Afford Anything - JL Collins: How to Beat Wall Street with a Boring Portfolio [GREATEST HITS WEEK]

Episode Date: April 16, 2024

JL Collins, the author of "The Simple Path to Wealth," achieved financial independence in 1989 with a surprisingly simple strategy: saving half his income and investing in index funds. In this episode, JL breaks down his ultra-simple investing approach. He argues that keeping things uncomplicated leads to better results in the long run. "The less you mess with your investments," he says, "the more freedom you have to focus on what truly matters." This episode is for anyone who feels overwhelmed by complex investment strategies. Learn how to set your finances on autopilot and get on with living your life. We originally recorded and aired this episode in 2016. We're sharing this as part of GREATEST HITS WEEK, a 5-day series in which we're sharing 5 episodes, across 5 days, that we produced during the earliest years of the Afford Anything podcast. You may have missed it then; enjoy it now. Learn more about your ad choices. Visit podcastchoices.com/adchoices

Welcome. Next week, we're airing episode 500. In honor of that, this week, we're airing a special five-day series in which we look back on the earliest days of the Afford Anything podcast. In case you missed it, we air five of our greatest hits from those early days. So, five episodes, five days in honor of episode 500, today is day two of five. We are replaying our interview originally recorded in 2016 with a name that's going to be very familiar to many of the people in the financial independence community, J.L. Collins. J.L. Collins has been financially independent since 1989, and he achieved this in the simplest way possible. He saved half of his income, and he invested it in index funds. Now, you might be thinking, whoa, whoa, that doesn't sound

simple. There's a distinction between easy and simple. Saving half of your money is not easy, but it is simple, meaning there is no particular complexity to it. It's difficult, but it is not complex. J.L. Collins in this interview joins us to talk about the great irony of investing, which is the fact that the simpler of an approach you use, the more powerful results you are likely to obtain. He talks about this as the simple path to wealth, and he shares universal classic principles,

which are as true today as they were back then. If you want to learn a time-honored, time-tested approach to smart, simple investing, then enjoy this upcoming episode. I'm excited to be talking to you because you have a very famous stock series on your blog. Can you tell the listeners, what does the stock series cover? Broadly, what does it talk about? Well, basically, it's how to invest to ultimately achieve financial independence. And it's written for people who really aren't interested in this whole investing thing. Basically, it's written for my daughter.

I think knowing how to manage your money and invest it is an incredibly powerful tool to navigating this modern world of ours into ultimately having the maximum freedom that we can have in this modern world. And so from when she was very little, I've tried to show my daughter some of these. principles and lessons, but it's just not something that she's interested in. And at one point, she was home from college and I started one of my many lectures and she stopped me. And she said, you know, Dad, I know this is important. I get that, but I just don't want to have to think about it all the time. And that was an epiphany for me because I suddenly sat back and realized that I'm the odd one out. You and I, Paul, are the odd ones out. You know, most people don't

want to think about this stuff all the time. Most people want to get on with curing diseases and building bridges and writing peace treaties and much more interesting things. But the smart ones know they have to have some kind of handle on their money. So the objective of my blog and my stock series and now the book is to give people the tools they need with as little time commitment from them as possible. And the good news is the great irony of investing is the simpler approach you use, the more powerful results you get. So here's a way to think about it.

Imagine that you and I are sitting down at this huge banquet table. Okay. And on this table, this table is absolutely laden with every delicacy of food and drink from around the world you could possibly imagine. and incredibly complex in their preparation and flavors and what have you. And now think of that in terms of that banquet table, those foods instead of food and drink, all of the different things you could be investing your money and all the different investment products.

And they are almost endless and almost endlessly complex because that's how Wall Street makes their money, is selling complex investments to whoever. I'm going to sit down on that table. I'm going to put my arm on it, and I'm going to sweep all of that onto the floor because we don't need it. And left when I'm done on one tiny little corner will be the only investments that we really need. Let's go into this stock series. Let's dive in. And I notice that it begins with a post that's called The Market is crashing.

I'm assuming that's because one of the most common objections you hear is, what if I put all my money in the market and it crashes? One of the principles that you need to understand if you're going to invest in stocks is that it is a long-term gain. And the stock market fluctuates. The stock market is volatile. If you look at a chart of the stock market's long-term performance, if you look at it over 100 years, you're going to notice two very important things. One is that it always goes up. It is higher today than it was 10 years ago, 20 years ago, 50 years ago. The market has an upward bias, and there are some key reasons why this is true that we can talk about. But the other thing you notice is that it is not a smooth ride.

