Radio Show: Faber Spin-Off Executed | #50

Episode Summary

Executive Summary: Meb Faber and Jeff Rinsberg discuss investor education, realistic return expectations, and the importance of history in shaping portfolio decisions. They also cover Meb’s personal allocation shift toward a tail-risk hedge, debate active vs. passive investing and closet indexing, and argue for global diversification given rich U.S. valuations and cheaper foreign markets.

Main Topics: Investor education and return expectations (Priority: 5/5): The hosts argue that investors, including institutions, expect unrealistic long-term returns and need a more structured education in investing history, risk, and portfolio construction. How to teach investing the right way (Priority: 5/5): Meb says most people learn investing through narrow personal experience and mistakes, rather than a holistic curriculum covering stocks, bonds, valuation, indexing, bubbles, and market history. Meb’s personal portfolio and tail-risk hedge (Priority: 4/5): Meb explains his own all-Cambria allocation plus a new tactical tail-risk strategy using long-duration puts and 10-year Treasuries to hedge expensive U.S. equities and low volatility. Valuation, CAPE, and U.S. market risk (Priority: 5/5): The conversation revisits CAPE and John Bogle’s valuation framework, with Meb arguing that U.S. equity valuations are high enough that forward returns are likely low single digits. Active vs. passive and closet indexing (Priority: 5/5): The hosts criticize the blurred meanings of 'active' and 'index' and emphasize that fees and true active share matter more than labels; many active funds are effectively expensive index clones. Global diversification and foreign equities (Priority: 4/5): Meb makes a strong case for foreign and emerging markets, arguing that the U.S. is expensive while many foreign markets are cheap and in uptrends. Behavioral portfolio design (Priority: 3/5): They discuss ideas like coffee-can investing and locked-up long-term funds as ways to reduce bad investor behavior such as performance chasing and premature selling.

Key Arguments: Investors’ expected returns are far too high; 10.5% nominal expectations are unrealistic given current yields and historical real returns. A good investing education should teach market history, valuation, bubbles, diversification, and realistic expectations—not just stock-picking. Personal experience can distort beliefs for decades; studying history gives a more reliable framework than learning only from one market regime. Meb’s own portfolio is designed for low maintenance and long-term compounding, but he added a tactical tail-risk sleeve because U.S. equities are expensive and volatility is cheap. Puts are a costly hedge in normal times, but can be useful when volatility is low and equity valuations are high. Many 'active' funds are closet indexers with too little active share; investors should pay only for truly differentiated exposure. The most important investment questions are about fees, taxes, process, and whether the manager delivers what is promised. Global diversification is rational because U.S. markets are expensive and foreign markets are cheaper; a 50/50 global split is a reasonable starting point. Performance chasing is destructive; investors often buy what just did well and sell what just underperformed, which leads to poor long-term results.

Data Points: Listener milestone: 1 million downloads - The show announces it is about to pass one million downloads. Expected portfolio return survey: 10.5% nominal - Meb cites surveys showing investors expect roughly 10.5% annual returns. Implied real return expectation: 8.5% real - Using about 2% U.S. inflation, Meb says 10.5% nominal implies 8.5% real. Historical global real return: ~4% - Meb contrasts expected real returns with the historical global average. Old investing shorthand: 5/2/1 rule - Stocks 5%, bonds 2%, bills 1% after inflation. U.S. bond yield example: ~2.5% - Used to illustrate low forward bond returns and challenge of meeting 8.5% real targets in a 60/40 portfolio. Tail-risk strategy allocation: ~10% of portfolio - Meb says he added about 10% to the new tail-risk fund. Tail-risk fund structure: 90% 10-year Treasuries / 10% remaining assets spent on puts over 12 months - Description of the fund’s mechanics: mostly bonds plus monthly put purchases. Monthly option budget: ~1% per month - The strategy spends about 1% a month on options premium. VIX level: below 10 - Meb notes volatility is very low, near decade lows. U.S. market bull run duration: ~8 years - He references being in an eight-year bull market. Foreign market valuation: mid-teens CAPE - Meb says many developed foreign markets are much cheaper than the U.S. Emerging market valuation: low-teens CAPE - He cites emerging markets as cheaper still. Cheapest market example: ~10 CAPE - He mentions the cheapest bucket is around 10, and cites the Czech Republic as especially cheap. SP 500 ETF fee: 5 bps - Meb contrasts low-cost index ETFs with expensive mutual funds. Expensive S&P 500 fund fee: 2.3% - He cites a retail fund charging 2.3% for S&P 500 exposure. Active share benchmark: 70% of active managers are effectively closet indexers - Meb cites Bill Miller’s point that most active managers look like the benchmark. Research on stock concentration: 2/3 of stocks underperform indexes; nearly half have 0% return; 20% generate all gains - Meb uses these stats to explain why indexing and diversification matter. CAPE warning levels: 30 yellow light, 40 red light - Meb gives rough valuation thresholds for caution and avoidance.

Pivotal Quotes: "This is the time to really emphasize risk. Valuations are clearly high. Dividend yields are low." — John Bogle (as quoted by Meb): Used to frame a discussion about valuation, indexing, and whether high market valuations should change behavior. "The only thing that matters is total return after all fees and taxes." — Meb Faber: Core takeaway from the active vs. passive discussion and the importance of costs. "I basically see no reason to own stocks." — Meb Faber: His view on U.S. equities if valuations rise to extreme levels such as CAPE 40+.

Implications: Listeners should calibrate return expectations, diversify globally, and focus on costs, taxes, and process rather than labels like active or passive. The episode suggests U.S. equities may be expensive, making hedges, foreign exposure, and behavioral guardrails more important.