The Elephant in the Room Property Podcast | Australian real estate
The Elephant In The Room Property Podcast with Veronica Morgan & Chris Bates

Episodes

Episode 69 | Shares or property, which one will make you the most money? | Scott Phillips, Motley Fool Australia

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Is a share portfolio an ideal alternative investment to property?

Chief Investment Officer of Motley Fool Australia, Scott Phillips, explains how the share market can offer a viable option for first home buyers to save up their deposit faster.

Let’s look at this idea and some other alternatives:

  • Are there different investments for would-be property investors to consider when they can't borrow enough money to buy an investment-grade property?

  • What is the cost of a lemon in your share portfolio?

  • What are the compound eroding effects of fees?

  • Why you need to pre-commit to save & make a habit of it.

  • How behavioural biases cost you way more than you think!

This is an eye opener of an episode and we uncover so much gold, so stick around until the end.

Guest Website:
The Motley Fool - Scott Phillips
Motley Fool Philosophy & Graphs

Related Links:

Ep 1 - Behavioural Biases

Ep 9 - How to sniff out a lemon in your portfolio

Work with Veronica? info@gooddeeds.com.au

Work with Chris? hello@wealthful.com.au

EPISODE TRANSCRIPT:

Veronica Morgan: You're listening to the Elephant In the Room Property Podcast where the big things that never get talked about actually get talked about. I'm Veronica Morgan, real estate agent, buyer's agent, and co-host of Fox Hills location-location-location, Australia.

Chris Bates: I'm Chris Bates, financial planner, mortgage broker, and wealth coach.

Veronica Morgan: Together, we're going to uncover who's really making the decisions when you buy a property.

Chris Bates: In this episode, we're going to step a little bit away from property and open up the discussion on share investing. We've got a pretty famous name out there on this podcast and we're going to discuss three main points. What are the investment principles of the share market? How are they similar and dissimilar to the property market, and should first home buyers and home buyers more generally look to use the share market to save more deposit? Finally, what are some of the alternatives that investors who cannot afford to buy investment-grade property the only property we recommend with share investing?

Scott Phillips: If you're young enough and we're talking people under 30 here, you can absolutely have a fantastic retirement by investing regularly in shares and probably property without borrowing a cent, so I don't want people to finish this thinking, "I've got to find a way to borrow some shares because that's the smart thing to do."

Scott Phillips: It can be useful. It can be smart, it can be all that stuff, but if you start early enough and you save regularly, if you put $1,000 away a year between your 18th and 30th birthday, you'll retire with $1 million. That's pretty compelling, right?

Chris Bates: Please stick around for this week's Elephant Rider Boot Camp and we have a cracking dumbo of the week coming up. Before we get started everything we talk about on this podcast is generally nature and should never be considered to be personal financial advice.

Chris Bates: If you're looking to get advice, please seek the help of a licensed financial advisor or buyer's agent. They will tailor and document their advice to your personal circumstances. Now, let's get cracking.

Veronica Morgan: When we were doing the research for our Fool or Forecaster report, we found a lot of parallels between the stuff that's written about the share market and property market commentary. There's also similar characteristics displayed by the investors themselves. Those who invest for income versus those who invest for growth, those who stock pick and actively ride the market versus those who set and forget.

Veronica Morgan: They might pick an index fund and then leave it alone. Those wishful thinkers always looking for the next sure thing versus those who follow the value investing ethos. One big difference, however, is that the share market is so much easier to trade in and out of than the property market. You don't have to borrow money to play, you don't need to buy an entire asset, and you don't have stamp duty as a barrier to entry.

Veronica Morgan: In this episode we want to better understand investment fundamentals as they apply to the share market. We're going to explore investment options for would-be property investors who can't borrow enough money to buy an investment-grade property, and we're also going to find out whether the share market offers a viable option for first home buyers to save up their deposit faster. To help us in this quest, we are joined by the chief investment officer of Motley Fool Australia, what a great name, Scott Phillips.

Veronica Morgan: We're going to ask Scott to explain what Motley Fool does in a moment, but suffice to say that his passion project is explaining how people can use the power of investing to improve their lives. Thank you so much for joining us today Scott. We're looking forward to learning more.

Scott Phillips: Wonderful, good day, good to be with you.

Chris Bates: Scott, good to meet you.

Scott Phillips: Thanks Chris.

Chris Bates: I've followed your work for some time, and it's always good to meet people that you respect. The Motley Fool, it's a cool name. How did you come up with that?

Scott Phillips: Right, so 25, 26 years ago in the US The Motley Fool started by two English graduates.

Chris Bates: Okay.

Scott Phillips: Tom and David Gardner, brothers, and the Motley Fool in Shakespearean language is the multicolored court jester, so it's Motley fool, who can tell the king the truth without losing his head. The whole business is exactly about that: trying to break through, kind of what you guys do. The elephant in the room idea, taking the basics of finance and investing and make it accessible for everybody else rather than pretending that it's only for the professionals and the high-paid high-flyers.

Veronica Morgan: The idea being that you can tell the truth to somebody who wouldn't otherwise want to hear it.

Scott Phillips: Yeah, and also, too, it's nice not having any other conflicts of interest, right? We don't have big investment banks. Literally the only people who pay us, we have a little bit of advertising from the Google AdWords type stuff; the vast bulk, 99% plus, comes from our members. If we do a really great job they renew and hang around, which is great; if we do a terrible job, then we're getting a new job and I'm going to do something else.

Scott Phillips: Either way, there's nothing I can't talk about, no issues I can't touch, no conflicts to worry about, no investment banking relationships, IPOs, any that stuff. It's all completely up to us and we get to tell the truth basically because we can.

Chris Bates: What is the business model for Motley Fool? Just say it because some people wouldn't know about it, but what is it?

Scott Phillips: Right, so basically we're a subscription investment advice business, so effectively members pay us an amount per year depending on what service they want to join. We have different services catered for different people. There's some high-growth stock services and income services, there's portfolio services, so it's a menu approach and our members pay us for advice on a yearly basis. If we keep giving that advice and they keep hanging around, we're good. That's pretty much it.

Scott Phillips: We do have a money management business, a funds management business on the side called Lake House Capital. That's a Chinese world business away from what we do in the investment advice business, so my business is the pure general investment advice and we have an associated funds management company.

Chris Bates: Not only picking stocks, are you picking timing as well, like in saying, "Why? We're worse," but only buy it if it's over $22 or under $22?

Scott Phillips: Yeah, that's a slightly different question. There's timing and there's price. We do price, absolutely, we don't do timing. I have no idea what the market's going to do next nor does anybody else, and if they tell you they do, either they're lying to themselves or lying to you or both.

Veronica Morgan: You're not a forecaster?

Scott Phillips: Yeah, funnily enough, no. Again, too, we talk about the things we're allowed to do and not allowed to do. If you're a big bank economist and someone says to you, "What's the market going to do?" your job relies on having an answer, and maybe you convinced yourself that you know, maybe you tell yourself you don't really but you should say something; I get to just say, "I don't know," and in investment circles, particularly investment advice circles, most people say that's a dangerous three-word answer.

Scott Phillips: Because, "Well, hey, what am I paying you for?" and my answer is, "Well, you're paying me for I can do, not necessarily things you want," and if there's a gap, I'm going to be able to say, "Hey, here's what I can do for you. Here's what I know, here's what I don't know."

Chris Bates: Yeah.

Scott Phillips: Back to your point, Chris, yeah, we pick stocks. Most of our services pick stocks once a month regardless of where the market's at, because our job is to beat the market over time. We don't worry about timing because who knows where the market's going next.

Chris Bates: Yeah.

Scott Phillips: We do, though, look at the price and say, "Is $20 or $22 worth paying for Woolies?" but that's a different question to is it June or July or is it August or September when we have a market crash or the market's up or down 5% or 10%.

Chris Bates: You're basically valuing that company and saying, "Look, it's worth $1 billion, but you could buy it today for $800 million. We think that's a pretty good price-

Scott Phillips: Spot on.

Chris Bates: It's a good company long-term.

Scott Phillips: Spot on.

Chris Bates: Rather than saying, "It's going to be worth $2 billion next year," which is more the forecasting of where it's going to go.

Scott Phillips: Yeah, exactly. That's market forecasting, and no one knows. When was the last time you saw a stock forecast, "There's gonna be a recession in this time," and actually stick to it and be right? You guys have talked about it before ... I love your podcast, by the way ... You guys have talked before about the fact that the forecast, it's wrong every single year and we talked about the broken clock phenomenon, even though broken clock is right twice a day.

Veronica Morgan: Yeah.

Scott Phillips: They've been bearish on the market since 1979, and they're still bearish every 10 years so I get to say, "See? I told you I was right." There's probably more money lost preparing for the next crash than in the crash itself.

Chris Bates: Yeah.

Scott Phillips: Investing through that, actually dollar cost averaging, which we can get to later without getting off too much of a tangent, that whole idea of just investing regularly, sometimes put $100 a month in the share market, pick a number. Sometimes you get a lot of shares because the share price of shares are cheap; sometimes you get fewer because they're more expensive. Overall, you're getting an average price through the market cycle.

Scott Phillips: That's a faster, smarter way to try and invest rather than pick the timing.

Chris Bates: You probably don't go very well at financial advice conferences.

Scott Phillips: I don't get invited to a lot of them, Chris, if I tell you.

