 15 years for ourselves. We want the near future to be good. This 17 year old young lady that I talked to and I've got her set up with with her first six thousand dollar small cap value investment, I told her for the first five years it will feel so good if it looks like ‘95 through ‘99 because ‘95 through ‘99 small cap value compounded at over 20 percent a year.

Yeah, yes. Or look, on the other hand it could look like 1970 through ‘74.  Which is better for her, a terrible five years, or a great five years? Well the great five years sounds like that would be better. But the terrible five years means the first 30,000 is buying stuff cheap that later is supposed to be worth more. If it isn't then we've missed on the whole thing.

So that's a part of what being a real professional advisor is to understand what is this part of a portfolio, for I have part of our portfolio and a hedge fund that I helped start in 1995. It is not for my wife and for me and it is built to use leverage plus market timing. I mean two things that people don't want to do.

But I happened to help start it and I happened to know the people that run it and I trust it as much as I trust anybody trying to manage money for people. But it's a part of my portfolio, it's ten percent of my portfolio, less than 10 percent now.

And so that's where it becomes important to decide where does it make sense to take more risk. I tried when I was an advisor, I would try to get old people to invest more aggressively with the part of the money that they really felt was for others. But a lot of them would say well you know I'm not sure, I don't need it now but I might need it later. All right, let's compromise. How about if we use more of a balanced approach than you would do for a young person but more risk than you might, knowing that it's not likely to be used in your life. This is the magic, I think, of being a good advisor. 

And that is why when I think about an individual being their own advisor, how much of this stuff do they know, what is it we can help teach them that if they wanted to they could literally go out and be advised, an advisor someday, because you know the ropes. You know what to expect because you know history.

Terese: Okay, thanks Paul Let's go ahead and let Brian ask his question. He has his hand raised.

Brian:  Okay, hi Paul. I love your work, We're Talking Millions, I thought it was absolutely fabulous. And I'm doing what you recommended by putting about 20 percent of the small cap value in the Roth IRA, and if it's not for me, it will be for the next generation, and I think that's absolutely terrific. I'm using, and you also mentioned FISVX, the small cap value Index Fund of Fidelity. You have that, but my question is as I noticed in your Best in Class portfolios you have other things you know, IJS, which is the iShares version, but that follows the S&P 600. So when you look at your quilt charts and all of the terrific work you and the guys are doing, what am I better off in the  FISVX which is following the Russell 2000 value index, or do I want to be more in the S&P 600, following the S&P 600 value index, or a mixture of both?

Paul Merriman: Well, I will tell you that from everything I know about the work that Chris does.

At the beginning of this presentation I talked about my teachers. There may be people who don't believe that I look at the people that are working with me as my teachers, but they are, they are truly teachers that have helped me understand this whole process better. I'm embarrassed to say that I am basically a salesperson trying to help. I am not the technician. I am not the person figuring this all out. I am a teacher and teachers aren't necessarily the ones that do stuff. They teach stuff. Chris does stuff and when he digs into those Best in Class I trust because  every time I go through why and he explains patiently--you've seen Chris present--I think Chris is one of the finest presenters. He's so calm. He's so patient. I would, if I had the choice, I'd be taking his recommendations.

And you have them available to you at Fidelity or you have them available at Vanguard. Now the fact that we've also done portfolios for Fidelity and Vanguard is only because there are all the people that have these. That's what they have available, so we've tried to give some help and that may be your case. It is that you just don't have all these different ETFs available to you where you're investing. Is that the case?

Brian: For me personally, well my 401-k, it's limited to just total total market index funds. and then yeah, but so obviously my Roth IRA, which has all the options through Fidelity. I guess I could purchase the Avantis, and I guess it…

Paul Merriman:  Yeah your options are obviously much more open when you're with Fidelity or Vanguard than just the general 401 case. Yeah, and let me make it ever so clear there is not one thing we do that is done to benefit us. Now when I say that I'm sure there is something we do to benefit us, well from time to time we ask for money, or from time to time we get people to get the books and pass them on. But the bottom line is Chris is doing everything he knows and continues to work with the people from these different companies like the DFA, like Avantis to understand exactly what they're doing, or as exact as they will let us see.

