How would you rate your decision making ability when it comes to your investments? Do you count score by keeping track of the number of times you’ve been right or wrong about a particular investment? My guest this week says that most investors struggle because they fail to understand how their own behavior is impacting their decision making. Chris Belchamber has been an investment professionals since 1984. His latest book, Invest Like the Best, is available on Amazon. He sat down with me to discuss some of the concepts he explores in the book.

Welcome to the Maple Money Show, the podcast that helps Canadians improve their personal finances to create lasting financial freedom. This episode of the Maple Money Show is brought to you by Willful. Did you know that 57 percent of Canadian adults don’t have a will? Willful has made it more affordable, convenient and easy for Canadians to create a legal will and power of attorney documents online from the comfort of home. In less than 20 minutes, and for a fraction of the price of visiting a lawyer, you can gain peace of mind knowing you have a plan in place to protect your children, pets and loved ones in the event of an emergency. Get started for free at maplemoney.com/willful and use the promo code, Maple Money to save 15 percent. Now, let’s chat with Chris…

Tom: Hi, Chris. Welcome to the Maple Money Show.

Chris: Hey, glad to be here.

Tom: Thanks for being on the show. You’ve got a new book out called, Invest Like The Best – The Low Risk Road to High Returns. One of the things I noticed in this book was that it includes a lot of the psychology that people don’t always consider which is how they can get in their own way. Just to kick this off, can you explain how you came about this? What made you write this book and what were you seeing in people’s investing?

Chris: Well, I think it becomes very obvious that people’s decision process is very affected by behavior. When we’re making a decision we like to imagine we’re purely rational and making a great decision. We need to feel that we’ve made a good decision. So we’re very biased to feel that the decision making process is very good. The problem is, it isn’t, really. You have to realize that it’s not a personal insult about you or anybody else. It’s just that we’re not necessarily hardwired to make consistently rational decisions. And investment is all about investing and making good decisions. Unless you address that at the outset, you’re not going to be as good at investments as you could be.

Tom: When I first started investing, I just came out of a finance diploma. I was a financial analyst. I thought I was pretty smart about all this. I went and picked all these individual mutual funds. They had some high management expense ratios but they had great past returns. So in my head, I assumed I was putting something together that was going to make me the most money. I kind of ignored these expense ratios that were dragging it down in the long run. What do you think about that kind of mindset? What was I doing wrong (just mentally) in my decision?

Chris: I think a lot of people have heard of mutual funds when you go to academia and so on and so forth. They made a lot of sense several decades ago when expenses were high and the markets were much more stable. Whereas today, they are probably cost prohibitive in most cases. I don’t want to say all, but in general that’s probably true. And they can be extremely expensive. I’ve known mutual funds on mutual funds to double on expenses. So that’s one thing. The other thing is they’re inflexible. What you’re doing is you’re buying a portfolio and you’re believing that portfolio is going to do it for you for a very long period of time. You’re taking away a lot of pre-section opportunity risk out of the equation. You can do that in very benign circumstances and do okay. If it’s not benign, then you’re going to have problems. You need to be much more flexible. And you can’t trade mutual funds as freely as you can many other things. We’ve seen exchange traded funds take over mutual funds increasingly. And there’s a lot of other things you can do which enable you to become more optimal if you’re doing the right thing.

Tom: Just to bring up my mistakes some more, I understood enough about the idea of diversification so I got all these mutual funds. But in the end, I basically just built myself an index. And back then index funds and ETFs weren’t as popular. They weren’t as commonplace. I knew I was well diversified but I was really paying for it where I could have just simply went for an ETF. When we talk about this mental decision making, I found in my case that the best decision was to just stop making decisions and just go with the flow of the market and not try to beat it.