Chris Bates: It's funny because I have to laugh at myself, really. I was starting in advice, I went and worked at a fund that picked stocks and where the future's going to go, got sold on what an investment analyst does and went down that process, realized investment banking wasn't for me, then went into financial advice, and everything I read was "We knew where the world was going and we knew how to pick funds and we knew how to pick stocks. We know how to build investment portfolios. We know how to rebalance," and it's all a lie.

Chris Bates: It's all there to sell a product, which is ongoing investment advice.

Scott Phillips: You know it.

Chris Bates: It wasn't until I was probably only about four years in, I started to realize I didn't know, and I didn't. Since then I've said those three words, "I don't know where the world's going. I don't know where the best stock is," and I don't focus on that from the investment point of view. I focus on the other dollar cost averaging from a strategy. There's other things you can focus on and still get great results.

Chris Bates: You don't need to know where the world's going and that's the good thing about investing.

Veronica Morgan: Well, it's called understanding the fundamentals, isn't it?

Scott Phillips: That's it, and you think about what a financial planner should be good at and what they should be paid for. They're very different things, so structure is super-important; I'm not telling you guys anything you don't know. Structure is really important: go and get a great financial planner to help you with the structure of your financial affairs. Your insurances, your estate planning, with a company or a trust or a personal name or partnership. Those things are super important.

Scott Phillips: Then, on top of that, any big life change or life decisions; again, that's where the financial planners are really valuable. The whole idea of flipping the ticket on X-percent of your funds under management, I tell a story of my mom and dad. 15 years ago, we're getting charged $7,000 a year in fees in total for a $300,000 portfolio. That's unconscionable. I'm sure the planner thought he was doing a good job and mom and dad thought he was doing a good job and the fees are all hidden in multiple lines of a statement of advice, so you rarely see it.

Scott Phillips: The reality is what you're paying and what you're getting are two very different things.

Chris Bates: Fees are very important in everything, so what's your view on just low-cost investing? Because a lot of our listeners are younger listeners and property is definitely something that's suited more to younger people than older people, and they're looking to diversify out of property because maybe they're tapping out because their bank won't lend them any more money, they've got equity, or they haven't even got a property and are looking to invest.

Chris Bates: A lot of them are attracted to things ETFs. What's your view on those type of investing?

Scott Phillips: Yeah, so look, the first thing I would say, and again, I'll give you guys throughout the podcast. The behavioral biases you guys talk about regularly are the same set of asset class. The first thing is everything you've talked about over the last, what are we were up, to 60-ish episodes, that's-

Chris Bates: You are a big fan.

Scott Phillips: Yeah, that's a really important-

Veronica Morgan: I didn't even know that when I invited you on.

Chris Bates: There you go.

Scott Phillips: They're applied across all of the different asset classes. First thing is understand that stuff about yourself. To your point, though, directly, Chris, or your question, I think ETFs are wonderful investment opportunities because they're do-nothing investments. Hopefully, you can regularly deposit into them in a lot of cases anyway, the fees are super low. We know superannuation, for example, people don't think about it when they're young, as you say, but it matters by the time you get to 60, 65.

Scott Phillips: Up to 40% of your super balance can be eroded by fees. If you compare the high-fee super funds versus the low-fee funds.

Chris Bates: Yeah.

Scott Phillips: 40% of the final amount, literally-

Veronica Morgan: That's phenomenal.

Scott Phillips: If it's been $1 million and $600,000, just to pick two numbers, or $2 million and $1.2 million, can come out of it just because the compound value of the fees. We know that investment returns compound, well, guess what? So do fees, and so to your point, yes, absolutely. If you're just starting, ETFs are a wonderful player. I'm a stock picker by trade, so I could come out and say, "No, pick stock."

Scott Phillips: If you're just getting started, buy an Australian ETF, buy a US International ETF, regularly deposit into that ETF over time, you'll be very glad you did.

Chris Bates: Yeah. It's so true, right? I think that one of the-

Veronica Morgan: Let's just explain what an ETF is for the listeners, and there is a distinction between investing in an ETF and investing in property in a minute, but please explain.

Scott Phillips: Beautiful, so ETF stands for exchange-traded fund, and that can actually be lots of things. We need to be a little bit careful, and I should have made that point when, Chris, you asked the question. An ETF is any investment, any fund, that happens to be listed on the ASX or another exchange. In the past, that would just ... What we used to call index funds, so you could buy, effectively, with one transaction, shares or securities.

Scott Phillips: In an ETF that track the ASX 300, and you would get the ASX 300 return. The Nightly News when you see what's happening on the market, you're eating that return, less a little tiny bit for fees, that was an index ETF, or exchange-traded fund.

Veronica Morgan: You’re buying the market.

Scott Phillips: Right. Now, there's plenty of others out there. Many of these dogs created ETFs or those leveraged bear ETFs, which means you actually make twice as much money if the market loses, but lose twice as much if the market gains, and there's gold ETFs and there's all sorts of stuff around the place. We've got to be a little bit careful when you say ETFs are great because the ones we're all talking about that we think we're talking about are the index ETFs, and they're super important.

Scott Phillips: Yes, an ETF, an exchange-traded fund. In the old days, you had to send a check to a managed fund or to a fund manager. That guy normally, hopefully in the future girls as well, invests that money on your behalf and when you want the money back, you ask him for the money back; these days you can do it using your broker, so Comsec or something else, and I have no affiliation with a broker, for the record.

Scott Phillips: You can simply say to your broker, "Hey, buy me $1,000 worth of this index fund," and you're getting the market return, less a little bit for fees.

Veronica Morgan: Or you can do it online.

Scott Phillips: Exactly right, and you can buy Australia, you can buy international, and if we get to it in time, I'll explain why international is worth investing over Australia, at least in large part, which we might get to later. Yeah, so be diversified, grab an ETF, great way to get started.

Veronica Morgan: Yep, and just on the distinction, and one of the reasons we wanted to get you in to talk today, Scott, is because when you're buying property as an investment, you are generally only buying one, most people, 73% of property investors in Australia, own one so the odds are that you're only going to buy one, and even if you buy one now, hopefully do really well and then double-track and you can buy another one.

Scott Phillips: Exactly.

SOCIAL MEDIA GRAB 13:45

Veronica Morgan: When you buy your first investment property, or your only investment property, you are sinking all your eggs in one basket, so I don't want investors to be satisfied with just doing as well as the market. When you are making one decision on one investment that is going to make a big impact on your future wealth, 10, 20, 30, maybe 40 years' time because it's a long-term investment, you've got to choose an asset that you believe will over-perform the rest of the market.

Veronica Morgan: That comes down to location, number one, but then within every location you've got to choose the asset correctly. It's a very delicate and involved process to choose that type of investment, which is one of the reasons my business exists, because it's so difficult. When you're investing in shares, you, A), don't have to put all your eggs in one basket, and certainly when you're investing in an index fund or an ETF, then obviously you're tracking whatever the rest of the market is doing.

Veronica Morgan: You're not over-performing, but you're not underperforming either, and I invest in ETF, so my super, that's where I've allocated that, so that's great. I love the fact that you've started talking about that. Now, let's get into what some of these, I guess, the principles of investment that you would abide by.

Scott Phillips: Sure. What I think is really important, by the way, is that, and that's exactly our business. We're paid to give advice to help people beat the market as well, so that's where advice matters, that's where it counts. When you're getting performance that is market-beating, if you're paying to match the market or lose to the market, then you're getting absolutely taken for a ride. Yeah, that's a really important sign; I think that's where we're pretty similar.

Scott Phillips: All I would say is that ETFs are better than doing nothing, so for most people just getting started alone is enough. What I should also say is it's better to be invested and match the market than not be invested at all, so there's those kind of orders of investing, get started, do something. If you do something, at least start with where it matches the market and then go back, trying to beat the market.

Veronica Morgan: Yeah.

Scott Phillips: You asked about the basic fundamentals. Really, again, people like me will normally be telling you how wonderful, sophisticated, and clever they are and all that great stuff. I will tell you there's nothing new been invented in investing in 30 years. There is literally some products and that kind of stuff; in terms of investing best practice, it was done by 1965. There's not that much more that's going on, "Hey, this is great new insight and breakthrough in terms of investing and here's what you need to do differently now," and we've just discovered that.

Chris Bates: The problem with so many products that come on with is this is what financial advice happens.

Scott Phillips: Yeah.

Chris Bates: We get e-mails and it's like, "There's this amazing new product coming out, and what this is is an absolute return fund, and what we can do is get you a 7% return every year by diversifying your cross-asset classes and it's all brought out by a fund," and you're right, we try to pretend that things are new and exciting to sell product, but really the fundamentals are still the-

Veronica Morgan: Same shit, different shovel.

Scott Phillips: You got it right. That's exactly right. To your point about that, there's a reason those people are called product manufacturers, by the way. In the lingo they're called product manufacturers because what they do, they create stuff and say, "How can we separate some people from their money? If they don't like product one, two and three, let's create four, five, and six," because they don't make money based on how much money you make.

Scott Phillips: That's the key thing about these products: They make money by how much you invest, not how well you do. Now, some have a bit of both, but when you're charging a couple of percentage points as the fee to start with, you don't really care how the fund performs other than you want to get more money into the fund in the future. It's that basic idea of "How do I convince someone to buy what I'm selling rather than how do I design the very best product for that person?" and that's just from the ETF and most of the managed funds.