Now I love DFA and what they've tried to do for investors. I and the people at Avantis however you're supposed to say it, they're out of DFA .They're almost all of them out of DFA, and these are the people who have built portfolios with the work of Dr. Fama and Dr. French and others like them, there are more doing it today than just those two guys. So Chris is learning, and when I sit and start listening to Chris and these guys talk I realize I'd rather be someplace else because they're really getting into the weeds. He cannot sit and get into the weeds with all that stuff with the people who follow our work. I don't know that it's appropriate because we'll start appealing to the wrong people.

We really are trying-- I mean it's not that we don't want to help everybody-- but we are trying to help the people that need to understand the basics of investing and returns and risk. And I will tell you very few investment advisors understand what's in the weeds.

You try to get somebody who tries to sell you an indexed annuity to actually explain an indexed annuity, or read the contract and then ask them what does this mean. They don't have a clue. They do understand how an index annuity works and they can sell them rightly or wrongly. But the kind of a--- when I say we're trying to develop the knowledge of an investment advisor, I'm not talking about a person who works in the research department at DFA or Avantis, but the kinds of people who are in the trenches dealing with these questions of risk and return and asset allocation.

I hope that helps at some level. In other words, what I'm saying is take Chris's advice is the best advice that I have. Now every once in a while--recently somebody wrote to us and made a claim and in fact I don't know if this has come out yet in a podcast-- but what they did was they said why do you have small cap blend in the portfolio because a small cap value always almost always beats it. 

And Daryl, who's an engineer, said I'll take that. And he did the study, and he made it really simple, and he showed the guy that he was wrong. Often small cap blend does better than small cap value. But Daryl took all the years that it did, and he boxed them so you could look at that quilt chart and see exactly all the years. I would not have had the patience to do that.

I hope that helps Brian. Thank you for your kind comments.

Brian:  Thank you so much. I really appreciate what the work you guys do is terrific.

Paul Merriman:  You're welcome. I appreciate it

Terese: Okay. Do you want to take one more? 

Paul Merriman: Okay make it the hardest one you possibly can.

Terese:  Right. And then I know, you know there's a couple others that I'll get to Paul and he can--well I think it would be best if we didn't get to your question. If you email Paul and then he can directly answer your question. 

Paul Merriman: And by the way, I may either answer it. I may answer it directly if it's real easy. If it's a longer comment I will likely use it. I won't use anybody's name, nobody'll know who it is. I'll answer it in a podcast or in a newsletter right.

Terese:  Okay. So the last question is regarding equities and taxable accounts versus tax advantage accounts. Do you mirror the four funds across both types of accounts?

Paul Merriman: Well I have a large tax bill from portfolio turnover in the taxable account. Well remember these are ETFs so they're going to be more tax efficient.

But I do want to recommend a book. I want to recommend--I did this before but Your Complete Guide to a Successful Secure Retirement by  Larry Swedroe. It's cheap, like 11 bucks or something. It tackles  almost any complex subject. Dividend stocks versus non-dividend stocks, and how much to take out ,and all sorts of things. One of the things it covers in here is investment asset class placement, where does an asset class belong in a portfolio. What part should be in taxable, what perhaps should be in a 401-k or a Roth. And I really think it is worth the time to read  his part of the book on that. it's done very well.

And again we do not try to help people make those decisions, and Larry Swedroe has looked at this very carefully and then the question is do you want to take the time as an investor to build a portfolio, that to take the four parts of that portfolio and spread part of it using the taxable account and part of it doing in the tax deferred or tax free. That tends to become work to people. 

Thank you.



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