BiggerPockets Money Podcast - Is Small Cap Value Worth It? Ben Felix Explains the Truth About AVUV & Factor Investing

Episode Date: May 5, 2026

On this episode of the BiggerPockets Money Podcast, hosts Mindy Jensen and Scott Trench sit down with Ben Felix to break down one of the most debated topics in long-term investing: small cap value investing. Ben explains the research behind factor investing, the Fama-French multi-factor model, and why investors continue to look at small cap value ETFs like AVUV and Dimensional funds as potential upgrades to traditional index fund portfolios.  If you've ever wondered whether AVUV, Dimensional ETFs, or small cap value funds can outperform broad market index funds like VTI over the long run, this episode gives you a deep evidence-based framework for deciding. Connect with Ben Felix! Website: https://www.pwlcapital.com/?ki-cf-botcl=1 YouTube: https://www.youtube.com/@BenFelixCSI Podcast: https://rationalreminder.ca/podcast Resources from today's episode: https://zbib.org/669127c48e994c818f42b4354a84ed21 To go beyond the podcast: Kick start your financial independence journey with our FREE financial resources - https://biggerpocketsmoney.com/ Subscribe on YouTube for even more content- www.youtube.com/biggerpocketsmoney  Connect with us on social media to join the other BiggerPockets Money listeners - https://www.facebook.com/groups/BPMoney We believe financial independence is attainable for anyone no matter when or where you’re starting. Let’s get your financial house in order! Learn more about your ad choices. Visit megaphone.fm/adchoices

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nothing else is Rises. In the past year, we've been talking a lot about portfolio theory on the podcast, which means you've heard guests like Frank Vasquez share this advice, add small cap value to your portfolio. But what does it actually mean? What is small cap value investing? And does it really outperform the market over the long term? And more importantly, is AVUV actually the best way to invest in it? If you've ever felt confused about small cap value funds, factor investing, or whether this strategy belongs in your portfolio, this episode will break it all down.

Hello, hello, hello, and welcome to the Bigger Pockets Money podcast. My name is Mindy Jensen, and with me as always is my Where's All the Caps, co-hosts, Scott Trench. Thanks, Mindy. I'll factor that intro in and think about bringing a cap next time. All right, today we're joined by Ben Felix. Ben is a portfolio manager and the chief investment officer at PWL Capital. He's going to help explain what small cap value investing actually is, why it matters for building towards financial independence and whether funds like AVUV live up to the hype. As a reminder, this episode, as always, is not investment advice and is for entertainment purposes only.

Ben, welcome to Bigger Pockets Money. Thank you so much for having me. Man, you guys bring energy. Holy smokes. My podcast is like Nat time compared to this. I think you're going to bring a lot of information in energy, Ben. I'm not worried. I think you are just a master at these subjects.

I follow your YouTube channel. It's fantastic. And I think folks listening to the Bigger Pockets Money podcast should definitely go ahead and subscribe there because you provide really great information. What is it? Like once a week or so? Podcasts is once a week. My YouTube channel is once every two weeks. So go check that out. And yeah, could you tell us a little bit about yourself and your background?

Sure, yeah. So I am, as you said, the chief investment officer at PWL Capital, which is a Canadian wealth management firm. I've been with PWL for, geez, I think 13, 13 years or I can't remember. It's summer between 12 and 14. I don't know. It's been a while. We use roughly, broadly speaking, the type of investment strategies that we're going to talk about in this episode. And we've been doing that for many, many years. It's kind of one of the founding principles of our, of our firm and one of our big beliefs. I, as you said, I have a YouTube channel where I talk about, I don't know, investing topics, but I just recorded a video earlier today about the elements of living a good life. So I try to, I try to cover broad topics, but with a very evidence-based lens.

And then I've also got a podcast that I do, as I said, once a week where we interview, we alternate between interviewing literally the smartest people in the world when it comes to financial topics, including a lot of the people who came up with the theory that is behind the products that we're going to talk about in this episode and then doing episodes where we do deep dives on topics. Let's frame the discussion here and talk about factor investing in a general sense. We're here to talk about specifically some of the value investing funds provided by Avantis and what their edge is, in your opinion. But could you give us a quick overview about why we're interested in factor investing in the first place?

Oh, man, that's a big topic. So it's basically like index funds, your audience, I'm assuming is familiar with index funds. Of course. It's like just all the stocks in the market at the weights in which they exist in the market. That's a total market index fund. Those make sense in theory because markets are efficient. And if markets are efficient, it should be really hard to beat the market, which in reality it has in fact been. Now, the general premise of index funds is based on what's called a single factor asset pricing model.