Chris: Yes, I think that’s the best of all possible worlds. But I think investors need to realize that in 1981 we started out with bond yields at 15 percent or whatever, and they’ve come all the way down. Recently, the 10-year was about half a percent. We’ve had a lot of growth in the economy too with earnings, et cetera, et cetera. We’ve had 40 years of incredibly benign environment where it’s almost become a mantra—that this is what you do. The better and better people have had experience with this, the more and more people have been drawn to that. The problem with that is you don’t always have that kind of a benign background. For example, if you adopted that approach in 1989 in Japan where the equity market still hasn’t got back to the highs 32 years later. So the passive strategy applied to Japan would have failed, tragically. I think you have to get some kind of perspective. In the book it mentions that if you adopt the standard portfolio approach—something like 60 percent equity, 40 percent bonds, the way a lot of people base their allocation. It’s a ratio of sorts between equities and bonds. If you go back 100 years, you’ll find that strategy has only outperformed about 20 percent of the time. I think if you’re a young investor and you’re being drawn into the idea that you just do a split between stocks and bonds and choose your risk number, that worked really well in the last 20 years. But there’s no reason necessarily that should be a good way to approach your portfolio strategy going forward on.

Tom: That’s a great point because 20 years is about what I’ve been investing for. What is your advice to someone— I know you can’t predict the future, but what would you say they should do differently if they’re using ETFs or robo advisors? What should they look out for? Is it a matter of just kind of staying on top of the news of the day to know what’s happening?

Chris: Well, that’s one of the things you need to do. But you need to find the news that’s relevant to your decision process as an investor. Those are two very often different things. But that’s why I wrote the book because there is a whole series of events. It’s not necessarily complicated, but there is a sequence. First of all, you have to realize if you’re making good decisions and how to make better decisions. That’s a very big part of it. And there’s a lot of behavior you’re going to have to think about; your own behavior and how you can improve your decision making. Then you need to get into the math, somewhat. It’s very behavioral but it’s also very mathematical. And the second part of the book is all about how you make a decision. It’s really about getting a high expected return and managing the risk. And that’s really it. If you want to oversimplify what the best investors do, that’s what they do. There are ways you can do that. Then the part three of the book is when you really get into where you’ve done all the work, done the math, done the behavior or “specific approaches” you can use to actually produce it. And the great thing that comes out of that is that you get the benefit of being able to see that you can make higher long-term returns with less risk. The whole premise that people very often come into investing with, which is, “I want to make a lot of money without a lot of risk,” is not what’s going to work for you in the long-term. It can work today, tomorrow, this week, this year. But if you look at what the best investors do, they’re extremely careful about risk all the time. Not just some of the time, all the time. And it’s just shows you the kind of process you need to be successful. And by successful, I’m saying 20 years, 30 years from now, you’re going to end up way ahead with a very high probability. I can’t guarantee anything but this is what the best investors do. Why don’t you do that, too?

Tom: You mentioned risk. One of the other things I find that people often get wrong (including myself) is assessing what your risk tolerance is. It’s easy for me to say I have a high risk tolerance when I’m mostly in stocks and everything’s worked out pretty well over the time I’ve been investing. And I’ve been good at still staying hands off when there’s any kind of market drop. How often do you see people misjudging their own risk tolerance?

Chris: I think I see it pretty much all the time. It’s very prevalent. I think the problem comes in is because they’re not managing the risk. If you’re managing the risk, you don’t have much to worry about. If, for example, you buy something at a price of 10 and you know you’re wrong at nine and you’re going to sell at nine, then you know, you don’t have to worry because you’re going to lose “one” in the worst case. So the fear mechanism inside you doesn’t kick in as long as you’ve calculated that that loss is okay. It’s no big deal. Then you know your downside. As it goes up to 12 or 14 or whatever, you can say, “Okay, let’s bring our stock from nine to 10,” which is your entry point and you can’t lose. The ways that you can trade, which make you a lot more comfortable, part of it is making that initial calculation. Actually, quantifying the risk, then managing it as you go through the process. If you’re doing all those things, you don’t have to worry about having sleepless nights. You’re going to make better decisions and you’re going to have lower swings in your P&L. Those are core behaviors anyone can introduce. You have to know that that’s what you have to do to manage your risk.

