Maximize your portfolio’s potential with the BARBELL approach

Pierre Daillie: [00:00:00] Welcome back. I’m Pierre Daillie, Managing Editor at AdvisorAnalyst.Com. And this is Insight is Capital. 2023 has been a volatile year for markets marked by the continuation of stickier than expected inflation, higher for longer policy rates, high short term yields and high long term yields, mixed and bifurcated equity markets, all of which has added up to heightened uncertainty. With investors looking for robust, long term investment solutions to navigate, profit, and protect themselves from today’s volatile market environment. We thought now would be a good time to revisit and catch up with Robert Wilson, vice President, Head of Portfolio Construction Consultation Services at Picton Mahoney Asset Management.[00:01:00] Robert, welcome. It’s great to have you back.

Robert Wilson: Always great to see you, Pierre.

Pierre Daillie: Robert, I’m really excited to talk about Barbell with you. You’re a nifty new acronym. You and the Picton Mahoney team just wrapped up your annual live and virtual event in Vancouver. With all of the uncertainty surrounding markets, it’s a good time for us to catch advisors up on your thoughts.

Robert Wilson: Yeah, Pierre, we, we came up with this barbell acronym just to give an easy way to remember seven actionable ideas that we think are really important to put in place in the portfolio today. Uh, what it’s really about is recognizing that the market regime has changed and that doing things the old ways, um, will create challenges for investors. So this is about kind of rethinking portfolio construction, rethinking the strategic asset allocation, and setting up the portfolio for the next 10 years. All right.

Pierre Daillie: I can’t wait to get into it. [00:02:00] So, um, Robert, today we’re going to talk about, uh, macro, uh, your view on, on markets. We’re going to talk about the, how that connects, how that dovetails to 40, 30, 30, uh, portfolio construction that, uh, you’ve been advocating, uh, this year. And then we’re going to get into Barbell, uh, your actionable seven step approach. Robert, let’s jump in. What were the highlights of David Picton’s macro view?

Robert Wilson: Yeah, it’s an interesting time to talk about Picton Mahoney’s macro outlook in particular, because we try to encourage investors to look around, you know, past just the next corner. So as we’re recording this Pierre, all the 2024 outlooks are starting to be published, but we actually think there’s some powerful long term trends that are going to be impactful, not just over the next year, but over the next cycle. And to understand the implication of these trends and what they mean for portfolio construction is very important. So the first thing [00:03:00] would be, uh, around inflation. So we absolutely believe that central banks can and will be successful in bringing down inflation, but that their tool is rather blunt. And so what I mean is they raise interest rates and that depresses demand, right? Which brings inflation down. The problem with that is it doesn’t fix the structural supply issues, right? The federal chair, uh, federal reserve chairman can’t build more houses. For example, they’re not going to set up more mines or, or, or drill for oil. Right. And so what we believe happens through this cycle is that each time the fed takes a foot off the brake or the bank of Canada takes a foot off the brake, inflation will come back relatively quickly. And that means investors need to prepare themselves for shorter and sharper cycles and an environment where volatility is driven by inflation shocks, not just growth shocks. So that’s our first key, key view. It has some very important implications into how you play defense in a [00:04:00] portfolio and how you make your portfolio resilient and smooth the ride for clients. The second view that we have that I think is really important is the idea that the U. S. dollar may be strong, uh, for the next while. And the thinking on that is we’ve done some fantastic research into how sensitive The U. S. economy is to interest rates relative to the rest of the world. And because they’re less sensitive, uh, to the impact of rising rates. And it’s a very simple example that you could explain to a client is simply how mortgages are structured in Canada versus the U. S. With our mortgages resetting typically every five years, whereas in the U. S., uh, uh, homeowners are borrowing for 30 years at a fixed rate. And so if they locked in a mortgage at one or 2%, that rate will stay with them, uh, over the coming years. But they’re less rate sensitive. And what that means is it’s likely for, uh, an interest rate differential to open up between the U S and other, other markets. Um, the way that resolves itself is with, [00:05:00] uh, dollars flowing into the United States and the currency appreciating. And so that has us on accident watch because when we look historically at other periods where, um, the dollar was strong, uh, typically something breaks. Okay. And so that, uh, uh, affords us an element of caution in our, in our approach to investing right now.