Scott Phillips: Now, some beat the market, and so, Veronica, to your point, there's some fund managers that are absolutely worth investing in, and you should. If they continually beat the market, then they deserve their fees-

Veronica Morgan: Can they?

Scott Phillips: That's the thing, right? I think we have to recognize that some can, the problem is trying to find them.

Veronica Morgan: Warren Buffett.

Scott Phillips: If I can't beat the market regularly, if you can't beat the market regularly, then both of us should go and find other jobs, maybe digging holes with those shovels. If we believe that we can do better in the market by applying some intelligence and some thought and some process, then that, in theory, and again, we'll be shown up by our results one way or the other, that is the difference.

Veronica Morgan: Let's draw a distinction, because possibly a lot of people that think they can beat the market are getting in and getting out all the time. They're trying to ride that wave up, as opposed to picking quality assets or quality stocks, and holding it for the long term. Would that be fair to say?

Scott Phillips: Yeah. One of our co-founders, David Gardner, says long-term investing is a tautology, and is pretty much right. You've got to be trading in the short-term or you've got to be investing, which is, by definition, long-term.

Veronica Morgan: Right, yeah.

Scott Phillips: The market goes up over time, so generally speaking, if you're going to say, "Where is the market going?" two out of three, the answer is up. If you want to win a bit, actually your Fools or Forecasters, say up because at least that way you're more likely not to win. You've got twice out of four times.

Chris Bates: You're not playing two up, most likely it's going to go up.

Scott Phillips: Right, because companies make more money-

Veronica Morgan: Buy whatever percentage.

Scott Phillips: Well, there is that, so yeah. Look, you need to be long-term. Again, as I said, I don't know where the market is going next three months, six months or even 12 months. I've said to my members regularly, "If I'm right or wrong inside 12 months in any stock pick, I'm just either lucky or unlucky." There is very little, because here's the thing: If you're trying to beat the market, then you're buying something the market doesn't agree with you on.

Scott Phillips: Because if the market's already right, you're going to get the market return. Again, when you guys do property, if the unit is already fairly valued, then you're not going to be able to beat the market unless you manage to convince some sucker to pay well over the odds when you sell it, maybe that's part of it, but you want to buy an asset for less than it's worth, therefore the market's got to be wrong.

Scott Phillips: Now, if the market's wrong now, don't expect it to realize it's wrong now and then be right tomorrow. It's not going to correct that error so quickly. Now, you could be wrong, of course, but if you're right and the market's wrong, it's going to take time for that market to go, "Oh yeah. No, we do like that company. We might have made a mistake there." Either the results came in or the pessimism goes away or whatever clouds that are hanging over the investment thesis go away.

Scott Phillips: That's going to take six or 12 months at the very least in most. Now, you can get lucky, but most of the time it's going to take 12 months at least for that to actually happen. Inside 12 months, who knows? If the stock's up 20%, you're not a genius, if the stock's down 20%, you're not an idiot. It may well be both of those things, but not because of that. You've got to give it ... We invest with three to five years plus.

Scott Phillips: In fact, five years plus is the number that we try and use. Now, for many share market investors I have to ask them because they say, "Well, five years, what do you mean? I can buy and sell tomorrow and this afternoon, let alone five and 10 and 20 months into the future," so yeah, long-term investing is absolutely the heart of it. The other thing is the business fundamentals, so we are what we say: business-focused, long-term investors.

Chris Bates: Sorry to cut you off there, but do you think five years is enough for share investing? Because if you reflect on, I guess, different time frames of 2002 to 2007, that was probably okay, but 2008 to 2013, do you believe that five years is enough for investors who want to make sure that their capital is protected, I guess?

Scott Phillips: Great question, so a couple of ways to answer that. Firstly, when I talk about five years, I should have been clear. It's the investment thesis to play out, so I'm not saying that everyone's going to make money over that time period, arbitrarily and forever. There absolutely are five-year periods where the market falls as a whole. Not very many of them, for what it's worth, and not by a lot, but there are absolutely those periods, so yes, you need to have a longer time period than that.

Scott Phillips: In terms of your investment thesis, if you're buying Woolies shares today because you expect that, in the future, they'll be worth more, the three to five years plus is how you expect that thesis to play out.

Chris Bates: On the stock level.

Scott Phillips: Exactly. I would say, then, over any time period, I still think ... We say to people if you're investing, and particularly within retirement cash, talk about capital preservation, you should have ... If you need money inside five years, you need the capital inside five years, I wouldn't have it in the stock market. I just wouldn't.

Veronica Morgan: Yeah.

Scott Phillips: I wouldn't have any property either. For what it's worth, I wouldn't have it anywhere that you ... If you're going to sell that share to pay a bill or a term deposit or something that's accessible, and where the capital is genuinely protected so we know the government is giving bank guarantees, so cash in the bank at a couple of percent return deposit doesn't sound very exciting, much better that than losing 20% having to sell at a loss-

Veronica Morgan: That comes back to our question about whether you should use a share-put market to save your deposit.

Scott Phillips: Right, so I think the answer is yes, depending on your time frame.

Chris Bates: Yeah.

Scott Phillips: It's all about time frame. If you have an absolute, mandated endpoint, so you're going to start a family, you want to have a house in three years' time for the new family, at that point you definitely are going to buy no matter what, then absolutely not. Shares aren't the place for ... You could get lucky or you could get really unlucky; either way, you're not smart by doing it. You're clever by doing it, you just got lucky or you got unlucky.

Chris Bates: Yeah.

Scott Phillips: Inside that period, no. I would say if you've got a five-year time horizon, five years plus, but you're not limited to that five-year time, so in other words, if, in five years time, we have another GFC-style problem, give it another couple of years and you'll be okay again. It depends on your flexibility on that time frame. I think shares are a great way to amass, because you're going to invest regularly small amounts, brokerage is pretty low.

Scott Phillips: That'll compound for you over time at about 10% per annum on average over the very long term, so again, to your point, Chris. I would say, if you're going to buy a house, what are we, 2019 now? Buy a house in 2024 or 2026, or 2022 if it goes really well, then great place, I think, as long as you're investing wisely, and that does matter. If you have an absolute deadline and you need to hit that ... Retirement is the same.

Scott Phillips: If you need that capital within five years, not the interest or dividends or whatever else, the actual capital, at least five years, but make sure you're flexible on that time frame.

Chris Bates: I think that's a really good point. I get this a quite a lot because our clients will come to me and they're thinking about buying their first home and they're not ready yet because they haven't got the savings. They might have $100,000 or $150,000 or $50,000 and they're going, "Well, look. What do I do? I can't leave it in the bank because I'm only going to get 2% returns," and there's this myth out there that you've got to be getting a good return, otherwise you're losing money because of inflation, which is true over long periods.

Chris Bates: In short periods, if you're getting 3% instead of 6%, it's not a big deal. A lot of people say, "Well, I have to invest it. I have to put it in something," and then they'll start looking at shares and I do agree 100% what you're saying. If it is that 3-5 years range and you're definitely going to buy something, the risk versus the reward just isn't there, and I guess market cycles right now, stock markets, are they cheap, are they expensive?

Chris Bates: If you were going to talk to people, what's your view?

Scott Phillips: Yeah, they're not cheap. Markets around the world are on the more expensive side of average. Now, there's a whole lot going on, and we've talked about interest rates, you guys have on the podcast before.

Veronica Morgan: What does that mean? For the average person who doesn't know anything, what does it mean when the market's not cheap?

Scott Phillips: All right, so when we talk about measuring the value of the share market, we talk about price divided by earnings, so the PE ratio, the price earnings ratio. It's actually a really blunt tool and there's a whole lot more you can go into if you want to get really wonky about it, but as a starting point to say, historically, how does the market compared to history? The average in the Australian market is about 14 or 15 times, so for every dollar of earnings, you're paying about $14 per share.

Scott Phillips: That's the rough idea. At the moment, the market is trading, depending on who you ask and whether you use forward or historical earnings, and we won't get into that, about 16-18 times earnings.

Veronica Morgan: It's high.

Scott Phillips: Yeah, right. It's higher than average, and average is the average for reason, which means half the time it's under, half the time it's over, so guess what? We're over, there's every chance future returns will be lower than historical averages. Yes, Chris, to your question, it's more expensive on average than it has been in the past. The question that most investors are struggling with, or the ones who are putting their minds to this, is where are do interest rates go next?

Scott Phillips: If rates stay really low, then the argument says that the current share prices aren't super expensive because ... Again, I won't get into the wonky algebra of it, but effectively, the discount rate is lower because interest rates are lower, and in that case you should be able to pay more for an asset to get the required return. If rates stay low for a very long time, today's share prices are probably fair.

Scott Phillips: If rates move up, by any meaningful term ... Not next month, not next year, but over the next, again, five years, pick that number, then it could well be that shares are on the expensive side of fair. Now, that's a very different question, so then what do you do? The answer is I'm still investing anyway, so that's where, again, that long-term perspective matters. Because whether I'm right or wrong, adding money to the market regularly is still the best way I know to deliver a market ...

Scott Phillips: Be it, A) a compound return is going to pay for retirement, and then B) hopefully, a market beat in return does even better for you.

Veronica Morgan: Actually, there's a good graph on your website, and I will put the link in the show notes, which actually does show the share market over time. It shows that it dipped in the GFC and it dipped in, I don't know, whatever.

Scott Phillips: 8799. Yeah, exactly.