I mean, this is going to get nerdy fast. I hope that's okay. So the capital asset pricing model is the original asset pricing model that attributed returns, differences in returns between diversified portfolios to exposure to market risk, which is what you get just from owning the market. And so that was a big deal. When we had the CAPM in the 1960s, it really changed how we thought about financial markets. It changed how we thought about evaluating active managers,

because prior to the CAPM, we had really no way to measure, did an active manager do a good a job relative to the amount of risk that they took. And so we get this new tool and all of a sudden, things start making more sense. And academia really took off from there. And this is a literature called asset pricing. But there was a problem or a few problems with the CAPM where certain types of stocks were performing differently than the capital asset pricing model predicted. So it looked like the measure is called alpha. It looked like some types of stocks had higher returns than could be explained by their exposure to market risk. And so everyone's kind of freaking out, not actually, but they're writing papers trying to figure out like what's what's going on here. Is the market

inefficient or is our asset pricing model wrong? And so two academics, Eugene and Fama and Ken French, who people make fun of me for mentioning in almost every video, which is probably true, they came up with this idea that, well, maybe we have these, what we're called anomalies. We have these types of stocks that just aren't making sense with the asset pricing model that we have. Maybe it's not a problem with market efficiency, maybe it's a problem with the asset pricing model. And so they came up this idea, what if we included factors, they're called asset pricing factors, related to small companies and lower priced companies, which we know commonly as value stocks. And they said, okay, if we make this three factor asset pricing model, maybe we can explain a lot

of these anomalies that we're seeing. So they did that. They tested it. It did indeed explain a lot of the anomalies. And that paper in 1993 really created this, what has now become a massive field. of study called multi-factor asset pricing. It's basically trying to find systematic attributes that explain differences in returns across stocks, which is interesting in an academic sense, because again, we can benchmark active managers. Did they outperform or did they just take a small

cap value tilt? But it's also interesting because if we know that there are factors that exist and we believe that they're premiums, I should explain what that means, we expect a market premium for owning stocks over bonds because stocks are riskier than bonds. We expect a small cap premium based on Fama and French's paper, although that one's a bit dicey on its own. I can talk about that later. We expect a small cap premium where small stocks outperform large stocks because small stocks are theoretically a bit riskier. And then likewise for value stocks, lower priced stocks, we expect to outperform higher priced stocks. So like value we expect to outperform growth, it's called the value premium. Again, because value stocks are riskier. So we have all of these return premiums where

an investor can say, you know, the market premium is great. And you can get that using low-cost index funds. But maybe I want to tilt toward other return premiums, other sources of expected return like small cap and value. Yeah, you have thrown a lot of phrases at us that maybe our audience isn't quite as familiar with as you are, which doesn't make it bad. I just want to clarify some of these. So what is small cap? What does small cap? What does small cap? mean. Yes, that is a fantastic question. So let's start with market cap. What is market cap mean? Market capitalization is the full word. That's a measure of the value of a company and it's calculated by multiplying its total shares by its price. So it's really just how what is this company worth? So in invidia,

which is right now the biggest company in the U.S. market, it's got a market cap, which it's crazy to even say of 5.1 trillion US dollars. It's like, what? Come on. And then Getty Images, which is the smallest holding in the Vanguard small cap value ETF, has a market cap of 359 million US dollars. So those are the sizes of the companies measured by their value, which is measured by their shares multiplied by their share price. Now, small cap is actually really interesting. What is a small company? It depends who you ask. So I'll talk a little bit more in general term. but each index provider. So we have these companies that they create indices.

S&P has their indices. Crisp has indices. MSCI has indices. Each one has its own way of defining what a small cap is. So I can't say this is a small cap, like this size company, because it depends which index provider that we're talking about. But the general idea is that they're sorting all the stocks in the market into size-based buckets.

So the main buckets, and there are a couple other buckets, but the main buckets are large caps, which is just the largest stocks, midcaps, which are in the middle, and small caps, which are the smallest stocks in the market. So when we say small caps, the specific definition varies, the precise number varies, but it's roughly speaking the smallest stocks in the market. And if we think about average market caps, so if we look at like the Vanguard large cap ETF, so that's an ETF of the largest stocks in the US market, the average market cap is $350 billion. And if we look at the Vanguard's small cap ETF, the average market cap is $10 billion. You can see just kind of how the average market cap varies between large and small caps.

You're saying billion with a B like that's small or tiny, and that's still a lot. But why would I want to invest in a small company that's only worth billions when I could be investing in these larger companies that are measured in billions and now trillions with Nvidia? So small companies on its own, when we haven't introduced value yet, which we can talk more about, But small companies on their own is actually a little bit tricky. I'm going to get nerdy again. I'm sorry. There was a paper in, I think it was in 1981 where a guy named Rolf Bonds comes out with this paper and shows, hey, small cap stocks have outperformed and they've outperformed by more than

the capital asset pricing model would predict. So they've beaten the market basically even when you adjust for risk. And that was interesting. That study, when you use current data, data sets have gotten better. There's a lot of survivorship bias in small cap data sets. So when you rerun that study today, the outperformance of small cap stocks is actually not as interesting on its own. But when you combine size with other factors like value, which we can talk more about, it

does start to get more interesting. But to answer your question, Mindy, the main premise of this approach to investing is that these types of stocks, small cap maybe, but small cap value probably more likely, have higher expected returns than larger stocks. Okay, first of all, the nerd energy is strong here. So don't apologize. Okay, okay, good. Just get as nerdy as you want to.