Pierre Daillie: Yeah. And, and to your point about resilience, you know, I couldn’t help thinking, you know, at the same time as, you know, Americans have 30 year mortgages. They also write off the interest on their mortgages as well, which adds to their annual disposable income at tax return time. So, you know, like if you’re looking at resilience of, of, you know, in terms of interest rate sensitivity, even though, uh, you know, obviously some new underwritings of mortgages are going to be at much higher rates than, than, than those that were, uh, rolled over, let’s say two years ago. Uh, or prior, not only do they get that [00:06:00] low rate locked in for that amount of time, you know, I’ve always maintained that Americans have far more disposable income than we do relatively, you know, on our, on, on the Canadian side of things, obviously we, we get to. Keep the capital gains on our primary residences, but it’s entirely a different thing,

Robert Wilson: You know, Pierre like that’s another great example. And it’s more than just a consumer. We’re also talking about the corporate sector, uh, the, the consumers, a simple example to convey to anyone, even someone not in the industry, right? Um, if this is something that, you know, viewers are interested in, we go into this in much greater detail in our quarterly outlook, but it’s really important to understand the difference in the sensitivity of the U. S. economy to, to rising rates relative to the rest of the world, because it helps set up this, uh, this backdrop of strong U.S. dollar, And this, uh, this risk of a, of an accident happening somewhere, right? You can think of historical periods like the late nineties, uh, where we had all those troubles in the Asian EM economies, right? Uh, the challenge with the strong use dollars, you don’t know, uh, what, where the issue is going to lie, [00:07:00] but you know, history tells us that it merits caution or, uh, worthwhile to be on, on watch for, for potential accidents occurring. And so that gets us into this idea of barbell, which is okay, shorter, sharper cycles. Inflation pressure and inflation volatility matters, um, and times for accidents. How do you actually design a resilient portfolio for clients, especially when 2022 told you that the playbook you’ve been running for the last 20 years, uh, you know, isn’t working anymore. Right. And so that’s where we’re kind of focused. And the idea is there are some specific actions you can take that can improve the probabilities and kind of really give you a much better shot. Uh, getting through this safely and securely.

Pierre Daillie: So let’s talk about that. How, how does that dovetail into your thinking behind 40, 30, 30

Robert Wilson: portfolios? Yeah. So when I was on in the spring, we were talking about 40, 30, 30 tests. That is the right kind of framework to take as opposed to 60, 40, 60, 40 being 60 percent equity, 40 percent [00:08:00] fixed income with 40, 30, 30, we’re talking about expanding that out and going 40 percent equity, 30 percent fixed income and 30 percent alternative strategies. And so what you’re doing here is you are meaningfully reducing your exposure to market risk. And how much the portfolio is being pushed around by the level of direction of equity markets and of interest rates. Okay. And the second thing you’re doing is you’re making a sizable allocation to assets and strategies that can perform well, regardless of the level or direction of markets, but also that bring in inflation protection, because a big thing we found in our research is that the returns of stocks and bonds both tend to break down as inflation gets higher. So you’ll find that a portfolio of stocks and bonds historically has had very strong returns when inflation is low. Moderate returns when inflation is moderate and lower turns when inflation is high, but at the same time that the return breaks down, the diversification method also breaks down. So when inflation is low, stocks and bonds are good diversifiers for one another, but when [00:09:00] inflation is high, they’re relatively poor diversifiers. And it makes sense. If you really think about stocks and bonds, what they do is they diversify against growth shocks. If you get an upside growth surprise, your stocks do better than expected. If you get a downside growth surprise, your bonds do better than expected. But they don’t diversify well against inflation shocks. They tend to trade the same way against inflation shocks. And so, for 20 years, that didn’t matter because from 2020, inflation… Had a one handle and it had the EKG of a potato, you know, like it, it, it was not moving around. There was no volatility coming off of the inflation. So that has, that has meaningfully changed. And it means that, you know, some of the shortcuts people were taking need to be rethought and proper protection against inflation risk. Needs to be incorporated into the portfolio,

Pierre Daillie: That picture that you just painted the EKG of a potato, you know, I can see the potato lying in the, uh, long chair and, uh, you know, having its readings taken, that really does sum up, you know, the way the market was, um, so [00:10:00] basically in a nutshell, the idea behind 40, 30, 30 is to achieve. The same or better results from the portfolio, but with far lower volatility and risk budget.