Veronica Morgan: That's it. I'm not as okay with the share market as I am with the property market, but it's a similar thing. When you look at the general trend, it's definitely up.

Scott Phillips: Right.

Veronica Morgan: As you say whether it's going to go up or down, well, let's say three years, it's going to go up. That whole idea of forgetting what the headlines are saying, don't watch the end of the news where they have all the charts up. Don't be knee-jerking because the idea is, if you're investing for the long-term, it doesn't matter because it rolls out and you will do better in 10 years than if you didn't invest.

Veronica Morgan: It's that thinking though that's really difficult, particularly with shares because you can't see every day what it's worth, bouncing around like crazy, "My god! I've got to get out!"

Scott Phillips: It happens so regularly, because you see your portfolio value, individual shares go from $2, $2.20 and back, no big deal, right? That's 10%. Let's say a $1 million portfolio drops by 10%, that's $100,000, that's the price of a couple of new BMWs that are literally going up and down over periods of time. That's really big, so the thing that's great about shares is the liquidity and the access, which is wonderful.

Scott Phillips: On the flip side, you're getting your shares quoted to you every second, six hours a day, five days a week, 52 weeks a year, you can't get away from that stuff unless you choose to.

Veronica Morgan: Take the app off your phone. Don't look.

Scott Phillips: Right. If you had your house price quoted to you every minute of every day, it'd be a whole lot less comfortable existence than checking in with your agent every couple of years, seeing what's going on now, understand what's happening with the market broadly, but not that day-to-day, minute-to-minute idea of where the share price is.

Chris Bates: Can you tell us a bit more about day traders? There's investing, which is investing long-term, which I agree: you turn the news off, you turn everything off, you invest on a regular basis, which is ... Now, for our listeners, dollar cost averaging, which you had mentioned a few times, is an amazing strategy and everyone should invest that way for their long-term future.

Veronica Morgan: Explain what that is.

Chris Bates: Well, basically, dollar cost averaging is you're entering the market on regular frequency, whether that's monthly, weekly, quarterly. It's what your super is doing. Every time you get paid, your super's investing in the market no matter what the market's doing, and over time that buys the market at the current price. Sometimes that's good, sometimes that's not so good, but really it's basically compounding your returns.

Chris Bates: When you do it that way, you don't focus on today's price. You're just accumulating, you're just buying more, and then in the future when you sell it, you sell it at the future price, which could be 30-40 years away. Really, I think, people with their super should be thinking, "That's my share portfolio now. Yes, I can open up another one, but I've already got a share portfolio." When I think about my super, I've got $150,000 in a share portfolio and change that mindset.

Chris Bates: Do you think, though, with your type of trading, though, when you're buying individual stocks you can turn off from the news, or do you think you need to be much more active in your approach because you're going from something that's ultra-diversified to something that could potentially not be?

Scott Phillips: Yeah, so you started by talking about day trading, so the first thing is we don't day trade. The shortest holding period of any of our recommendations would be measured in months, and 99% of them in years, so that's our timeframe. In terms of how we think about that question of individual stocks and how we think about the market, honestly, even the same thing because I've looked at ... We'll use Woolies as a great example because it's a simple company that everyone knows.

Scott Phillips: If I think about Woolworths, I'm thinking about what does their long-term future look like? Not how many exactly, but are they going to open more supermarkets or less?

Chris Bates: Are they going to buy more poker machines?

Scott Phillips: Right, exactly. More growth shops, or are they going to have more whatever they are? What does food inflation look like, what does a competitive environment look like? The chance that any of that changes by any meaningful amount in a day or a week or a month or even a quarter is really low. Whether their sales growth is 3.2% or 2.8%, even on a six monthly basis, it's not going to matter.

Chris Bates: Yeah.

Scott Phillips: Now, over a couple of halves, you say, "Well, hang on, it's gone from 3.2 to 2.8 to 2.1 to 1.4, gee, that's a trade I want to be mindful of, and that starts to become relevant, but I can't think of it ... Only in the case of a company announcement where they've come out and said, "Hey, we thought we were going to make a fortune, now we're going to lose a fortune, the share is four by 40%. Okay, now I've got to do something."

Scott Phillips: Frankly, by the time that's done, it's in the share price already. You don't get advance knowledge of that. People sometimes say to us, "Well, why didn't you guys know that?" If I did insider-trading, I'd go to jail. Nobody knew it, that's exactly the point, and so there's very little that can happen ... Nothing happens on a weekly basis other than those company announcements of earnings, which is February and August for most companies.

Scott Phillips: That's when you should be paying a little bit of attention, and only just to make sure whether the general direction is right. If all this is growing and doing well, that's what you need to know. If all of this is declining and doing badly, that's all you need to know and you can make those decisions accordingly. It's incredibly rare that this is going to spin on a dime from "This was the world's best idea, now it's the worst idea, or vice versa."

Scott Phillips: Based on any single data point, or even a couple of data points, it's the trend that really does matter.

Veronica Morgan: It comes down to really being confident with the choice you made in the first place, right? Then you can just go ... Checking is it on track, is it not on track, and then let it go.

Scott Phillips: Totally. Particularly because the way we buy, we buy quality first and then try and get the best price we can, rather than buy cheap stuff that happens to be crap and hope that maybe there's less crap in the future because that's a really hard game to play.

Veronica Morgan: That sounds exactly like my philosophy about buying property.

Scott Phillips: Not only does it minimize your downside because if you buy a quality business, you're going to get surprised from time ... There's always going to be frauds, there's always surprises. That's why you haven't ... To your point about diversification, I want people get to 15+ stocks as quickly as they can. Don't buy two stocks only, that's my portfolio. Do an ETF, which is 300 or something stocks, but get to 15 or 20, just quickly as you possibly can.

Scott Phillips: If Woolies does well or badly, so it can have an outsized impact on your portfolio. Once you get to that point, then you can start to say ... If you're buying quality businesses, they're quality because they've probably been around for a while, they're probably growing, they've probably got strong brands, they've probably strong competitive positions, those things aren’t eroded very quickly.

Chris Bates: Yeah. There is lots of research around diversification where people believe that you need hundreds of hundreds of stocks, but what are some of the foundations? How many stocks do you start to become actually diversified?

Scott Phillips: Yeah.

Chris Bates: Is it 30? Because there's lots of talk around you can build a very diversified stock across lots of different industries with just literally 15 stocks, can't you?

Scott Phillips: Yeah, so that's the thing, and this is where you start to ... Because if you're too diversified, you can't buy the ETF. At some point, if you're trying to diversify all that risk away, so most people are worried about volatility. We know markets go up and down, share markets, that's what they do. If you're trying to get rid of all of that and you're paying someone to take that away from you, or in the case of diversification, you're diversifying buying one of everything. Guess what?

Scott Phillips: You bought an ETF, you spent a fortune and a whole lot of time doing a lot of worrying, whole lot of brokerage, you might as well have bought an ETF to start with so, and the other thing is ETF, by the way, is not four banks. I'm diversified, I own all four banks. Guess what? You're really not because the risks are the same, with the exception of Royal Commission getting some banks a bit higher than the others, there's regulatory change and there's economic impact. All four banks are going to go the same way.

Veronica Morgan: That is an interesting thing about the ASX 200 versus the S&P 500, is that the top stocks in the US are technology and the top stocks in Australia are banks. That's quite odd ... Well, it's a bit of sad, actually.

Scott Phillips: Both.

Veronica Morgan: I guess what does it say about our investment in technology as a country-

Chris Bates: Well, it comes down to our housing market, unfortunately.

Scott Phillips: It does in a lot of ways, yeah.

Chris Bates: It really, unfortunately, does, and there's a lot of people that ... Property or shares. You're in the property camp or you're a share trade ... People who love shares hate property, and people who love property don't know about shares and they hate shares, and you can't really be on either side. You really have to be in the middle and need both, and they both have advantages and disadvantages, but a lot of people who hate property and they're share traders, the reason why they hate property is it's not productive investing.

Chris Bates: Because when you invest in companies, you create jobs, you create innovation, et cetera. I guess how do you feel about, when you see the housing market and people are just investing in housing just with this blanket view that they'd never want to consider shares.

Scott Phillips: Yeah, we'll drive at this both ways. I was going to say about shares, people not wanting property either. I think what's really important here is people do, they absolutely feel like they need to be one camp versus the other, and then hate one or the other. I'll quickly touch on Veronica's point about Australia versus the rest of the world. This Australian market, 55-60%, depending on the day is banks and miners.

Scott Phillips: That's not diversification, and this is why I was talking about ETFs, international and Australian. I think an Australia ETF is not diversification, unfortunately, because you're getting ... One dollar and two is in those two industries, which is not diversification at all. If you're going to do it, buy an Australia ETF and buy an international one, so let's just put that aside. In terms of the property shares debate, I think it's madness because not all shares will do well nor will property will do well, and vice versa.

Scott Phillips: I think when you start to say to yourself, "This asset class is terrible because ..." you're actually closing your mind. You guys talk about behavioral biases all over the time. That's the very story: If you can't think through where a property would be good and a share market bad, or a property might be bad and a share might be good, then you're not thinking properly. You're closing your mind, and not only is it missing opportunities, but frankly, if you start with that approach, you're probably missing something in your own preferred asset class because of that close-mindedness.

Veronica Morgan: Yeah.