So you said small cap and small cap value are different. What does value mean? What does that factor mean when we're talking about small cap value? The factors specifically, like in the Fama and French paper, they are measuring value using book to market, book price relative to market price or a high book price relative to the market price is a value stock. If you look across index providers, values another, like practically speaking, values another metric that has a whole bunch of different

definitions. So again, MSCI and S&P and Crisp, they're all going to be different. But the general idea is that we're measuring the price of a company relative to some fundamental metric. So it could be its book value. It could be its earnings. It could be a host of other fundamental metrics. And it's often actually a blend of a bunch of different metrics. But we're looking for a value stock is going to be the lowest relative price. So the lowest market price relative to fundamentals. And we're going to again, sort stocks.

And so the cheapest ones are going to be value, the most expensive ones are going to be growth. And if we combine them together, small cap value is taking the smallest stocks in the market, sorting them by relative price, and the smallest, lowest priced stocks are small cap value stocks. This is, I think, where I get tripped up

because when you talk about small cap value, you know, there's so many different ways to spin that. You say, okay, first fundamental thing is price to earnings ratio. Like that's a good starting point for value, right? A low price to earnings ratio. But then if that company has a lot of debt, you can have a low price to earnings ratio, but pretty bad, you know, I would say valuation on an enterprise level when you combine equity and debt. There's all these factors like net cash, right, or networking capital adjustments that you can make for these businesses.

There's CAPEX, you know, and how you're thinking about factoring in a large investment that the company's made. which may not be compressing their earnings, but may, in fact, not pan out. What is the right way to do that? Or what is the best supported methodology for determining value, in your opinion, that the research supports? I'll tell you what, the companies that are implementing products like this, that are combining multiple metrics to decide how much they're going to wait to different companies. And the way that they're doing that right now is combining multiple factors that account for a lot of the stuff that you just brought up.

So the two big companies, companies, one of them is called Dimensional Fund Advisors. And you mentioned Avantis. Avantis sort of stemmed from there. They're an offshoot of Dimensional. They, some folks left Dimensional in 2019 to start Avantus. But dimensional is kind of the OG in the space. They, they created the first small cap fund in 1980. And then they have stayed very close to academia where all this stuff has come from. And they've implemented all of the stuff that's come out over time. What they do is they do measure value using price to book, but they also care about profitability and then they also care about investment, which is another factor that you mentioned.

So they're not just looking at book to market and saying which are the cheapest companies, because that can be misleading if we care about expected returns. They're looking for the lowest price companies with the most robust profitability, with the most conservative investment or growth in the book value of their assets. Perfect. So but the challenge is now that we, now that we've defined the terms, we're even more confused because you said lowest price, lowest price relative to profitability, but how do we define profitability? So these are all kind of like circular factors here. What is the cleanest way to articulate that?

Are we using, you know, how are we defining earnings in this context? Well, yeah, they're using gross profitability as the measure for profitability. So you move up the income statement and deal with a lot of the stuff that can be messy as you go down further. That's it. Okay. Fair enough. And so walk us through what good and bad looks like in the world of small cap value factor

investing because there's a number of firms here and people have strong opinions in the space. And I can't, I can't tell you why one is better or worse than the other. And I don't think a lot of people can. I think we're one of the, we're excited to talk to you because you're, I think you're one of the few people who really can articulate this difference eloquently and succinctly. Yeah. It's a, it's a difficult question because, as we've been talking about, the metrics do differ across companies.

But if we look at like, like Vanguard does have a U.S. small cap value index fund and it's using a crisp, which we talked about earlier, small cap value index, and it is an index fund. So it's just tracking an index. Now, this is neither good nor bad. But what I would say about that specific fund is that it's not as small or as cheap as something that dimensional or Avantus would put out. So that can be a little bit tricky where we can have a whole bunch of funds with the name, you know, US small cap value.

But they're not all going to be the same average market cap. They're not all going to be the same average price to book. and they're not all going to be considering multiple asset pricing factors. So how do you know which one is the one to invest in? It depends what exposure you want. I mean, our firm uses Dimensional. Avant has just launched ETFs in Canada. They didn't have business here previously, so we'll be looking at that.

But we've been using Dimensional since they came to Canada in 2003. And it's because they're taking everything that we know about the asset pricing literature in academia. and they're implementing that in portfolios. So we've talked about the main asset pricing factors, but there are all kinds of other little details and nuances that they do to make things as efficient as possible. So we like that. Now, does that make it right?