Tom: If I heard that right, you’re suggesting that people know before they buy a stock that they actually know what they’re willing to sell for both on the low-end and the high-end?

Chris: Yes, you need to know your risk and you need to manage the risk. That’s what investors do. The idea that you buy and hold— I know it’s deeply entrenched in a lot of people’s minds that that’s what you’re supposed to do, but we’re not necessarily going to be in such a benign environment. You’re going to need to manage your risks. I mean, 40 years ago we were at 15 and now we’ve gone straight into the zero bound. I mean, they can’t go to minus 15 percent from here. It’s just not likely to be benign. But there are things you can do to make sure that every time you put your money at risk in an intelligent way, rather than gambling it or putting it into something where the return is low and the risk is high is in the beginning of chapter five (of the book) where it goes into all those categories. You should know what each individual position fits into those categories and also your value. It takes a bit of thought, but it’s not that complicated, really. I think anyone can do that.

Tom: One of the things I’ve mentioned here before, too, is I feel like sometimes luck has played a part in my own investing story. Here in Canada I sold a lot of my mutual funds in my RRSP through this home buyers plan, and it just happened to be in late 2008 before things got even worse. Then we paid back into that so I sold at a great time and bought in again. It was nothing more than luck and just the timing of it that I just had to use those investments and then slowly pay them back in. Is luck a big part of this?

Chris: It’s huge. But if you’re not doing it the right way—this is actually the conclusion of my book. If you’re not doing all these things that the best investors are doing, first of all, looking at risk, calculating your return relative to that risk, and then managing the position in the way I described, then sets you up for opening up risk in your portfolio. And the more you open up risk, the more you are exposed to luck. The bottom line of the book is, if you don’t invest like the best (to some degree) you’re taking more risk than you need to and the outcome is far less uncertain. You’re going to be in for a rougher ride to get there and it probably won’t be as high as it is for the best investors. So all the tools that the best investors use really help you in getting to a better destination with less risk. What more could you want?

Tom: Exactly. If a lot of this is going on in our heads, the decisions we make and all that, what can we do to change that mindset? How do we fight our own impulses to sell when you’re getting a little scared of the markets and all that? How do you go against your own brain?

Chris: It’s hard, but if you want to make better decisions, you have to start with self-awareness and you have to be humble about your own abilities. A lot of people make so many simple mistakes. People get really tied up wanting to be right about their position and think they’ve failed themselves if they’re wrong. They get tied up in being right or wrong. The market doesn’t care whether you’re right or wrong. It simply doesn’t know you’re there. And as George Soros said, “It doesn’t matter whether you’re right or wrong. You’re going to be both, and often.” The only thing that matters is how much you make when you’re right and how much you lose when you’re wrong so don’t get caught up in that. Make money, don’t be right. That’s the key thing. In the book I mention we all have cognitive biases. Perhaps today we’re not making our decisions as well as we were yesterday or tomorrow, but the markets are still alive and we have to decide what we’re going to do. Are we aware of all those cognitive biases? There are about 100 of them in a list—in a footnote. We don’t know the things that are impacting us. In chapter two it goes more deeply into this. We have two parts, essentially, to our brain. One is very reactive. It feels the emotions and forces us to do things. And that, generally, is not good for your investing but it’s actually the majority of how we make decisions. We do also have a strategic brain, but it uses a lot of energy. So we’re not very good necessarily at always being good at using that effectively and keeping our emotional side so it doesn’t damage what we’re doing. Once you realize that you can create an investment mindset framework of which I show you how to develop. Then you can see a road to creating your own investment mindset and a path to becoming a better investor. But it’s self-work. You need to know a few structures and a few of the traps but I think everyone can do it. You need to be humble and you need to be self-aware.