Scott Phillips: You have to be able to say, "An asset is good if it does ..." Now, depending on your personal circumstances, your goals, your objectives, it might be because it gives me good, strong tax perspective income, or because it gives me really strong capital growth, or because it diversifies my portfolio, or because of whatever. That's what's really important. I'm going to say, Chris, that whole productive companies thing, I think that's huge for most people. They believe it's true.

Scott Phillips: Companies do employ people, absolutely. If you own 10 shares in Woolies and I buy your 10 shares in Woolies, I'm now a shareholder. Neither of us have created a net transaction of any value for Woolworth's at all. We haven't created a single job any more than if we traded share or traded a house between us. The company exists, yes. Someone at some point puts their some money in during an IPO, and that was money absolutely going to the company.

Scott Phillips: If I'm just swapping assets with you, whether it's property, whether it's shares, no matter what it is, neither of us is creating jobs. As a quick aside, ethical investing, so I buy shares in Wind Farms Incorporated, because it's more ethical and they can absolutely choose to feel better about that, and that's not a problem. I have no issue with that, but they feel like somehow because I'm invested in one rather than the other, they're doing something for the environment.

Scott Phillips: Well, newsflash, there's 10 shares of each no matter what you do. If you don't take part at all, those shares still exist. Whether you own them or don't own them, whether you own the property or own the shares, it doesn't change what the companies do, it just changes who owns them. It has absolutely no bearing operations at all. People who try and make that value judgment of property is passive and shares are somehow companies and therefore they're active, they're missing the entire point.

Scott Phillips: Unless you're giving money to the company rather to another shareholder-

Chris Bates: Which is like an IPO. If there was more money going towards the stock market, then people would more likely list on the stock market and then you would more likely create new companies and things like that.

Scott Phillips: Correct.

Chris Bates: A land of innovation, which is what the US has got right. It's much more likely if you're going to list on the stock market, you go to the US because there's more money. I feel like that's the that's the conundrum: We've got a $7 trillion property market, and our share market's a third of that.

Veronica Morgan: $2 trillion apparently, yeah.

Chris Bates: I think it's really like that in the US, isn't it? I don't think it's more the opposite. You've got a huge share market and the housing market isn't worth anywhere near as much, so I guess that's the challenge I think people worry about, and when they go to a bank, "I want to build a share portfolio. Okay, how much money do you earn? All right, so-and-so. How much money have you got? I've got $100,000."

Chris Bates: A) Banks won't lend you another $100,000; you have to go to a margin loan, which, potentially, they offer them, and you're lucky to gear that at it twice, but if you go and want to buy property, they'll say, "Well, I'll give you another $900,000."

Veronica Morgan: Yeah.

Chris Bates: The banking system's just like, "Well, we'll let you leverage 10 times into property, but into shares you can only do it twice."

Veronica Morgan: It's really interesting, actually, because that is one of the benefits of, I guess, investing in property, obviously, is that you make your money work harder for you via leverage, but that increases the risk because people think that the banks don't risk it, though they don't see it as risky, so therefore it's not. It's like, "Well yeah, it is," and you're the one carrying the can because, even though you might have lenders mortgage insurance, for instance, that actually covers the bank, not you.

Veronica Morgan: There's all these beliefs or misconceptions around that, but I was actually talking to someone yesterday. He's a little bit older than me, he just sold some shares that he'd borrowed money on, and he said it's really interesting because the bank were talking to me, basically had been watching the share price go up and down, and so they can get to a point ... Because they can watch the share price as well.

Veronica Morgan: Then they see the price go down a bit and they go, "Oh, we're not comfortable with the amount of borrowings you've got on that share portfolio any longer, we want you to either pay us back our money or sell it," and so he decided at that point that, at his time of life and whatever, that he was going to sell it and he had lots of good reasons for that, but it was an interesting conversation because I've never borrowed to buy shares.

Veronica Morgan: Therefore I've never gone through that exercise, but I do recall a lot of people who had a lot of margin lending back prior to the GFC and they were really under an enormous amount of pressure, and that did flow into the property market because a lot of people that sold their houses to pay back their margin calls.

Scott Phillips: You got it.

Chris Bates: The margin call people say is that you haven't got margin calls on property and that hasn't happened because there hasn't been a massive fall in property prices.

Veronica Morgan: It has happened, though ...

Chris Bates: In regional areas.

Veronica Morgan: Well, was it Commonwealth Bank bought Bank West, bought their loan book some years ago, and it wasn't in residential, though, it was in commercial. A lot of people owned pubs and that sort of business. It was quite well publicized, people that had not missed repayments, but banks that send in their value isn't revalued and said, "Right, well, your LVR is higher than than it should be, and so therefore we want that gap or we're going to actually foreclose."

Scott Phillips: Right.

Chris Bates: It has happened, case-by-case banks at certain points and the GFC and things like that, but we haven't had these major price falls, and what's happening right now is if, let's say, you have a big portfolio investor and ... One at the moment, we're trying to do a discharge of a property, and the only way these banks are going to discharge this property is they want to revalue all the assets.

Chris Bates: Now, this is a margin call because what they're saying is that the total portfolio now was dropped not just this one property and the only way you can discharge that property is if you reduce your loan balance.

Veronica Morgan: Yeah.

Chris Bates: This is the margin call on this client's portfolio.

Scott Phillips: Totally.

Chris Bates: These things haven't happened because when they sold that property it went up, they weren't worried about the other assets, and so "Here you go, take your property." It's something that we're starting to see and it's a myth that people believe, that you couldn't get a margin call on property. Well, it's happening and it's going to start happening, because if banks start feeling like they own apartments and apartments are falling, they can at any point in time ask you to probably revalue that apartment and reassess. I do think it's going to happen more.

Scott Phillips: Yeah, there's a couple of interesting things in that, so I think part of the thing ... It's the old line about if you owe the bank $100, you've got a problem; if you owe $1 million, they've got a problem, and to some degree at scale I don't see, commercially, how the banks can afford to trigger widespread revaluations without destroying their own financial accounts.

Veronica Morgan: Yeah.

Scott Phillips: At some point every bank CEO says, "Hang on. Even if I believe that all my loans now worth X-percent less because of falling property price around Australia," if that would force a revaluation across the board, it would destroy the equity they had in their banks. They're not silly enough until a regulator makes them do it to actually go that far. Your example, Chris, I think is really key, where they can pick the individual customers and say, "In that circumstance, let's just make it a little bit less risky here because that's that's important to us."

Veronica Morgan: I had that happen actually myself because I sold a property last year, and to my knowledge, the loans were not cross-collateralized. They shouldn't have been, anyway because I'd ... Anyway, the point being, they came back and said, "Right, rather than giving you cash, we want to you to reduce this loan," and they earmarked one of my loans and said, "We want you to reduce that by X," and I went, "Well ..." and for starters, that would not have been tax effective for me to reduce that one; I wanted to reduce a different one if that was going to be the case.

Veronica Morgan: The thing was that they came back with three versions of valuations. One is their desktop, one was a drive-by, and one was the actual proper valuation and they will give me a different percentage according to each one. They were finally, basically, grading the risk according to the level of valuation that was done, so I just ordered proper valuations of each property and they all came in fine.

Veronica Morgan: I got to do my original plan, but there was an interesting exercise, even the fact that they actually then attributed a level of risk to each type of valuation that they used.

Scott Phillips: It makes perfect sense. The beauty for the banks, or institution of a margin call, is because we have that minute-by-minute, day-by-day valuation. You can very easily do it. You can also take small amounts off the top without having to force an entire book of revaluations. Everyone knows what the share prices are worth, so what you're asking someone to do is not sell the house and have that margin call up, because you can't sell our bedroom to meet a margin call.

Veronica Morgan: No, yeah.

Scott Phillips: Whereas if you've got a share portfolio with 1,000 shares, you could sell 100 of them if you need to, or if you want to get closer to that line, it still, frankly, could get a lot worse than that and we all know examples of people doing the GSM, particularly, who were wiped out entirely, their entire equity was wiped out by the margin call, so it happens. Yeah, that's why margin calls are so ... I hate borrowing for shares for that reason when they are ...

Scott Phillips: Now, this is always difficult, because again, you guys talk about behavioral biases all the time. There are some rational answers to how you can borrow well for shares.

Chris Bates: Yeah.

Scott Phillips: The problem is if I give a rational reason why it's okay and a way to do it, everyone says, "Oh, I can do that," it's 90% so we're better-than-average drivers. It can't be possibly true. Everyone thinks then, "I'll take the margin loan because I can do it properly."

Veronica Morgan: Yeah.

Scott Phillips: By definition that's not going to end up being true, and so I'm always super weary to say, "He's how to do a margin loan if you're going to buy shares," because again, people take it too far, get themselves into trouble, and I feel responsible for that. That being said, if you're going to borrow for shares, do it as part of ... You guys may disagree from a property perspective, but if you've got equity on the house at least use something you're not going to get a margin call on the shares themselves.

Scott Phillips: In other words, separate the line, to your point, about cross-collateralization, separate the borrowing from the ownership of the shares particularly. If you've got equity in the house, if you own half your house and you want to take another 10% out of that and buy shares, then you're not going to get a margin call on those shares and it would take a lot for that house to have a margin call from the bank's perspective.