It's an incredibly volatile ride. And most people aren't prepared for that volatility. And what exacerbates that problem is that when the market drops, the news media goes into an absolute frenzy. Right. There was, I think, last fall or maybe the fall before, sometimes I forget, a 10% correction in the market. 10% is perfectly common, even healthy,

for the stock market to periodically drop 100%. Well, one of the great headlines, and I wrote a host about this, was Bloodbath on Wall Street. And I'm like, bloodbath, I mean, this is a perfectly normal thing. tell my daughter, who is in her early 20s and is hopefully going to be investing for the next 80 years, she can expect market corrections, which are defined as about a 10% drop, routinely. These are routine things. She can expect bear markets, which is defined as about a 20% drop on a regular basis.

She can expect in the course of her nice long lifetime, two, maybe three markets. market crashes like we had in 2008, 2009. The important thing is this is a normal part of the process. This is how markets behave as they relentlessly overtime march upward. So the question then becomes, well, what do you do about it? And the thing that you do about it is nothing. Nobody can predict when these things are going to happen, even though the media is filled with people, predicting exactly that.

The truth is nobody's successfully, reliably can predict when this is going to happen. So you need to accept that it's a natural part of the process. You need to invest for the long term and not panic when everybody else panics. And how long is long term? Six months? Six years? So that's a great question. And it's a little bit of a moving target. Six months, I think we can categorically say is short term. Right. 20 years, we can categorically say, is long term. Where the question comes in and most practically is I'll get questions in the blog where people will say,

you know, I want to buy a house in the next five years and I'm saving my down payment and I want to invest in the stock market and make these great returns you're talking about. Well, the answer is that if you're going to be using your money in the next five years or less, stock market is not where you want to be. Right. I don't know where the market's going to be tomorrow. I don't even know what it's doing today. I don't know what it's going to do next week, next month.

I don't know what's going to do the rest of this year or next year. Five years out, there's a pretty good chance it's going to be higher than it is today. But not entirely. You go out 10 years. It's a very rare 10 year, a very, very rare 10-year period where the market's not higher than it was 10 years earlier. You got 20 years, I think there's one time in history, history being the last 120 years or so. I think there's one time on the hills of the Great Depression where it wasn't higher after 20 years. So the further you go out, the more reliably I could say the stock market will make you wealthy.

The shorter your time horizon, the more volatile, the more aware of the volatility you need to be. Right. Now, how does that work practically? Well, if you're young and you are working and you're investing, as you should be, and hopefully a significant amount of your income because it's not how much you make, it's how much you keep that counts. Now you're looking, as my daughter is, as an example, you're looking at decades, which is the way to think about stocks.

So absolutely that's long term. And I say to her, you should be investing in the total stock market index fund and put as much money as you can in it. You shouldn't care even a little bit what the market's doing today or tomorrow. In fact, if anything, because you're adding money to it, you should be hoping it goes down. Anybody, any young person in our listening audience who is beginning to invest or is even 10, 20 years into it and has 40, 60 years to go, should be hoping it crashes. So they're buying stuff on sale. Now, there's not a hard finish line either.

You know, I'm in my 60s. I'm now drawing down on my portfolio, but I'm not selling it all at once. So I am still having a long-term horizon. I still want the long-term growth that the market can give me. Let's talk numbers. What reasonable returns can the average person expect if they stick with index funds and hold for the long-term? I'd say, you know, if you go in at about 7, 8%, over time, understanding that it's going to be much higher some years, much lower than other years, that's probably a reasonable number to use. My actual guess would be, will be pleasantly surprised at the end of 40 years.