Robert Wilson: It’s really a goal based framework for portfolio construction, right? The reason someone hires a professional is that they have a goal they want to achieve and they believe that that professional’s expertise, relationships, access, uh, and acumen. We’ll let them achieve it with greater certainty. So if you’re sick, you go to a doctor, you got a legal problem, go to a lawyer, you want to fund some type of, uh, spending whether that’s a retirement or legacy or philanthropic, whatever it might be, you go to an investment advisor. Right? So you’re hiring them because you have a goal and you want to achieve it with a higher level of certainty. So, so how do you do that? Well, the first step is identify your largest source of risk, right? And dial it back, but don’t dial it back to sit in cash or short term bonds. You won’t make enough money. [00:11:00] Reallocate that to something else that can meaningfully outperform cash. And if you do that enough times and you allocate it to something else that meaningfully outperforms cash that’s not loaded up on the same underlying source of risk, well, then you start achieving your goal more consistently. And so that’s the kind of thinking underlying 40, 30, 30, is that a typical balanced portfolio, while it’s balanced in terms of its dollar allocation, is absolutely not balanced in terms of its risk allocation. Too much of the risk is simply coming off of a sensitivity to develop equities and sensitivity to interest rates. And that’s confounded in the current environment where those risks are actually amplifying one another, rather than diversifying one another. So an interesting piece of research we put out is we looked at Canadian government bonds during big equity selloffs since World War II. And what we found is from 2000 to 2020, there were six large Canadian equity selloffs, 15 percent or more, uh, using monthly return data. In those six selloffs, government bonds were [00:12:00] heroic. Every single time they outperformed cash and on average, the cumulative outperformance was 9%. It was exactly what you wanted to own during equity selloff. But when we look between 1945 and 2000, there are 15 large equity selloffs. 15 out of 15 times government bonds underperformed cash. And on average, the underperformance was about 5%. cumulative. So they acted exactly like they did in 2022. So what I would argue is based on that data, 2022 was not the outlier or the exception. Um, that was the norm. It was 2000 to 2020. That was unusual. Now the size of the loss in 22. Was notable, particularly because you didn’t have any yield cushion going into it. But the fact that the government bonds underperformed cash as equities dropped, that makes complete sense to me because that is how they have typically behaved historically, uh, in environments where inflation was higher and more volatile.

Pierre Daillie: We saw, um, equities recover, but we saw also, I mean, for 23, we [00:13:00] saw long term bonds.

Robert Wilson: Get crushed. Absolutely. And I mean, even in this ball, you, you saw equity sell off as rates, as, uh, as rates rose again, right? So the, the two traded in the same direction. And so, you know, they’re meant to act like, uh, two sides of a barbell. Right. But what’s happening right now, it’s as if all the weights are loaded up on the same side. So you go to push it and you get dumped and your portfolio valuation gets dumped. And so, uh, that’s where we’ve got this rethink. Uh, we’ve got the seven ideas and, uh, we think they’re, they’re thoughtful solutions. They may not all be appropriate for everyone, but I think if you go through these ideas, uh, every advisor should be able to at least find two or three things that they can bring to their clients to help them going forward.

Pierre Daillie: I love the barbell acronym. I think it’s ingenious to have come up with that, especially since barbell, the word barbell and barbelling in general has really become. Part of the zeitgeist of today’s discussions everywhere, of course, there’s all sorts of barbells, but your barbell is exciting. It’s a, it’s, it’s [00:14:00] kind of a roadmap, an actionable seven step approach that you coined. So let’s, let’s get into that. Let’s get into the components starting with B.