I mean, if somebody said that they want to invest in the S&P small cap 600 value ETF because they like that index, I mean, that's fine. We like dimensional because they're taking the best of academic research and putting it into a product and keeping it constantly up to date. But like that doesn't guarantee that it's going outperform. It doesn't make it an objectively better product. I think a lot of stuff in this world of picking an ETF is going to come down to preferences and really perceptions. Okay, when I sell my business,

I want the best tax and investment advice. I want to help my kids and I want to give back to the community. Ooh, then it's the vacation of a lifetime. I wonder if my out of office has a forever setting. An IG private wealth advisor creates the clarity you need with place. plans that harmonize your business, your family, and your dreams. Get financial advice that puts you at the center. Find your advisor at IDPrivatewealth.com. How do I get a little bit less fuzzy about the boundaries of what these earnings ratios or price-to-book value ratios or size components of these companies are? When does a company leave a funds like Dimensionals or Aventus's small-cap value funds? And when does it enter?

That's a very practical question as not one of the managers of the fund. I don't know if I have a really, a really good answer. It is going to be different too, where dimensional is more focused on small caps specifically, whereas Avantus will let their small cap fund drift more into midcaps. They may actually even allow midcaps in their universe. So it is going to be different, but they will have break points and they will exit securities when they get to a certain point. But what exactly those are? I mean, that's a dimensional level question, not a Ben Felix question. Fair enough. Well, how about for a Ben Felix level question, what does generally speaking good to look like? What does the research suggest ought to be some of these boundaries to stay in this world and actually get the benefits of small cap factor investing? That's a tough question. It's really like how much small cap value exposure or how small should you go? There's no right answer to that question. It's kind of like analogous to how much should you have in stocks versus bonds. It's different, but it's kind of like that. And there's no objectively right answer. to that. It's like how much additional risk are you willing to take? How much tracking error relative to the market are you willing to take? We've had them on a couple of times, but we had a while ago

the CIO of Avantus, Eduardo Repetto, on our podcast. And we asked him, who should be a 100% small cap value investor? And he kind of laughed and said that you have to be a very special person to be 100% small cap value. But again, you know, is vanguard's using the crisp small cap value index, is that the right definition of small cap value or is dimensional's smaller and cheaper or Vantis's smaller and cheaper approach better? They're just different. They're different exposures. If you want to capture the small cap value premium, generally speaking, you do want to be in a smaller, cheaper, more profitable fund. One of the reasons why we've gotten very interested in this over the last couple of years is because Cape, even if you make sensible adjustments like Big Earn, Carson Jeske,

does to his cape modifications, you know, for things like retained earnings, share buybacks, those types of things. With the CAPE ratio being very high, cyclically adjusted price to earnings ratio over the last 10 years for those who are struggling to follow here, that is giving me pause about being completely concentrated in my equity position in the S&P 500, for example. Are you seeing that interest emerge among a lot of investors who follow your channel and your work? And is that something that you worry about at all? Yeah, but I've been worried about it for like 10 years. And the market just keeps going up.

You know, at a certain point, you have to kind of just admit to feed. I don't know. What I have said for a long time is that the CAPE ratio is not a reason to change your portfolio. But it does make me feel pretty good about the fact that we are tilted away from the largest and highest priced companies. So it's a tough signal, right? It's a very noisy signal. We've looked at Cape predictability in the U.S. and other markets. And there are a lot of cases where you can have really high future returns from a ridiculously high starting CAPE

They do eventually come down, usually, but it's just so hard to predict. And we've seen that. Like I've been saying for years now, the U.S. market, the cape ratio is so high, the expected return is so low, which is kind of the inverse of the cape. And it just hasn't happened. The market return has continued to be ridiculously high. I mean, is that a good reason to be in small cap value or to move away from market capitalization waiting?

I do think so. But I would have trouble saying that it's like a timing signal. Being tilted away from the largest and highest price companies is good, period, at any time. I don't know if I would say it's particularly good now. However, there are a couple of cases going back through history where the U.S. market has had a crazy one where the leading up to the dot-com bust, the cap ratio was nuts. Japan has had one where their cap ratio got even higher up to 1989. In both cases, you had a lost decade in the case of the U.S., where the U.S. market delivered basically a 0% return for a little over 10 years, longer if you're a few percent. measure in Canadian dollars. And Japan, I mean, they had a crash in 19, end of the 1989,