You certainly would have been if you've done that in the mid-70s and came today. Okay. Well, so given that 8% seems to be a reasonable return over a long-term period of time, does it make a, sense for people who carry debts with less than an 8% interest rate, such as a mortgage or a car loan, does it make sense for them to pay those debts off early or to invest in the market? Well, I actually, that's a question that I get on a fairly regular basis on the blog, and I actually have come up with sort of a little bit of a hierarchy. And I wouldn't go all the way up to 8% on your debts. But basically what I say is, if you've got,

if you and by the way, I would not go out and borrow money to do this, right? So I would not go out and borrow money with the objective of turning around and investing it in the market. But if you're carrying debt, whether it's a mortgage or student loan or whatever, and your interest rate is 3% or less, I would hang on to that debt because rather than paying it off quickly, if you invested that in the market, again, understanding that it's going to be a wild ball or ride. Right. Well, inflation over time is 3%. Right. You will probably outperform that 3%. If you're between, if your interest rate is between, you know, between 3 and 5%.

I would say it's kind of a personal preference, you know. If you're really anxious to be debt-free and that speaks to my own personal psychology, then there's nothing wrong with paying off your debt. And there's a lot right with it. And of course, that increases your cash flow going forward. On the other hand, if you are a little more aggressive, you might say, you know, I've got this debt at four and a half percent. And boy, looking at these historic averages, I will probably do better. Then that's a possibility.

I think once your debt starts getting over five, five and a half, six percent, I think at that point I'd pay it off because a guaranteed six percent return is. is no small thing in the state of age. And it's guaranteed and there's no volatility. Yeah, yeah. Can you explain that a little more? I mean, because if the historic evidence is so overwhelmingly positive about market returns, why? Yeah, and if 8% is kind of a conservative long-term projection of future returns, why would you pay off 5% or 6% interest rate debt? Well, because you get that 5% or 6%. So when you pay off debt, it's essentially whatever your interest rate is, is in essence, in a sense, a return on your investment, right? So if you have debt at 6% and you pay it off early, that's the equivalent of getting a 6% return on your money. Right. Now, the advantage of that is there's no volatility to that 6%.

So one of the reasons that stocks provide the handsome returns that they provide, you have to accept the idea that if you invest today, tomorrow might be a repeat of 2008, and you're going to have to suffer through that and hold on and keep investing to get the payoff a decade later. And that's risk. So you get paid for taking that risk. You get paid for being willing to accept that volatility.

Right. So it's looking at returns in context of risk. In context of volatility, right. So there's, and this is an interesting thing too. So I cringe a little bit when I hear people say that stocks are risky. I think the better way to lay, and that's the most common way to refer to them, I think the better terminology is stocks are more volatile than alternatives. So let me give you an example of what I mean.

Okay. Let's say you have $100,000. And you put that $100,000 in an FDI insured savings account in your local bank. And you'll get about 1% interest in the same age, something around those lines. Most people in the financial world would say you have made a safe investment. But now, what if I said to you, you know, let's look out 20 years. And in 20 years, I can guarantee you that your $100,000 in the savings account will buy a fraction of what $100,000 today will buy. Right.

The spending the power of that $100,000 will be vastly diminished. And that loss is guaranteed. Now, which one's risky? The holidays are right around the corner, and if you're hosting, you're going to need to get prepared. Maybe you need bedding, sheets, linens. Maybe you need serveware and cookware. And of course, holiday decor, all the stuff to make your home a great place to host during the holidays. You can get up to 70% off during Wayfair's Black Friday sale. Wayfair has Can't Miss Black Friday deals all month long.

I use Wayfair to get lots of storage type of items for my home, so I got tons of shelving that's in the entryway. in the bathroom, very space-saving. I have a daybed from them that's multi-purpose. You can use it as a couch, but you can sleep on it as a bed. It's got shelving. It's got drawers underneath for storage. But you can get whatever it is you want, no matter your style, no matter your budget. Wayfair has something for everyone.

Plus they have a loyalty program, 5% back on every item across Wayfair's family of brands. Free shipping, members-only sales, and more. Terms apply. Don't miss out on early Black Friday deals. Head to Wayfair.com now to shop Wayfair's Black Friday deals for up to 70% off. That's W-A-Y-F-A-I-R.com. Sale ends December 7th. Fifth Third Bank's commercial payments are fast and efficient, but they're not just fast and efficient. They're also powered by the latest in-payments technology, built to evolve with your business.

Fifth Third Bank has the big bank muscle to handle payments for businesses of any size. But they also have the FinTech hustle that got them named one of America's most. innovative companies by Fortune Magazine. That's what being a fifth-third better is all about. It's about not being just one thing, but many things for our customers. Big Bank muscle, fintech hustle. That's your commercial payments of fifth-third better. Background for the listeners.