Tom: You mentioned the emotional side of it. Earlier on I said, maybe you can just keep on top of the news but sometimes the news feeds that emotion. I think about when everyone was talking about Bitcoin. Now, everybody wants to buy Bitcoin. Personally, to me, it seems like it’s not really an investment. I talked about this on another episode. Can you make money? Yes, but it doesn’t necessarily mean it’s an investment. I mean, it’s an investment with fundamentals when you when you really consider it. Maybe keeping on top of the news might actually work against this emotional side of your brain?

Chris: Yeah, there’s a constant process of what’s exciting. But what’s spectacular is moving around a lot. It could be Tesla stock. It could be Bitcoin. It could be cannabis stocks. Everyone is drawn to the story. The trouble is, by the time people are drawn to the story, it’s already gone up a long way. So you’re certainly not entering at the best time. It may continue running but you’re in a story which is already advanced. It’s much better from an investment standpoint to buy something which is really low. Nobody’s talking about it, and you understand better than anybody else. Then, you’re more likely to make money because everybody else doesn’t know about it and hasn’t bought it yet. There are tricks. And that’s exactly what happens. If you get excited by a story and that’s how you invest—I show this in the book. People who invest like that where they want a return, they see a return, and they dive in, they come out worse off. Not just sometime, all the time, on average. I’ve got a table which goes back to World War II. They’ve got 70 years of seeing this. People tend to allocate more and more and more to the stock market the further it goes up. So what happens is you’ve got the maximum amount of people invested at the highs and the least amount of people invested in the lows. And that’s because most people are simply behavioral, not strategic. It’s all in the data. You can see that doesn’t work. So, the second rule of the book is don’t just look at returns. We’re going to look at returns, but don’t just look at them. There’s a lot more else that’s just as important. As you see the metrics I show for the best investors, the return is probably the fourth thing a best investor will look at—just to see whether what he’s doing is working. But it’s not really a driver of the decision at all. What the best investor will look at is risk. Return is really incidental when you’re making that buy decision.

Tom: And if you show someone this concept of buy low, sell high, everybody gets that. They realize that’s obviously how you’re going to make the most money. But for all the examples you just gave from Bitcoin to cannabis, it shows they throw that out the window and just go for what’s currently doing well with the hope that it’s going to do better. And that, obviously, is on average. It’s not the way it’s going to work. The top thing is can’t keep rising. I feel like I’ve missed out on that sometimes. Things like Apple stock and even Bitcoin. There have been times where I’ve said I don’t really get the stuff so I’m not going to do it earlier on. And, certainly, it’s gone a lot higher. But that’s in the past. It’s not something I can change at this point. I would still say today that it’s too high, even though I said it was too high when it was lower. If someone is investing right now and after hearing this episode are concerned about what they don’t know, what would be the first steps for them? What can they do to look at all their investing as a whole and consider what they might need to change?

Chris: Well, as I said in my introduction, the whole purpose of this book is to empower the average investor. Don’t take someone else’s word for it. Understand how and why what you’re doing makes sense. I think it is possible for everybody to do better and to take the path of the best investors. There are a lot of steps but I think everyone can immediately do better if they follow that path.

Tom: This has been great. Thanks for walking us through this. Can you tell people about the book and where they can find it online?

Chris: Yes, it’s on Amazon. You can find it at; Invest Like The Best – The Low Risk Road to Higher Returns. I also have a website where a lot of the information is stored. It’s simply, chrisbelchamber.com. I’m very active on LinkedIn. It’s the social media I tend to use so you can easily find me there under Chris Belchamber. No mystery there. Those are the main sources where you can find more information.

Tom: Great. Thanks for being on the show.

Chris: Thank you so much, Tom.

Thanks, Chris, for sharing some concepts we don’t often think about when it comes to investing and managing risk. You can find the show notes for this episode at maplemoney.com/144. Are you new to the Maple Money Show? If so, I want to thank you for listening. In case you weren’t aware, you can watch videos from any of our top episodes over on our YouTube channel. If you’re interested, head over to maplemoney.com/youtube. Make sure to like the video and hit the subscribe button. As always, thanks for listening. I look forward to seeing you back here next week.