Robert Wilson: The first step is breadth, not depth. And there I’m talking about diversification. So we’ve become very good as investment professionals at having good depth of diversification. We own stocks and bonds a bunch of different ways. You might have large cap, small cap, value, momentum, quality, uh, Canada, U S international emerging market, right? Within fixed income, you’ve got to slice and dice all these different ways. Um, the problem is. More stocks and more bonds is not the answer to the challenge we’re facing. What we need to do is not increase the depth. We need to increase the breadth of diversification. So there are entire asset classes and strategies that are void in most investors portfolios and that are much less sensitive to interest rate risk. And so they could perform much better in inflationary environment. We’re talking about adding commodity exposure. We’re talking about adding absolute [00:15:00] return strategies, event driven strategies. There’s a, there’s a wide number of things you can do, but the key on diversification is, uh, don’t think about, uh, depth. Think about breadth. A, let’s talk about the A in Barbell. Yeah. So A and A is interesting because this one is probably the biggest risk between how institutions invest and how high net worth individuals invest. It’s about allocating risk. Not dollars. And so what I mean is typically a high earth individual is going to go to an advisor, hand them a check and say, Hey, put this money to work. And the way that the risk is managed is by allocating those dollars into different investments. Okay. Um, but managing risk by allocating dollars, it’s kind of like trying to measure someone’s height by measuring the length of their shadow. It’ll give you an approximation and you burn off just measuring their height directly. So what you really want to do is, uh, allocate risk. Okay, so you need to have a risk budget, you need to have a risk factor model for your portfolio, understand how much risk is coming from, uh, different assets that [00:16:00] you hold, how much risk is coming from different risk factors, and that’s something that traditionally wasn’t really available, uh, to the professionals, today it’s readily available. There are a number of tools available, there are teams in place like my own that work closely with advisors, helping them construct these risk factor models. And to allocate risks, that dollars take that more institutional approach and that more prudent approach, uh, to managing risk in the portfolio.

Pierre Daillie: This is probably the most underappreciated aspect of asset allocation.

Robert Wilson: It’s very empowering to make sure that the risk is intentional and scaled appropriately. So let me give you a perfect example. At the beginning of 2022, I was working with an advisor and the advisor got the hard part, right? They made a call on the market. And they nailed it. They said, you know what, I don’t want to be taking interest rate risk right now. I do not like the setup, all the spending that’s been done, uh, through COVID. Uh, I think that rates are going to go higher. We’re going to have inflation shock. So they nailed the call. And so we analyzed the portfolio and the advisor built their models the [00:17:00] same way most do, which is they had a fixed income sleeve and an equity sleeve. And they just changed the size of the sleeves depending on client risk tolerance. So conservative investor got a bigger fixed income sleeve, a growth investor got a bigger equity sleeve. And so we analyzed the fixed income model, uh, risk factor model on the fixed income, big green check mark, uh, relative to core aggregate bonds, they had underweighted, they’d gone into high quality, short term investment grade bonds, they added some multi sector, uh, bond funds, they added some long short credit, all trades that brought their rate risk down. So nice green check mark. Within the equity portfolio is the exact opposite. They favored a defensive stocks. They favored higher dividend stocks within the U S they favored technology because Canada doesn’t have a ton of technology in our market. It added some real estate because they were worried about inflation and overall they had a tilt towards higher quality stocks. Every single one of those trades made their equity portfolio more rate sensitive than the product. Yeah. I was just going to say compounded on top of one [00:18:00] another. So it was fascinating when you analyze the overall portfolios in a multi asset lens. The conservative investors were getting the advisor’s intended view relative to bench. They were underweight rate risk. The balanced investors had no active view on rates. They were neutral. And the growth investors actually had the opposite of the intended view. They were overweight rate risk. And actually, uh, we identified this and we were able to make changes so that the views were properly reflected. But I went back a year later. The conservative investors, if they had stuck with the plan, they would have outperformed by 4%. The balanced investors would have lagged by about a percent. There were some manager selection things that didn’t work out. But the growth investors would have been behind benchmark by about 5%, right? So it’s hard enough to make the right call, but to make the right call. But not have the data available. You need to express your view properly and make sure your risk is intentional scale appropriately. It’s not really acceptable today’s environment because the tools are there and the teams are there ready to work with you. So if you’re an advisor and you want to start implementing this type of, uh, risk [00:19:00] budgeting and thoughtfulness to your proposal construction, reach out to your picked and Mahoney wholesaler. They’ll be happy to set you up. We’ve got a great program in place, uh, where we work with advisors across the country, doing exactly this kind of work, uh, day in, day out.

