Uninsurable Condos, Floundering Robo Advisors, and Counterfactual Thinking (EP.86)

Episode Summary

Executive Summary: In this episode of the Rational Reminder Podcast, hosts Benjamin Felix and Cameron Passmore explore the psychology of counterfactual thinking—the 'what if' scenarios that lead to investor regret. They discuss how closeness to an outcome and causal inference drive these thoughts, using examples like missing a flight by five minutes or selling Tesla before a surge. The episode also covers Canadian real estate insurance crises, the challenges facing robo-advisors like Wealthsimple, and the launch of Vanguard's private equity fund. Practical advice is offered on managing regret through decision journaling and focusing on goals-based investing.

Main Topics: Counterfactual Thinking in Investing (Priority: 5/5): Deep dive into the psychology of counterfactual thinking, including contrast effects and causal inference, and how it leads to investor regret over missed opportunities like Tesla or Shopify. Canadian Real Estate Insurance Crisis (Priority: 4/5): Discussion on skyrocketing condo insurance premiums and deductibles in BC and Alberta, driven by high replacement costs and past disasters, potentially limiting real estate financing. Robo-Advisor Industry Challenges (Priority: 4/5): Analysis of Wealthsimple and other robo-advisors struggling with high customer acquisition costs, low assets under management, and the persistent demand for human advice. Vanguard's Entry into Private Equity (Priority: 3/5): Examination of Vanguard's partnership with HarborVest to offer private equity to institutions, with potential future access for wealthy individuals, and the debate over its alignment with Bogle's philosophy. Book Recommendations and Insights (Priority: 2/5): Reviews of 'That Will Never Work' (Netflix story) and 'Safety First Retirement Planning' by Wade Pfau, highlighting lessons on unpredictability and the value of annuities. Value Premium and Factor Models (Priority: 3/5): Listener question on whether the explanatory power of factor models has decayed despite the declining value premium in the US, with evidence showing stable R-squared and alpha.

Key Arguments: Counterfactual thinking is driven by closeness (e.g., missing a flight by 5 minutes vs. 30 minutes) and causal inference (attributing outcomes to one action). Investors regret not buying stocks like Tesla because they are mentally close to the story, not because they are the best performers. Robo-advisors like Wealthsimple face high customer acquisition costs (~$1,000 per client) and low average account sizes ($30,000), making profitability elusive. Private equity valuations have converged with public equities, reducing expected returns after fees, making multi-factor tilts potentially more attractive. Decision journaling helps mitigate regret by documenting the rationale at the time of the decision, countering hindsight bias.

Data Points: Wealthsimple assets under management: $6 billion - Total assets managed by Wealthsimple, though it's unclear if this includes US/UK operations or the sold advisor platform. Robo-advisor break-even assets: $16-40 billion - Morningstar estimate for US robo-advisors to break even, highlighting Wealthsimple's distance from profitability. Customer acquisition cost for robo-advisors: $1,000 per client - Estimated cost to acquire a client, with average annual revenue of $150 per client, implying a decade to break even. SP 500 year-to-date returns from top stocks: 4.5% - Two-thirds of the SP 500's YTD return came from just four stocks: Microsoft, Apple, Amazon, and Google. Value premium decline in US vs. other countries: Declined in US, substantial elsewhere - The US value premium has declined, but it remains strong in many other countries, while Canada had a negative premium over the same period. Investor likelihood to repurchase stocks sold for a gain: 50-67% more likely - Investors are more likely to repurchase stocks previously sold for a gain rather than a loss, driven by counterfactual thinking.

Pivotal Quotes: "If only I'd held on to Tesla, I'd be 40% ahead. You're making a causal inference that you selling is what drove that outcome." — Benjamin Felix: Explaining how counterfactual thinking leads investors to attribute missed gains to their own actions, even when outcomes are random. "It's very difficult to imagine from the psychological analysis of what expertise is that you can develop true expertise in predicting the stock market. You cannot develop expertise because the world isn't sufficiently regular for people to learn rules." — Daniel Kahneman (quoted by Benjamin Felix): Highlighting why counterfactual thinking in investing is unproductive due to market randomness. "When you look back at what people said in the late 1920s, their confidence, their clarity, their logic, you can't help but wonder what we are confident in today that will look foolish in the future." — Morgan Housel (quoted by Cameron Passmore): Emphasizing the danger of hindsight bias and the inevitability of surprises in markets and life.

Implications: Investors should recognize that regret over missed opportunities is often driven by psychological biases, not poor decision-making. Documenting decisions and focusing on goals-based planning can reduce emotional pain. The robo-advisor industry may need to integrate human advice to survive, while private equity's allure may fade as valuations normalize.