Scott Phillips: There are ways to work if you have to buy shares, and your point, Veronica, about being able to borrow 90% of a house value to leverage is spectacularly better with property than with shares. One of the great reasons to do property, and again, because you're saying, people have this tool for, "Oh, you're pro or anti shares, pro/anti property." It's where a lot of shareholders think, "Well, hang on. If I make my $100,000 work even harder, if I can borrow 7, 8, 9X versus borrowing maybe half again," or maybe double if you're lucky, it's a very different outcome.

Scott Phillips: The gain you need on property is much lower from an equity perspective rather than the purchase price perspective to actually start making money.

Chris Bates: It's really good advice strategies. You're giving away all the good advice tips, but you're right. Definitely if you are going to buy shares, you've got $50,000 in the bank. Really, if you have a home loan, it should be in an offset account, so that's a mistake sometimes people make, but then they say, "Well, I'm only getting 3% in my offset account. Well, 3.5% offsetting my mortgage, I can do better than that in shares."

Chris Bates: They don't realize they shouldn't be using their cash in their offset account. They should just borrow $50,000 against their equity to buy those shares and then there's the cost of capital. A lot of people don't realize that-

Veronica Morgan: This is why people really need to get advice from a number of different advisors, so you can get that level of advice from a good financial advisor. Some accountants even can, some, but they've got to be very investment-savvy, but you can't ... Then a good broker or a good ... You need all of that because trying to work out all these various levers to make sure that you put more ... To make sure that you actually get it right and also do things in the right order.

Veronica Morgan: The amount of people I know that pay down their home loan because it's a really wise, sensible thing to do, and then they've got no flexibility if they decide they want to keep that as an investment property because they've done really well and they want to upgrade and they're trapped from a tax perspective, and they haven't even thought about it because they've been doing this wise things.

Veronica Morgan: I've been caught up myself, not realizing that I needed to get advice right at the beginning.

Scott Phillips: I'll throw in two things quickly. The first is I would say I know you guys mean this by definition but I want to say it out loud because it makes it easier. People should never, ever invest in anything for the tax reasons.

Veronica Morgan: No.

Scott Phillips: I have it online, and Chris, I know you're in the game so I apologize if I'm treading on some turf here, but I'm sure half the accountants in Australia would be out of business if people stopped asking, "How can I pay less tax?" rather than, "How can I maximize my after-tax returns?"

Veronica Morgan: What about "How can I make more money, so I pay more tax?"

Scott Phillips: That's it. You want to maximize your after-tax return, not minimize your tax. Exactly that story. I hope I get a million-dollar tax bill one day. I desperately hope I have to pay a million-dollar tax one day, because that means I made a squillion and I'm stoked. Now, if I can make the same go without paying a million-dollar tax, I'll take it, but can I pay less tax? Well, there's a lot of things I can do, but they're probably largely stupid.

Scott Phillips: Bloody car leases and that sort of stuff drives me bananas because people, someone says, "You can save money on tax by taking out a new car lease." Well, if you're going to buy a new car anyway every three years, then okay, fine, but don't be fooled into taking an action just because the tax saving is going to cost you money in the long run. Maximize your after-tax returns is the only way to approach it. That's really important.

Chris Bates: Car leases, I agree. Really, they're a product that's sold and people self-justify a car lease because I save on the tax. You're not saving on tax, you're actually losing money and you're claiming some money in tax.

Veronica Morgan: I justify my car lease because I'm a petrol head I like to be sustainable in other ways, but for me, it's just a luxury.

Scott Phillips: If you're going to have a new car every three years, use the tax effect. You're maximizing your tax returns in that sense because I'm going to do it anyway, so I might as well save tax doing it.

Veronica Morgan: Exactly.

Scott Phillips: Just don't do it the way around, which is "How can I pay less tax?" Well, actually, if you do these things you pay less tax.

Veronica Morgan: It's like negative gearing. "I can pay less tax, that's all right," but you lost money, you moron. If you bought brand-new, you lost even more money than you really lost.

Scott Phillips: Correct, just quickly a second ago, one thing I wanted to say was that for all of the borrowing stuff, if you're young enough and we're talking people under 30 here, you can absolutely have a fantastic retirement by investing regularly in shares and probably property without borrowing a cent, so I don't want people to finish this thinking, "I've got to find a way to buy some shares because that's the smart thing to do."

Scott Phillips: It can be useful. It can be smart, it can be all that stuff, but if you start early enough and you save regularly, if you put $1,000 away a year between your 18th and 30th birthday, you'll retire with $1 million. That's pretty compelling, right?

Veronica Morgan: That is. There was somewhere I read something about a dollar a day from the day you're born, by the time ... I don't know, I can't remember, by the time you're 47, you have $ 1 million or something like that. A dollar a day from the day you're born. That's the best gift that anybody can give their kin.

Scott Phillips: Right, now, the people listen to us, who are 38, 45, 72, so people in different circumstances, but I just want people to know that if you're young enough when you start, you can put enough away. Ideally, you don't have to rely on the kindness of strangers. In other words, if someone's going to call your loan, you're always at the mercy of that person who may or may not call your loan. If you can get away without it, then take it.

Veronica Morgan: Yep.

Scott Phillips: If you want to or can or need to borrow, then by all means do it, but do it responsibly.

Chris Bates: We've mentioned behavioral biases quite a few times in this episode, and back on the people who are just thinking they can become share traders and they start reading about things, what are some of the big behavioral biases? Because it'd be good for us to talk ... We've talked down the property side, but we haven't talked about on actual when you're doing share trading, what are the some of the big ones that we all fall for, that, unfortunately, we're just going to be guilty of?

Scott Phillips: A couple things. First thing is believing you're smarter than everybody else. You talk about share traders and I'm trying to show the difference between traders and investors. If you're investing with less than a list a year in your investment thesis, it's a zero-sum game. Over the long-term, we know shares rise so if you're an owner, if you have long shares, you're much likely to do better rather than worse because market grows over time.

Scott Phillips: If you're trying to trade over a short-term time period, you're betting against somebody ... Currency is even worse, by the way. CFDs, don't even talk about it, but if you're buying shares today with the hope of selling in two months' time, you're betting against someone who's doing the exact opposite. That's the trading subset of the market, and you have to believe that you're smarter or better than somebody else.

Scott Phillips: Guess what? If you're trading short-term, you're bidding against computers and algorithmic trading, high-frequency trading. You are not going to beat the computer, I don't care who you are. Unless you've got the fastest computer in the west, you're not going to beat those guys. The shorter your time frame, the less likely you are to actually make money, notwithstanding short-term capital gains tax plus the brokerage cost of actually making the trades in the first place.

Scott Phillips: Short-term training is for mugs. Some people get lucky because if you toss a coin 100 times and everyone does it, someone is eventually going to toss heads 100 times, just law of averages. Doesn't make you smart, just makes you lucky, so don't trade, don't think you know better than anybody else. Then it goes back to the same biases that you guys, again, talk about all the time. Probably, the key one is anchoring, so "I will sell when ..." and it's normally like that when it gets to a certain price, or if they're losing money, "I'll wait until I make my money back and then I'll sell."

Scott Phillips: Well, guess what? Shares aren’t going to have to come back to the price you paid. They're going to have to get to the target price you set. That's a really big one that most people struggle with. The other one is that really key share market one that ... The stuff you want to hear is you can't go broke taking a profit. You know what? Literally, is it true? Absolutely. If you sold Amazon off for a 10% gain and is now up 20, 30, 40, 200-fold, guess how much money you've left on the table by trying to lock in a profit?

Scott Phillips: That whole air quotes "lock in a profit" thing is just a real mistake for most investors, because if you're right, A) if the market does rise, and B) if you've done your work right to buy the right companies at the right price, Warren Buffett, the world's greatest investor, says the time is the friend of the wonderful business, the enemy of the mediocre.

Chris Bates: Yeah.

Scott Phillips: If you buy the right business just leave it alone. Give it time to prove you right rather than try to be too clever and take money off the table too early.

Chris Bates: Yeah, so that's really ... It is, they're both really big biases, and I think that we do feel guilty. You buy a share for $100 and it drops to $90, something's not right here. That's not going to be good.

Scott Phillips: Yeah, exactly.

Chris Bates: Now, you stick your stick to your thesis. "Oh, it's still a good company. It'll come back." Drops to 80, and then you freak out because you've gone past that comfort point and you all are looking at your loss now and you're like, "I need to get that money back. I can't lose money." Loss aversion.

Scott Phillips: Yes, exactly.

Chris Bates: Really, if it's not a good company, sometimes the best thing to do is to cut your loss and to run right, and so you made a bad call, let's get out. If you bought another share and that's gone from 100 to 120, you're right. There's momentum behind this. This company is forecasting the profits are looking better, this is probably a good company, and what a lot of people will do is they'll sell the $120 share to bank their profits, I feel good, and then the $80 share, they're keeping hold of it.

Veronica Morgan: Disposition effect.

Scott Phillips: In the colloquialism it's watering your weeds and cutting your flowers. It's exactly the wrong thing to do, it's the other way around. You're hoping those companies do well. Let them grow, let them bloom, let them do their thing, so you're exactly right. That is a disposition  effect, as you say, Veronica. That's the key thing for most investors, is trying to separate out the price you paid.

Scott Phillips: One of the best pieces of advice I've ever heard is set your ... Most our brokerage accounts are online, they have your cost there. You can normally override them, set them all to zero. Just forget about the price you pay because it matter anymore. Whether you paid a dollar or $100 or $1,000 for shares, it doesn't matter. They're only worth on the market what they're worth today, and the future value is only what they're worth at point.