1990. And in real terms, you still haven't recovered from that crash. In both of those cases, in the U.S. lost decade and the Japan lost whatever that is, small cap value in both countries did perform well, well, the market was flat, basically for a very, very long time. So again, not a timing signal. You shouldn't shift into this strategy now. But in the past, when Cape's been high and returns have been low in the future, small cap value has performed well. So in the last six months, small cap value has been on a tear. It's up 30%ish from Q4. It's up 42% from this time last year versus the SMP being up about 28% from this time last year. Does that change anything, how you feel about factor tilting towards small cap value given its recent exceptional performance? You've finally been right. You've been right. You said you've been wrong for 10 years on the S&P 500, right? But like now the small cap values have been on this tear. It's like that's a huge, huge outcome. Yeah. It's been even crazier in Canada. I don't have the number in front of me, but the performance of Canadian small cap value has been just obscene. And I mean, yeah, that's, that's been nice. It doesn't change my perception. Like, I mean, it's nice to know that small cap value can still outperform because for a while there looked like it couldn't. So it's, you know, good, good validation. Glad to see a bit of a comeback. It's still struggled over the last, you know, 10 or 10 or so years, although Canada's starting to pull ahead. But yeah, I don't think that recent returns should ever change. change your perception of an investment strategy. One of actually follow up on that, though,

is the Schiller-Kate-Rat ratio is, by definition, a recent returns. The current price to cyclicate just earnings is a pricing mechanism. So when it's high, that's when there's evidence that it may underperform over the next 10 years. And of course, that does not have to be true and there's no timing mechanism behind it. Does that at all inform the investment strategy that you guys have over at your firm in terms of how you think about asset allocation across factors? Like, does pricing ever come into play? No, we don't. We've looked at this and the predictability, the level of predictability that you get from

Cape is just not strong enough to make asset allocation decisions. The way that we do use it is when we set our expected returns for financial planning, we do incorporate the Cape ratio there. And so we might tell clients, you know, you need to save a little bit more if the Cape is high or you can spend a little bit more if the Cape is low. But we don't say you should, you know, get out of U.S. stocks and into Canadian stocks based on the relative Cape ratios. Ben, last year, Frank Vasquez helped me walk through setting up a golden ratio portfolio, and the small cap value that he put me in was AVUV.

He had nothing but great things to say about this. Why does AVUV specifically come up when talking about small cap value? I don't know if I know who Frank is. So I don't know why he would have picked AVUV, but I'll tell you my sort of thought on why it is relatively popular. So I mentioned dimensional fund advisors. They've been around since 1981. And they really pioneered this approach to investing. They built small cap funds.

And then research on value came out with the Fama and French paper. And then they built value funds. And then they combined them. And then they've since added other asset pricing factors to their portfolio construction. And they do a bunch of other stuff. Like little details, I don't know, like the way that they trade stocks, they account for things like momentum in the recent share price because there's evidence behind that as a phenomenon. but although it's hard to exploit as a standalone factor.

Anyway, so they've been doing this forever. Avantas started in 2019, where a group of people from Dimensional left, and they did something really smart strategically into launching ETFs. Because Dimensional, while they'd been around forever, they did not have ETFs. Their funds were at the time. Now they have ETFs, but they were at the time only available through financial advisors. And so there are a lot of people out there who were, you know, Boglehead type investors and index type investors who were interested in factor

investing, but they couldn't use dimensional funds without going to an advisor, which a lot of diehard DIY folks would just never do. And so Aventus, I think, really won over the hearts of a lot of retail and DIY investors by being the first to market to launch this type of ETF. So Dimensional had like decades of runway and they built a great business. It's still a great business. They have great products, but they were not accessible to retail investors. And so as as soon as Avantis came and said, here are ETFs, I think there was a lot of pent up demand for that type of investment and that really created a lot of momentum for them specifically within the retail and DIY community. I would guess that's why. Got it. Is there at this point a

meaningful difference between the value funds offered by dimensional Avantus or are they pretty close? Dimensional Avantus would hate me saying this, but they're pretty similar. Like they do have differences in how they measure stuff. Avantis uses a different measure of profitability than dimensional. There's a whole debate about, I can't remember the two, the two account terms, but two different types of profitability that you can use as a metric, which one's better. There's debates over accruals and how that fits in to measuring expected returns, a bunch of other little details like that, how much momentum should affect implementation. So they do differ on things like that. They differ on how they treat IPOs. But like realistically, they're both tilting

toward smaller, lower priced, higher profitability companies. They're excluding small stocks. They grow their assets aggressively. They both got low fees, low turnover. They're both well, well-managed companies and products. So a lot of it comes down to preference. Like even within their small-cap value funds, dimensional is much more small, small, whereas Avantus has more mid-caps. So if you care about that,

you might go to dimensional or Aventus, depending on what you want. Yeah, I would have trouble saying one is just better than the other. I think they're just different. Got it. Tell us about, in a general sense, like we have small-cap value.

What does the research say about large-cap value? Or international, small or large-cap, or international emerging market value. Where do these other factors come into play? These are all, in many cases, funds offered by Avantus and Dimensional. These massive pricing factors work everywhere. The idea that smaller, lower-priced, more profitable companies that invest conservatively, particularly among small caps, have higher expected returns, is as true in emerging markets

and developed ex-US markets as it is in the U.S. The dimensional products that we use have those tilts toward the factors that we've been talking about across all regions and across all market caps. When would you want to, for example, go from small cap to large cap value, though? What's the use case or theory behind that? I would have trouble saying, you know, let's switch from large cap to small cap. I think that the big limiting factor in a lot of these strategies for actual human investors is tracking error.