Pierre Daillie: Let’s talk about the R; rent beta. Let’s talk about that.

Robert Wilson: I’m going to, I’ll put the next two together. When we’re talking about this running beta, what we mean is if there are going to be shorter, sharper cycles, there’s going to be a lot of value if you’re able to tactly adjust your market exposure and think about how much you want to have in stocks, bonds, and commodities. So if you have a reliable alpha signal that can help you time that and you’ve structured your business in a way that you can implement that efficiently. You absolutely should be making those tactical adjustments. It’s going to be critical. If you just sit on a static allocation, you’re going to get whipsawed and round tripped, and it’s not going to be too much fun for your clients or your business. Now, if you’re not set up to do that, the way that you implement this is you find a manager who has a tactical balance fund. And you allocate 20 to 30 percent of the portfolio to that and you [00:20:00] outsource it to that manager and that’ll allow you to get those adjustments that you need. So, uh, think to yourself, do you have the alpha signals and do you have the setup to implement them efficiently? If not, find that tactical manager for a 20 to 30 percent weighting. Now, by alpha, this is the opposite side. This is the stuff you actually want to sit on and have a static allocation to that most people are missing, which is a dedicated allocation to cash beaters. Okay, or what we call diversifiers. These are strategies meant to meaningfully outperform cash. Without taking on any market risk, they’re not going to care what interest rates are doing, what credit spreads are doing, or what equity markets are doing. And if you have a dedicated layer of that in the portfolio, that’s going to provide you cushioning against these shorter, sharper cycles and deliver a much more consistent result. So, uh, good examples of these kinds of strategies. Are things like market neutral equity funds, uh, and event driven funds. So on the equity side, like merger arbitrage funds on the fixed income side of venture and funds would be like special situation strategies. Uh, we’ve tried to make this easy for, uh, for advisors. So [00:21:00] we’ve actually built out what we call our fortified alpha strategy, uh, which combines all of our diversifiers into a single strategy and then thoughtfully waits them to do some improved risk management. So having that dedicated allocation strategy that are cash feeders. Um, and that don’t care about lower direction of market can be really important, uh, to navigate these shorter, sharper cycles. E. Yeah. Evaluate efficiency. Yeah. So this one I think is something that, uh, everyone can appreciate is that there’s no room for wastage. Okay. So we really need to evaluate how efficiently we’re using our budgets. When we’re constructing portfolio, right? So you think about building a portfolio, you got a fee budget, you got a risk budget, you got a tax budget, you got an alpha budget. And as you dial these things up and down, uh, there’s trade offs. So, uh, there’s no room in the portfolio for closet indexers or factor huggers. If you’re going to go active, you need to make sure it’s truly active. Um, you need to think about [00:22:00] that fee budgeting, right? Where thoughtfully save money? And find lower cost solutions and where the spots where you truly need a high value add and so, uh, this goes back to another example of how the industry is, is barbelling. If you look at, at the industry today, the majority of a flow, a dollar amount is going into low cost strategies. The majority of the fee budget is going into alternatives. Right? And so look at your own fee budget. How much are you spending on kind of traditional strategies? Which are very expensive. And the reason I say traditional strategies are very expensive is that if they’re charging you 1 percent and 90 percent of the risk is just coming off of what the market’s doing, well, what that means is you’re paying about nine or 10 percent for the alpha, for the actual manager value at why not borrow it, [00:23:00] get the market exposure, dirt cheap, and then spend on true manager value added with the all sleep. You can have a portfolio that’s more diversified than before, has a lower overall cost than before. And has higher potential for manager value at it. Just a more efficient use of the fee budget. So evaluate that efficiency, look for wastage in terms of tax, risk budget, fee budget, alpha budget.