Scott Phillips: What you paid or someone else paid yesterday or a year ago or 10 years ago is completely irrelevant to what you should do from here. The only question from here is, and one of the great ways to think about share investing is to imagine your entire portfolio was liquidated overnight every night. You start the next morning with cash only, what would you buy? Now, I'm not saying do it because of brokerage and capital gains and tax, but if you think about it just purely, just because you own it today doesn't mean you should own it tomorrow.

Scott Phillips: You probably own it today, you're probably going to own it tomorrow because you own it today and so it's just too hard to think about it, all that kind of stuff. Intellectually, if you can say to yourself, "If I was forced to sell everything today, would I buy the same shares, the same portion tomorrow?" and if you wouldn't, there's your answer.

Veronica Morgan: Yeah. It's a really good litmus test question.

Chris Bates: Yeah. Every week we have incredible stories of the dumb things property buyers do. Dumb things that end up costing a whole lot of money and/or creating a whole lot of stress, mistakes that can be avoided. Please, Scott, can you give us an example of a property dumbo we can all learn what not to do from these stories?

Scott Phillips: I'm not sure about property dumbo. I've got plenty of share market dumbo.

Veronica Morgan: Give us a share market dumbo then.

Scott Phillips: I'll share with you a bit of a bias, and it goes both ways. There are two dumbos in the same conversation. We recommend shares most months and, generally speaking, recommend a company. Either their shares have been up or they've been down. Let's say the shares are up, I'll get half my membership who will ... Not half the membership but a subset of the members will say, "But it's already up, why would you buy it now?"

Scott Phillips: The other half of the group will reckoning something is down and say, "But it's already falling, why would you buy it now?" The answer there is that idea of, again ... We were just talking about the price that you're paying and how much you're getting out of it as a result. The only question is where does it go next, not where has it been. The biggest dumbo in my mind, this is contrary to what a decent subset of investors will say, is please ignore the charts.

Scott Phillips: Following the charts will tell you where the shares have been, it will not tell you where the shares are going, it just can't. There is nothing in the laws of anything, other than some fancy expensive software that someone's trying to sell you that says just because a share chart looks a certain way, the future must be a certain direction. Just simply not true, and in fact, more often than not, the one way you make money is where it diverges from the past because something new or different is happening.

Chris Bates: For our listeners there, there's lots of people who sell share trading, like guidance and experts and things like that. There's a huge portion of those that are based on charts, and what they're saying is, because a stock has dropped from here to here, reading the chart, it's going to do this ... It's got a floor in the price and it's going to then go back up to this price and then you should buy and you should sell it.

Chris Bates: What you're saying is that charting investment advisors is all nonsense, would you agree?

Scott Phillips: Yes, I think nonsense is a very nice way to put it. There are some smart and even reasonable people who believe in it, and so I don't want to necessarily cast them all to charlatans. I think some genuinely believe in what they're trying to do and do it themselves and try to make money themselves. I want to separate out the people who are deliberately just trying to screw you for money versus those who honestly believe it, but if you can show me where it says anywhere that just because a particular piece of paper has some squiggly lines on that, therefore, the next move must be either up, down, or nowhere, I don't know how that can be logically true by definition.

Scott Phillips: It's like the behavior of crowds in saying that, in the short term, this might happen next. Again, if short-term trading ... Again, it's a zero-sum game. If everyone knows that already, there's no opportunity left. If no one knows that, there's plenty of opportunity, but you can't be both. You can't have the charts and be right, and be right often enough and everyone's doing the same thing. Otherwise, by definition it competes itself away.

Scott Phillips: Remember the old January effect? The January effect say that shares should go up in January, it happened 10 years out of 11 or something. Everyone got into that and then it became the Santa Claus rally because everyone bought in December to get ahead of the January effect, and then buying in November to get ahead of December to get ahead of January, and so at some point those upsides get competed away.

Chris Bates: Yeah. Well, I sold all my shares yesterday, it was the second of May today. Yeah, exactly. You sell in May and go away.

Scott Phillips: Come back on St. Ledgers Day is the UK origin of that one.

Chris Bates: Yeah, you're so right. There's so many things with share trading and behavioral biases that get in the way of the fundamentals, which is buying the good companies, holding them a long time, reinvesting your dividends. Is there some other tips from a share point of view that you say, "Look, if you are going to do it, do X, Y, Z"?

Scott Phillips: Yeah, so really simply, look at how much money you're going to save when you get paid. Put that in a separate account either when you get paid, or even better get your employer to put it in a separate account for you if you can, or do it automatically put that money into separate investment account, don't touch it for anything. That money is gone, pretend it's like super, you just can't get to it.

Chris Bates: Can we just stop there? Because that's another really ... There's so many good little strategies here. When you said that, you don't just gloss over it. Tell your employer to put it into a different account. Why would you do that? Well, because you never see it and you've actually just paid yourself less, so especially when you get pay rises, this is an amazing thing to do because you're already comfortable in your current living standard.

Chris Bates: I've already got enough money, I'm paying the bills, I'm having a good life.

Veronica Morgan: You hope they are.

Chris Bates: Well, yeah, and you don't get this lifestyle creep on this treadmill. If you do get the pay rise, I didn't get a pay rise, that's going to my investment account. That's going into my mortgage offset. That's going into my super, and that's an amazing strategy to do and the reason why is it just plays into our behavioral biases. In the account, we're more likely to spend it. Great tip!

Scott Phillips: That's pre-commitment, so the single best way to avoid behavioral biases is pre-commitment. Future Scott is going to make some silly decisions unless I stop him doing it now, and what I do now is say, "I'm going to take that money and take it out now because I believe that $100 when I get paid, I'll try not to spend it. In fact, I'm sure I won't spend it, and at the end of the week, I'll definitely put it in the investment account. I'm sure I'll remember to do that. Then I'll definitely invest it, because I'm sure I'm going to do that as well."

Scott Phillips: Life happens, it just happens, so pre-commitment is the best goal to avoid. Put it in a separate investment account, invest it regularly, as regularly as you can afford to, and if you're a share investor try and keep your brokerage to less than 2%. I did it less than 1%, if you can get away with it. Now, at Comsec, I mentioned them before, I have no relationship. Again, as I said, I'm a customer.

Scott Phillips: If you're buying less than $1,000 in shares, they'll do the trades for $10. You buy $990 bucks worth of shares you're getting for less than 1%. If you're saving $100 a week, every 10 weeks you're getting on to make a trade. You save a couple hundred bucks a week, you're doing it almost every month. Do it regularly and that's the dollar cost averaging, Chris, that you've talked about a couple of times.

Scott Phillips: That's the very best way to do it, either in ETF directly or just what if your favorite share is right now? Pick a company and try and build out that portfolio over time. Regular, create a habit, so pre-commitment on one, habits on the other, you can get those two done, that's 90% of the battle. Again, Veronica, your point earlier, we all want to beat the market. If you do nothing other than beat yourself by taking away the monkey parts of our brain, the elephant parts of our brain, and just focus on the stuff you know you can do, so pre-commit and make a habit of doing it.

Scott Phillips: Even if you lose to the market over 45 years of investing from 20 to 65, you can afford to lose to the market by a couple of percentage points and still have a squillion dollars by the time you retire if you just do that. If you do it eat really well and beat the market, you get can literally compound it multiple times that, but either way it's getting the behaviors and habits right, the rest looks after itself.

Veronica Morgan: This is the thing that's interesting for me, is that there's all this talk about short-term gain and all these this, "I made a motza doing this, so you've got to buy these shares because they're going to go up overnight," or whatever. All this short-termism and trading and speculation and everything, and that sounds so much more sexy, and same in property, it's peaking just quietly, but how boring is it in 10, 20, 30 years' time and I look at my balance and I go, "Jesus, where did that money come from?"

Veronica Morgan: I don't know, it just came from a little bit of discipline, some wise decision and commitment, some discipline.

Scott Phillips: Investing is not a hobby. Investing is not a past-time. Investing is not a game. People do it because they want the excitement of that. If you want excitement, go to the track. Give yourself $100, go to the track-

Veronica Morgan: Yeah, bet on horses.

Scott Phillips: Leave the share portfolio

Veronica Morgan: I'm not inviting that, but yeah.

Scott Phillips: Leave your portfolio alone, let that do its own thing. That's not fun money, that's not play money, that's not excitement money. That's just slow, boring, compounding money. If you need some money off to the side for entertainment, go and do that, but don't confuse the two. It's not supposed to be fun. It's not supposed to be interesting. The investment landscape is littered with the ... Some will remember the graphine craze.

Scott Phillips: Graphine, this particular mineral was supposed to be the next best thing for everything. Lithium was one after that, because everything is going to be electric cars and a lithium company's going to make a squillion. That hasn't happened either, by the way.

Chris Bates: The gold bugs?

Scott Phillips: Right. The hot stock, the hot idea, the hot trend, the hot money. Right, these are exactly the examples of people see it start to go up and you know what? Again, talk about biases, we all want to believe that it might be true because ... I think it's Charlie Munger, Warren Buffett's sidekick, who says the very worst thing for investors is when you see your neighbor get rich because that's when you start thinking, "I can do it what he's doing. I wonder what he's doing or she's doing. I'm going to go and chase that thing."

Chris Bates: Who catches the bag in that situation? Who's the one who takes the biggest fall?