How much different you're going to be from the market in terms of your returns over time. If you go 100% small cap value and you can see this with AVUV, if you just look at his returns since inception, you're going to get a ton of tracking air relative to the market. Sometimes you're going to be down. Sometimes you're going to be up. In the long run, yeah, we expect it to be up. But I mean, up until recently, small cap value in the U.S. has gotten just obliterated. That sucks to live through.

Like, it's not fun. And you're questioning the whole time. Is this strategy broken? Am I doing the wrong thing? And you're underperforming. The more you get closer to the market. So if we add back in mid caps and large caps, maybe with a value tilt, you get closer to the market.

And you're tracking your decreases. We like to use products that start with the total market. We own all the stocks just like an index fund would. And then across. all market caps, we're going to tilt toward the asset pricing factors that we've been talking about. So you get a total market portfolio with those tilts across all regions, across all market caps. You still get tracking error, but not as extreme as you would have if you were just in a small cat value portfolio. One of the most popular strategies, I think, in the fire community,

which we talk to, which I'd love to talk, get your thoughts on in a follow-up episode. I know you have great thoughts, very reasonable takes on the financial independence community. But I think a lot of people basically stick it in VTI or VLO, a total market broad-based fund and call it a day during the accumulation phase. And I think that's great. I think that as folks actually approach their fire number, some folks just stay in there and boggle-headed forever and get very, very wealthy so that withdrawal rates, math doesn't really matter because they're so far beyond that number. But I think a lot of other people begin to think about what's a different portfolio that makes sense here. And the 64E stock bond portfolio is very unpopular in practice for the fire

community because bonds offer such low yield and are so likely to destroy wealth over very long investing time horizons like 50 plus years so i think that's where a lot of interest in factor investing has begun to take place can i reduce my risk somewhat take a lower withdrawal rate but actually invest for growth over that time period do you think that's the right way to begin approaching the problem and if so do you have any guiding you know ideas for for folks as they construct a portfolio using that philosophy. I mean, guiding principles are tough because it's going to be, again, back to that sort of analogy to how much stocks and how much bonds.

How much risk do you want to take? How much tracking error can you handle? I think in principle, what do we expect from tilting toward other factors, factors other than the market risk premium? We expect, you can't really call it diversification because we're not adding new assets. It's like you start with the market, you tilt toward the asset pricing factors. You're getting what I would call a more reliable expected outcome because you're relying on more risk premiums. I mentioned the U.S. lost decade and the Japan example where the equity risk premium,

so the VTI or the VO, it can be zero for a long period of time. And there have been, if you go back through U.S. history and other countries histories, there have been extended periods of time where the stock market as a whole delivered a zero return or even a negative return if you adjust for inflation or risk-free assets. I mean, a lot of people who are in the fire community today, a lot of people who have been in VOO and VTI today have not lived through those types of periods. I'll even go farther than you on what you're saying here. And I'll say a lot of people in the fire community who have left their job and relied on their portfolio made a bad decision by keeping their money all in equities during that transition period and had a good outcome where the market went up. That's how I'll phrase it, frankly, there. And I think that that's going to catch up one day with a lot of people. And that's where this discussion begins, gets increasingly important. And I think people are wising up to that. And that's why there's a greater interest in general in factor investing, which I think it is. a reasonable middle ground solution to a truly defensive portfolio, which is inappropriate for a 40-year-old with a very long time to live. I think there's real trade-offs there that require

thoughtfulness. Do you want me to give you a really, really nerdy take on this? Please, yes. Okay, okay, okay. The CAPM, the capital asset pricing model, single-factor pricing model, that exists. Theory came out after that on the idea of something called an intertemporal capital asset pricing model, iCAPM. So in the iCAPM, you don't just care about volatility, which is what you care, and this is a bit of a simplification, but you don't just care about volatility, which is what you care about with CAPM. You care about when the volatility shows up, okay? And the ICAPM is one of the theoretical explanations for why the factor premiums exist, because the risks of those types of stocks show up at times where most investors don't want them to show up. So a simple example.

One important point is we don't actually know what the risks are that people care about. I asked Eugene Fama about this. He's like, he basically came up with these ideas when he goes on my podcast, I was like, what are the things people care about? Like, how do we know that? And he kind of laughed. He's like, what do you mean? Like, can we get inside everybody's head and figure it out? Like, no, we just, we can't know. We just have to, it's the theory. The theory is that there is some risk that people care about, although it's hard to identify what it is exactly. But if we use an example of recession risk, so say value stocks, just as an example, are exposed to recession risk, which means that when there's a recession and your labor income, your job is at risk,

you're at more at risk of losing your income. If a value stock could do badly at the same time, there's a good reason that people would be willing to pay less for those types of stocks. So that is one reason that there may be a value premium. Now, if you are financially independent, if you don't have labor income risk, the optimal portfolio for you is actually the fact of tilted portfolio. The optimal portfolio for the average investor is just the market cap weighted portfolio.