Pierre Daillie: And you can do that fairly easily just by, you know, going across your portfolio and seeing where you could taking basically the weighted cost for each portfolio item and then adding it all up.

Robert Wilson: Yeah. Like I, I love doing the exercise of, uh, evaluating a strategies, uh, alpha or value add relative to its cost. And when you start doing that, you all of a sudden realize that certain strategies that you thought were inexpensive are actually very expensive. And certain strategies that you thought cost more and actually are relatively cheap. Once you’re actually evaluating it in terms of value add relative to cost.

Pierre Daillie: Yeah. I mean, I love the idea of finding, finding the closet indexers in [00:24:00] a portfolio and then swapping them out for much lower cost beta for the portfolio instead.

Robert Wilson: Yeah. And the, the other example here I would say is that we saw a major regime shift, let’s say August of 2020, right? August 4th, 2020 is when rates bottomed. And a lot of what was working up until that point. So if you have legacy managers in your portfolio that you’ve held 5, 10, 15 years, take a look at what they’ve done since August of 2020. And if they’ve been able to successfully navigate the change in market regime, fantastic. If they haven’t, take a look, figure out why and decide whether or not that’s something that’s still going to make sense for you. Because, you know, there’s a very real. And meaningful possibility. We don’t go back to that 2000 to 2020 era that that really was, uh, an exception and an unusual time. And that going forward, uh, it’ll be a different market regime that requires different approaches to different toolkits.

Pierre Daillie: There’s definitely a lot of hope [00:25:00] in the market that we will go back to that regime, but it seems right now, at least for the foreseeable or for as far out as you can see, that

Robert Wilson: is not likely. It’s not all or nothing, right? You don’t have to put all your eggs in one basket, but if you assume there’s some probability that things will continue to kind of, uh, be different than that 2020 period. That we will have shorter, sharper cycles that we will have more volatility driven by inflation. Then you, if you assign some probability to that, you should be assigning some adjustments to your portfolio to reflect the chance of that happening.

Pierre Daillie: So let’s talk about, uh, thank you, Robert. Let’s talk about L the two L’s in barbell.

Robert Wilson: Yeah. So the first one is about lowering your taxes. And this is interesting because. In April this year, clients are going to have to pay their tax bills, right? And for many of these clients with the rise in interest rates, [00:26:00] uh, the taxes on their investment income may be their single largest expense this year. So if you can find thoughtful ways to reduce that tax drag. That’s be very meaningful. So if I’m an advisor right now, I absolutely want to be in front of my clients in Q1 as they’re getting ready to write those giant checks to CRA. With ideas on how we’re going to minimize the tax drag and here all terms can be very effective because if you think about traditional assets, it’s the riskiest asset that have the best tax characteristics, right? You invest in stocks, you get capital gains instead of interest, right? Or you get Canadian eligible dividends. But for conservative investors, how can they have a tax efficient approach? And so alternatives have solved that in many ways. If you think about market neutral equity strategies. Uh, that is one of the most tax efficient strategies available. [00:27:00] Three years ago, the Graham and Dodd scroll, which goes to the best, uh, paper in general portfolio management, went out to researchers who were quantifying why market neutral was so tax efficient. But, if you can get into a strategy, you know, that has the same volatility as, as, uh, as fixed income. But it’s not spitting out interest income that’s taxed at 50 percent plus, this is a massive savings for your client. So the opportunity to lower taxes, we’re talking about hundreds of basis points of value add, uh, whereas just, uh, you know, two, three years ago, uh, the opportunity is much more limited.