Scott Phillips: It's ones that are in last. It's the ones that finally say ... This is the 2007 thing. We had some people I spoke to at the time and subsequently who were not share investors. 2001, they didn't want to invest in shares. 2003, they didn't invest in ... 2005, they didn't invest in shares. 2007, they finally went, "Oh, I'm sick of seeing so-and-so get rich. Okay, I'm ready to do it. In fact, I'm going to sell my house or my property in part by owning the shares because finally I see the market's going up," and then guess what happens? The GFC happens.

Scott Phillips: Now, fast forward 10 years and we talked about the market looking a little bit more expensive than average. If you're invested now, stay invested. If you invested in 2007, stay invested, because when your dollar cost average in 'O8, '09, '10, '11, '12, you built that portfolio and you've done very well. Those people who will finally succumb to the fear of missing out, the FOMO effect, will finally jump in almost entirely at the wrong point.

Scott Phillips: When your cabbie is giving you stock tips is the old saying. That's when you've got to be really worried because that's when everyone's giving up any conservatism and everyone's joined the party and that's 1999, that's 2007. When everyone's in, no one's thinking.

Chris Bates: I guess the hard part is that the people who have entered there are the ones who see the biggest paper loss and they're the ones who, unfortunately, are much more likely to sell when they hit the bottom.

Scott Phillips: That's right off the market. I bought in '07, I sold in '09. I knew I shouldn't have invested in shares, it's a terrible thing to do. Not only did they sell it in '09 at the worst price, they stopped investing, when if they invested in '09, '10, '11, they would have made their money back and then some.

Veronica Morgan: I was right all along.

Scott Phillips: Yes, exactly.

Chris Bates: Yeah, it's the greater fool theory and there's a lot of people who can make money out of this greater fool theory as well. It's the people who made money in property in Hobart, let's call it. They bought pre Hobart, they knew the cycle of this and they they jumped in, they jumped out. Unfortunately, a lot of people are going to lose in Hobart. As an example, the people who bought in the last two to three years, the people who made money probably bought four or five years ago and have sold.

Chris Bates: What you're going to see now is the people who bought in these cities went there for these growth returns and Hobart's just going to take a long now, probably not do much as an example. I'm not picking on Hobart, but-

Scott Phillips: Yeah, it's the most recent example.

Chris Bates: Because they're, I guess, the people who have got the property at the end and now are going to get underperforming huge opportunity cost in returns because they just chased that dream, and so it happens in every asset class.

Veronica Morgan: Every mining town is littered with the debris of people that got in too late.

Scott Phillips: Especially 20% yields, right?

Veronica Morgan: Yeah. Well listen, on that note, thank you so much for joining us, Scott. This is fascinating chat. It is great to meet like-minded individuals. I actually hadn't realized there were that many ... What's that?

Chris Bates: Non-like-minded for confirmation bias.

Veronica Morgan: In many surprising ways. I didn't necessarily ... We certainly didn't invite you because we thought, "Oh, he's going to say all the things we agree with." We invited you because, fundamentally, a lot of people get into property because they think that's the only and the safest way to invest; I actively disagree with that. I actively think that only a very small portion of property in Australia is investment grade.

Veronica Morgan: Your own home is a different thing. In terms of investment, if you can't afford to buy an investment grade property, then there are other options to make money, and that is why we wanted to get you on board so that we can have a bit more of an understanding of what else is out there.

Chris Bates: 100% for our listeners. I just had a client this week who's got a million-dollar share portfolio, but says he wants to sell that and he wants to get into property and he wants to build a property portfolio and live off the rental income and things like that. I'm like, "No, you're doing the right thing. If you want income, stay with the shares, keep the flexibility, get your dividends, reinvest your dividends if you don't need it," et cetera.

Chris Bates: It gives you so much more options than going and buying property, which is a very low yielding asset generally. You've got to pay strata, you've got to pay insurance, you've got to pay maintenance, et cetera, and it's different ages as well with shares. If you're 58 and you're looking to retire in six years' time and you want to go and invest and you've got equity, maybe property is not the right idea.

Chris Bates: Maybe the time frame is just so short that-

Veronica Morgan: Not if you live to 100.

Chris Bates: What if one's negatively geared through retirement?

Veronica Morgan: Yeah, but who says you have to borrow that much? I think a lot of equity.

Chris Bates: At this age, I'd probably buying shares to be honest, because at this point now when you get to retirement, if you buy a property and you're 58, you can't sell the bricks, but if you buy a million-dollar share portfolio-

Veronica Morgan: Yeah, you go on a big holiday, go on one of those $100,000 cruises.

Chris Bates: Well, people have different things, but you sell your shares down over a time and I guess at different ages you've got to be really careful that the right asset you're buying is going to suit where your draw-down's going to be, et cetera.

Scott Phillips: Can I ask Veronica about living to 100, most people say, "I'll invest until 65," and they all do something different. The reality is you could be investing right through that period. Again, the five-year time, that's why I said very early on the difference between capital and the income from it, and with shares, property with anything. It's a question of do you need the capital? If you don't, you can afford to have that volatility of share prices, for example, property prices if you're living off the income.

Scott Phillips: If you have a dead due date at some point where you have to have the cash out by X, that's when the capital value matters a heap more.

Veronica Morgan: Capital preservation, you mentioned that earlier as well, and I think that's really important for people to understand, is that, fundamentally, if you're investing $100,000, for argument's sake, you want that $100,000. Well, it's going to go up with inflation for starters, that's capital preservation, right? It keeps its value at whatever the value of money is at any future point and then, obviously, providing income and growth on top of that.

Veronica Morgan: Yeah, anyway. Look, this has been fabulous.

Scott Phillips: Thank you guys.

Veronica Morgan: Appreciate your time.

Scott Phillips: Thanks for inviting me.

Chris Bates: We want to make you a better elephant rider and this week's elephant rider training is.

Veronica Morgan: We talked with Scott about the disposition bias, which is really, in layman's language, knee-jerking, another word for knee-jerking. The same thing happens in the property market, in particular when you've got a lot of negative headlines such as we have at the moment. I talk to a lot of people about property every single day, day in/day out, and the amount of people that ask me, "Should I be selling now?" and I'm like, "Well, why?"

Veronica Morgan: Well, because prices are falling and and they haven't bottomed out yet. I'm like, "Yeah, but if you look a long chart for how Sydney, in particular, prices go over time, they don't fall forever. If you're living in your home, for instance, don't play games with your own home, don't be selling out now because you think that the market is further to fall and you want to buy back in at some future point."

Veronica Morgan: This idea of selling a good asset because of all the negativity out there is something that really you need to stop and think about. However, if you do hold poor quality assets, and they really aren't going to be great in the long term, then yeah, think about selling it, even though the market is falling. Because if you buy, for instance, an investor stock, and I differentiate between investor grade and investor stock.

Veronica Morgan: Investor stock is a property that's been built or marketed specifically to investors. There's not a multi-faceted buyer pool that are interested in it. It's just for investors and, really, that is not going to be changed in the foreseeable future, then you could be sitting on continued loss-making or lack of any growth for the foreseeable future. If you have that type of property, then yeah. It's time to really cut your losses, I think.

Veronica Morgan: Okay, and that's the disposition effect, really. It's really where people are more likely to hold onto a poor quality asset because "I want to wait until things turn around," and they're more likely to sell a good quality asset because it's done its job for them and actually made them money and they feel better about that. I just want all of you out there, if you are being tempted in this direction because of all the negativity out there in the marketplace, then you can also go back to one of our previous episodes where we talk about how not to get stuck with a lemon in your portfolio.

Veronica Morgan: That was a great resource for you, we'll put the link to that episode in the show notes so that you can link straight back to it. The thing is really understanding the caliber of your asset. Don't knee-jerk and sell a good asset just because the headlines are bad. Things will not be bad forever. They will turn around, and if you have a poor quality asset, yes, seriously think about selling it.


Join us next week when we interview Australia's first female professor of properties, Sarah Wilkinson, from the University of Technology in Sydney.

Veronica Morgan: Now, we have a very interesting chat around sustainability, but it goes into much more detail than just looking at new development in our built environment, but also looking at retrofitting and repurposing buildings and what we can do with existing structures to actually increase our comfort levels, the values of those properties, but also sustainability and our contribution to the environment.

Veronica Morgan: It was an enlightening chat because we were privy to hear about some groundbreaking research and I very much encourage you to join us and listen. Now, just quickly, don't forget that you can access the transcript for this episode on the ElephantInTheRoom.com.au, and don't forget to download our free Fool or Forecaster report. Which experts can you trust to get it right? Get the report and find out.

Chris Bates: Don't forget, we're on all the social channels. We're on Facebook, we're on LinkedIn, we're on Twitter.

Veronica Morgan: You can connect with us on the ElephantInTheRoom.com.au. The links are all there for you.

Chris Bates: Please connect and send us a message. We'd love to hear from you.

Veronica Morgan: The Elephant In the Room Property Podcast is recorded at the Sydney Sound Brewery. This week's podcast was recorded by John Risk. Editorial by Gordy Fletcher.

Chris Bates: Until next week, don't be a dumbo.

Veronica Morgan: Now remember, everything we talked about on this podcast is general in nature and should never be considered to be personal financial advice. If you're looking to get advice, please seek the help of a licensed financial advisor or buyer's agent who will tailor and document their advice to your personal circumstances with a statement of advice.



Veronica Morgan