But if you're not exposed to the same risks as the average investor, if you don't have labor income risk, which a lot of people do have, your optimal portfolio is to tilt toward whatever the risk factor is that we're talking about. So in an I-CAPM world, there is actually a very interesting implication for people who are financially independent, people who don't have to worry about their labor income risk. They're also called pure wealth investors, where their only risk is their portfolio. And in the theory, they are the people that should be tilting toward the factors. Is that nerdy?

I don't know. That was very nerdy. And then just for the people in the back here who have followed the small cap value discussion, And by that argument, what are the other factors that you're referring to in this? Eugene and Fahman, Ken French, in 1993, they come out with a three-factor asset pricing model. So they say assets are priced based on market risk, relative price, which is value in size, which is, well, size. So time goes on, there are more anomalies that get identified.

And papers are coming out and saying, oh, the three-factor model doesn't price this and it doesn't price this. And so in 2015, Eugene Fahman and Ken French came out with a new paper with a five-factor asset pricing model. And broadly speaking, and again, there are little differences, but broadly speaking, dimensional and avantis are using this five-factor asset pricing model, which is, again, market, relative price, size, profitability, which we talked about, and there are different ways to measure that, and investment or asset growth, growth in the book value of assets.

And in their 2015 paper, Fama and French do something that sort of ties it back to theory, but when I asked Gene Fama, is, is there five-factor model, a theoretical model or an empirical model. He's very clear that it's an empirical model. Like, there's no really strong foundational theory that says these are the factors that should be in the model. But they do use the dividend discount model and go through this sort of step by step. If you do a couple transformations from the dividend discount model that account for things like dividend irrelevance and then scale the equation by book value, you do get an equation that shows that relative price, profitability, and growth in the book value of assets should be related to the discount rate of the stock. It's like a light

theoretical explanation for why those specific factors ended up in their model. In a practical sense. So we follow this through to conclusion. We build a portfolio, you know, in some of these funds like AV, UV, UV, AV, AV, AV, AV, DV-D-V, and AV-E-M. Like using some of those funds, right, very fast there. Those are ticker symbols that broadly mapped to the factors, I think, that you just discussed here, or some of the factors that you just discussed here. What's interesting about that, you know, I was playing around with that and prep for today's show is you actually get a dividend yield on the the portfolio of like in the high twos from that portfolio, not because you're going chasing dividends,

but just because that's what they happen to yield. And that is very close to the withdrawal rate that many would argue in that kind of low three range for an early retiree. Can we get more aggressive about withdrawal rates if we implement this research based on what you're finding here? By the way, that's not the year, the earnings yield on these portfolios, which is much, much higher, which is why we're moving towards these factors in the first place, basically underlying theme behind it. But is that change the withdrawal rate math for early retirees in your view between the dividend and the earnings yield on this portfolio. I did a podcast episode years ago where we looked at a bunch of different portfolios to find the highest safe withdrawal rate. We're just messing around.

But we did find that, and this is just using historical index data, not live fund data, which can be quite different, especially for small cap value. We did find that small cap value supported a higher safe withdrawal rate. But that was just kind of a little fun little exercise that we did. Will that be true going forward? Who knows? I mean, listen, if we're investing in these things because we expect higher returns, and I think especially if you can be a little bit flexible with your spending, like if small cap value tanks, you're not going to just continue mechanically withdrawing. In theory, like if we're saying that the sort of stated fact to start the conversation is that we expect higher returns from small cap value, high profitability, low investment, it should support a higher safer rate. Will that work out in practice? I think it's going to depend on your ability to make adjustments to your spending over time because these. things can also be more volatile. Like if the market crashes in a short period of time, small cap value can get completely smoked. Like COVID was an example where small cap value got just crushed and large cap growth actually

did did better in that case. And so if you're pulling out your normal planned withdrawals during that time, I mean, I'd start to get worried about you. But if we just think about it from the perspective of expected returns, if we do expect higher returns, then it should support a higher withdrawal rate with a caveat that I think you have to have some flexibility in your spending, which, of course, the 4% rule type thinking does not allow for. Well, I think the million or maybe much more than that dollar question that people watching or listening to this show are going to have is how much should I tilt towards these factors, specifically how much should I wait to small cap value? If I use a dimensional or of Avantus fund, it sounds like that's like the academic debate between VTI and VOO, pick one.

That's entertainment purposes only. But it sounds like the question is, how much do I wait towards these factors and how much more do I wait towards small cap versus international small cap and those types of things? And obviously, that goes way past the line of what we can discuss plainly on a podcast episode. But how would you leave somebody who just listened to this buys the argument for small cap or factor investing? How can they begin to make a decision that's high quality around that? There's a topic in my podcast community. We have just like it's a free community, community dot rational. reminder.ca. It's like 14,000 members in there right now. And it's, it's, it's very, very active.