Pierre Daillie: Yeah, very, very meaningful. It also, I mean, I would also, it would also cause me to think about, um, tax loss harvesting at this point in time. I mean, you know, looking at where you can make a tax efficient lateral moves from, you know, one strategy to a similar strategy, if you want to continue to be in that strategy or to other strategies such as alternatives, um, this is definitely the time of year to be, [00:28:00] uh, looking at that very closely as well in order to lower your future.

Robert Wilson: Your future tax liabilities, uh, there’s so many ways you can add value. I mean, I was talking to one advisor, uh, out West and they decided for 2024, they want to focus on corporate accounts and managing money in corporate accounts. And so what they said is, you know, I’m running these model portfolios. How can I adjust it to lower the tax bill, but still deliver a similar investment experience? And there were a number of, of, of ideas they were to implement. So one thing they did is they slightly increased their home country bias. Because Canadian eligible dividends attract less tax than foreign income. Another thing they did is within core bonds, they swapped out an ag bond exposure for a discount bond exposure. So there’s a little bit more capital gain and a little bit less interest coupon. Uh, they, they, they took down their high yield and replaced it with a little bit of preferred shares. To get Canadian eligible dividend again, and then they reduced the overall size of their fixed income sleep and replaced about a quarter of their fixed income with a tax efficient fixed income [00:29:00] replacements, things like that kind of market neutral equity strategy I was talking about before. So each of those changes on its own was small. But the cumulative impact is that they can show these corporate investors how to save thousands of dollars a year on their taxes while having a portfolio that’s quite similar to the main model, uh, that they run for the rest of their clients. So there’s, there’s, there are tons of opportunities, um, uh, with taxable money and alternatives are such a useful tool. Uh, for, uh, for expressing thoughtfulness around managing a tax budget.

Pierre Daillie: That’s basically the whole thing in a nutshell is, is it’s very meaningful. Uh, it’s, it’s tax efficient and it gets you the returns that you’re looking for with far lower risk. And, and that seems to me, that seems to be like, you know. Uh, the crux of all that we’re talking about, but it’s, it’s so often it’s overlooked and underestimated the value of, of, of that is overlooked and underestimated by most of the market.

Robert Wilson: And [00:30:00] Pierre, what I’d say is like, when you think about these different seven ideas, these are not about trying to like outsmart everybody or be more clever or anything like that. It’s really about like, how can we avoid unforced errors? Right? What are some practical things that seem like they will be reliable and that will give us a slight advantage if they work out? Uh, you know, so it’s not about being really clever. It’s really about just reducing unforced errors.

Pierre Daillie: Yeah, you’re reminding me of Charles Ellis’s book, winning the loser’s game. Um, absolutely a wonderful book, but he does talk about, he does talk about the tennis analogy of, you know, that professional players make winning moves and amateurs, you know, lose because they make losing moves. And, and so, uh, speaking of, of losing, let’s talk about, uh, the last L which is limiting losses. That seems like, like, you know, probably the most obvious thing, but, but talk about that.