Every index fund advocate I've ever encountered recommends diversifying. Every time you read or listen to somebody who talks about index fund investing, that's what you always hear. But, Jim, you say put it all. all in the U.S. broad market. Why? Doesn't that make me refreshing? It makes you intriguing, and you don't even recommend bonds. Why?

Well, I recommend bonds at a certain stage in your life. Uh-huh. So, and your question covers a lot of grounds. So in my world and in my stock series, if people read it, they will hear me talk about sort of two stages of your life. And these are not necessarily related to your age. These are related more to your cash flow from your labor. So if you have a salary or a business or what have you.

Trading time for money. Right. Trading time for money. So there is a wealth accumulation stage and there is a wealth preservation stage. So there is a time when you are building your wealth. And there is a time when your wealth is supporting you. Right. So when your wealth is supporting you, and that might just be that you're

taking a sabbatical in the middle of your career. When your wealth is supporting you, you're going to want to have some bonds to smooth the ride. And that's the function that bonds have. When you're working and building your wealth, your income, part of which if you're smart, you're diverting into your investments, that new money going into your investments plays that role of smoothing the ride. That's why I said earlier, if you're young and you're building your wealth, you want the market to crash. You want to be able to buy shares at lower prices. Right. So I do occasionally recommend bonds. I own bonds right now because that's the stage of life

I'm in. But for people who are building their wealth, you're right. My recommendation is 100% stocks and specifically if it's available and sometimes in your 401K, it's not, but in a perfect world. Specifically, I like Vanguard and I like BTSAX, which is a, Vanguard's total stock market index fund. Right. So why? Why not international fund exposure or small cap exposure? Well, let me address both of those things, but let's first understand what we own when we own VTSAX. People say, well, gee, Jim, you're not diversified. I say, oh, contrary, when I own VTSAX, I own a piece of every publicly traded company, virtually every publicly traded company in the biggest economy in the world, the United States of America.

That's about last time I checked 3,600 companies, 3,600 companies across all kinds of industries filled with people striving to compete in an unforgiving world where only the best survive. Those that fail will fall off the index. Those companies that fail. Right, the companies that fail will fall off the index and be replaced by new blood, the companies, and the most you could possibly lose with the company

that fails, and usually it falls off the index long before this, it would be 100% of your money, but the companies that succeed can grow by 100%, 200%, 2,000%. I mean, there's no limit to the upside. This is a process in looking at the total stock market index fund that I call self-cleansing. So those that fail drift away and those are replaced by new blood and that continually, those companies continually strive and grow. And that's why the stock market relentlessly merchers upwards over time and will continue to do so as long as we have a viable economy.

Right. So, yeah, so certainly a total market index fund provides diversification, but it is tilted towards large caps as a, a share. Right. So let's look at the two things, the two, why nots that you ask me. So why not international? Why not small cap? Well, first of all, I don't have any great, if somebody came to me and said, you know, Jim, I really want international and I really want small cap. I don't have any great objection as long as you understand what you're really getting. So let's look at small cap first. small caps typically over time outperform large cap stocks but they do so with even greater volatility and we already talked about earlier than one of the challenges to being a successful investor

in the stock market is being able to stomach the volatility if you're good with that then if you want small cap go in with your eyes open and over 20 years you will probably outperform a little bit Now, international, or before I go to international, do you have any questions on, does that make sense or any? It does make sense. So it sounds like it's a behavioral, it's a behavioral recommendation rather than a mathematical one. Well, and to a certain extent, investing does become behavioral. So I consider and say mathematically, investing in stocks is the most powerful thing you can do with your money, short of adding sweat equity into it with real estate investing and flipping houses or something. But if you're investing in stocks is the most powerful asset that we have,

but you do have to adjust your psychology to the fact that it is a wild volleyball ride. And if you can't do that, if you are going to panic and flee the exits when it drops, and I guarantee you it will drop on occasions and sometimes significantly, if you're not sure you can stomach that. If you're going to panic and flee when it happens, then you will hurt yourself. That's why part three in my stock series is most people lose money in the market. This is why. So when the market took its big crash back in 2008-09, people were saying, well, you look at Warren Buffett

and Warren Buffett didn't lose money in the great stock market crash. Well, that's not entirely true. Warren Buffett's, the value of Warren Buffett's holdings in the stock market dropped just as dramatically as everybody else's did. I think at one point I looked at it and he was down $33 billion. And I was irritating my friends by walking around and saying, gee, I wish I could be down $33 billion. Because, of course, he was still worth about $25 or $30 billion at that point. the thing that Warren Buffett did that investors who actually lost money didn't do is he didn't sell, he didn't panic. In fact, he doubled up and invested more.