Robert Wilson: Yeah. So there’s two parts to that. One is [00:31:00] educating clients about the importance of limiting losses. And the second is how do you actually do it? Right. Uh, I actually think this might be the most important of the seven. We’ve got an article coming out about it next month that where we go to go into a bit of detail. But the idea is that most investors think if they want to outperform the stock market. They need to take more risks that they need to find a strategy that’ll get them, let’s say, 110 percent of the upside. And yes, that will work, but there’s actually a much better way to do it, which is to limit your losses. And so if you were to look at the TSX since 2000, if you had built a portfolio that got you 70 percent of the upside with 50 percent of the downside, the actual results over the past 23 years. Is you would have outperformed the TSX by about 50 percent and along the way, your drawdowns would have been half the size. So 70 up 50 down is actually 150 up 50 down. Now it’s tough to [00:32:00] do psychologically because it requires a diversified portfolio. And that means that in any given year, the stock market’s up. I didn’t make as much money stock markets down. I still lost. Okay. So every year you’ve got a reason to be frustrated and abandon the plan. But at the end of those 23 years, you can lead 50 percent more well, and your drawdowns were half the size. Right. And so in terms of, uh, selecting strategies that are going to deliver that to the portfolio, I think there’s two things to focus on, right? One is uncorrelated returns. Okay. And so, uh, this takes advantage of, you know, a fundamental portfolio construction, which is that returns are additive, uncorrelated risks are not. So if I own two strategies that each make me 5%, I make 10%. If I own two strategies that both have 5 percent volatility. As long as they’re uncorrelated, my portfolio does not have 10 percent volatility. Maybe it’s 9, 8, 7, whatever. So, returns are [00:33:00] added, uncorrelated risks are not. That helps us get that kind of 70 up, 50 down profile. The other thing would be, uh, asymmetric returns. And this is where you need to hire skilled active managers. Because you’re not going to get that from just getting a market exposure. Right? But a skilled active manager can find ways to get a little bit more upside participation. And a little bit less downside participation. And so if you combine uncorrelated source of return and asymmetric source of return, and you deliver that 70 up 50 down profile, you know, you can help your clients make more money and you can also make it, uh, more manageable along the way. And what really makes this most important, and the reason why we’re starting with that for our first article about Barbell is, uh, clients. 5 million Canadians are turning 65 this decade, right? And they are going to face what’s called sequence of return risk. And the way sequence of return risk works is basically if you have a large drawdown at the start of your retirement, even if your long term return is high enough that it should have [00:34:00] funded all of your income needs, you still can run out of money. And the example we give is an investor with a million dollars. Uh, they’d like to spend 80, 000 a year. If they had a portfolio that made 6 percent every year, their money would last 25 years. If they made 4 percent every year, the money lasts less than 20 years. But what’s really interesting is that if they had an even higher return portfolio, let’s say they had a portfolio instead of doing 6, which would have lasted 25 years, you’ve got a portfolio that would have done 6, 7. But the way it did it is year one, it loses 30, year two, it makes 30, and then every other year it does seven and a half. They run out of money at the exact same time as the person who did 4 percent a year. Okay, that’s how important sequence of return risk is. So if you can deliver 70 up, 50 down, and you’re much less sensitive to losses, you’ll navigate that sequence of return risk much more effectively. And you’ll meaningfully improve the chance that the financial plan will be successful.

Pierre Daillie: Each one of those seven [00:35:00] ideas is powerful unto itself. Could you put that on the back of a credit size card so that I could keep that in my wallet wherever I go as a reminder?

Robert Wilson: I think it’s a, it’s a great idea because these are fundamentals, right? Like these are core principles. And, you know, if, if you can follow these principles consistently, they’re practical and, uh, they’ll help you avoid getting caught up in different fads or, you know, popular ideas and you’ll be standing on solid ground. So, like, I highly encourage people to, you know, look through these ideas. You know, if there’s one or two that particularly appeal for you, fantastic, but be open minded and really think about, you know, uh, the reason why your clients hire you, which is achieve the goal with greater certainty and, uh, how these ideas could help you, um, you know, accomplish that for more people across a, a broader range of markets and across a market that might be potentially challenging for the traditional [00:36:00] way of doing things.

Pierre Daillie: I love it, Robert. When are you going to send me the card? Um, we’re, we’re, you know what, fortunately we’re going to put all, we’re going to put a summary of each of these ideas, uh, and any links to further resources, uh, for, for all seven of these ideas in the show notes. Um, they’ll, you know, you can find them in the show notes below here. Robert, if people want to get in touch with you, what’s the easiest way to do that or with your team?

Robert Wilson: Yeah. So we’re, we’re on the web, uh, picked in Mahoney. com. Okay. Uh, there is a section within that website called the portfolio construction consultation service. Okay. That’s the group that I run. We work with hundreds of advisors across the country each year, as well. You can reach out directly to your pick in Mahoney wholesaler, and we’re also very active on LinkedIn. So you’ll see us posting ideas and content there all the time. Awesome.

Pierre Daillie: Well, there you have it. BARBELL! Robert, thanks as always for your incredibly valuable time and insight.

Robert Wilson: It’s been great. Always great to see Pierre. I’m looking forward to the next one.[00:37:00]