So that's the key thing. That's the psychological part. The math is sort of easy. But the volatility is a lot tougher to deal with than people think until they actually go through it. Well, then tell me about international stocks. Would you, for the listeners who are wondering if they should put a slice of their portfolio into Europe or into emerging nations, what are your thoughts there? Well, you're right. My thinking on this runs counter to the vast majority of people who talk about this stuff, and I don't know, maybe even everybody.

I think there are very few people who, like I do, say, you don't really need international. As I said with terms of small cap, if somebody came to me and said, you know, I really want international, I wouldn't fight them a lot. But here's why I don't think you need it. And here's why I don't hold it. Basically, I don't feel the need for international for three reasons. There's added risk with them. There's added expense. And we've already got international covered.

Okay. So let's walk through those three together. So what do I mean when I say that we have added risks? Well, when you invest internationally, you take on currency risk because international companies trade in the currency of their home country and currency is fluctuate against one another. So the U.S. dollar might rise or fall in relation to the currency of whatever international investment that you're making. So there's an added dimension of currency risk.

There's also an added dimension of accounting risks. So we have certainly in our country had companies like Enron blow up through bad accounting procedures and not being transparent enough. But as we sit here today, for all of its shortcomings, the U.S. market is the most transparent in the world, which means that when you look at the numbers of the companies report in the U.S., they are the most transparent. and the most reliable of any place in the world. The second thing is you have at an expense. When you go to international funds, even Vanguard international funds, you're going to pay a much higher expense ratio.

So those are the risks. But here's the really important thing to me is we've already got international covered. What do I mean by that? Well, as we already talked about, when you go into VTSAX, which is the total stock market index, it is weighted towards the largest companies in the country, in the U.S. So the top 500 companies are about 80% if I remember of that index. Those companies are almost all international businesses.

Many of the largest generate 50% or more of their sales or profits overseas. So we're talking about companies like Google, Facebook, Nike, Coca-Cola, Proctor and gamble, companies that do a lot of overseas business. General Motors, Caterpillar, ExxonMobil. I'm not sure if ExxonMobil is a U.S. company. So you're right. I mean, most of, most every large U.S. company is by definition in international business. So I could go and invest in the local Cola company in Africa, for instance, and I would take on those added accounting risks, the added currency risks, the added expenses of buying an African fund that would invest in such a thing, or the transaction causes of doing it, or I can invest in Coca-Cola, which is going to be in

that market, and I can let Coca-Cola worry about the accounting risk, and I can let Coca-Cola worry about the currency risk, and they are better prepared than individual investors or even mutual funds to deal with those risks. So we're going to wrap up. Jim, is there anything that you'd like to impart the listeners with any key lessons regarding either investing or creating financial independence? Well, in terms of creating financial independence, there's really three elements, and that is spend less than you earn, invest the surplus, and avoid debt. And if you do just those three things, you'll wind up rich, and you'll wind up rich not just in money. And if financial independence is your goal, the greater a percentage of your income you save and a greater percentage of your income that you invest, the faster you'll get there. Some people see this as deprivation.

I suggest that instead of deprivation, when you're saving and investing money, you think of it as just a different way to spend. But instead of spending it on a new car or a fancier house or a new wardrobe, you're choosing to spend. you're choosing to spend it on your freedom. I hope you enjoyed episode number two out of five in this special five-part series in which we are sharing some of our favorite episodes that originally aired during the earliest days of the Afford Anything podcast back in 2016 or 2017. Back then, we had a much smaller audience, so you may not have heard these episodes when they aired.

And so I want to make sure that you get a chance to hear them now. and that's why we're running the special five-part series in celebration of our upcoming episode 500. Thank you for tuning in. My name is Paula Pantt. This is the Afford Anything podcast, and I will see you tomorrow for the third installment of this special five-part series.