But anyway, there's a topic in there that was from years ago called, I think, how much factor percentage and why. And it, I don't know how many posts are in there. I can look it up. But it became this just massive topic because everyone was discussing and debating and trying to figure out the answer to your question. I don't know if anybody ever ever solved it. Let me see if I can find it. I'll tell you that the read time. Here's the answer to your question. Not actually. 396 minutes of read time to go through that entire topic, which I think is still inconclusive. Basically what I'm saying is it's like an unanswerable question, that it just depends on your preferences and your conviction and your beliefs and what expected returns you are

assigning to the different types of factors. But there is no one answer. So when Avantis first launched their ETFs, I was excited too. We'd taken some criticism over the years because on our podcast, we would talk about this stuff, but small cap and value tilting and factor investing. Some people would say, well, this just sounds like a sales pitch because we can't actually use the funds that you guys use at your firm. And I didn't like that. So I made a model portfolio using ETFs that anybody could use. And initially it used a couple of I shares ETFs.

There was a value ETF and a small cap value ETF. But then when Avantis launched their products, I redid it with their funds. And it was mostly Canadian listed ETFs and then these two US listed Avantis ETFs. And the intention was really to as close as possible and as simply as possible. cleanly as possible, mirror the overall exposures that we have in our portfolios at PWL. And that portfolio was roughly for the equities, 75% market ETFs and 25% small cap value ETFs. Now, it's also worth saying that's not how I would design it under sort of optimal conditions. I think it's better to tilt across the full market cap spectrum to have large cap value and mid cap value and all the way through

rather than just focusing on small cap value. I used small cap value. I used small cap value. I used small cap value because there are currency conversion and withholding tax considerations that I had to think about. So I was trying to minimize the dollar amount of US dollar ETFs in my model, which is why I used small cap value, which is like a higher potency sort of form of factor exposure. But I would prefer to do what we do in our portfolios, which is tilt across the full market cap spectrum. But just as a sort of guidepost, that model portfolio was 75% total market and 25% small cap value. Is there some meaningful reason to tilt? towards small cap value, but this is not like go mostly into small cap value.

Very, very few people would defend go mostly into small cap value or these other various factors away from the total market. Some people might. I mentioned our podcast community. We have some people in there who I won't call crazy, but they're, they're pretty intense about their factor investing. And then some of them do have all small cap value portfolios. And that's they're okay.

They're comfortable with it. They're comfortable enough with the research and with the potential for tracking error and underperformance that they're willing to live with that. And as we've talked about it, it has actually done well recently, but there could be periods, long periods where it doesn't do well. I said this earlier, but I really think that one of the biggest limiting factors for this approach to investing is your ability to withstand performance that is different from the market. Like not, not being in the U.S. market because you were in U.S. small cap value or your international small cap value for the last 20 years, it's not that fun. Well, Ben, this has been absolutely fantastic here. For the second

hour of our show. We'd love to debate. Talk with real estate. You get that? Okay. Next time. Next time. Another time here. This has been fantastic. I learned a tremendous amount. Thank you for sharing this. And I'm going to probably make some fiddles to my portfolio based on what I've learned from you on this topic. You, Paul Merriman, and the originators of a lot of this research as well. So it's a really fascinating topic. I think it's really important. I think it's particularly important to people who are thinking about financial independence early in life. Awesome. Yeah, I can't wait to go in and find all those papers that you mentioned and start reading those, like really nerd out on that stuff because I have not read those papers yet. And I'm hoping to be able to link to them on our website so that people can find them easier than I believe I'm going to have a hard time finding them.

Do you have them? I'll tell you what I can do, Mindy. I did a YouTube video recently. Oh, the title's changed. I guess we were doing some AB testing. It's currently called this paper could change how you invest. but it's basically an overview of everything we talked about, starting from the CAPM to the three-factor model to the five-factor model

and then right up to the products that were created based on that research. So I can share that link with you. And then in the video description, I also have a link to all of my academic sources. That would be fantastic. And we'll include those links in our show notes for this episode so that people can find them easy as well. Yeah, because I'm excited to dive into those papers.

It's very nerdy. It's properly nerdy. stuff. I love that. I love it. Thanks, Ben. All right, well, like Scott said, this was super fun. I have to go back and listen to this without taking notes as I go, just so I can figure out exactly what it is that you were saying, because you did blast through this pretty quickly, but you gave us so much information. I am so thankful for your time today. Thank you so much. Before you go, Ben, could you tell everybody where people can find you and your community? Oh, yeah, sure. So my YouTube channel is just my name, Ben Felix. I also have a podcast called the Rational Reminder podcast where we post pretty nerdy stuff weekly. The one we have going out next week is I think we're pushing the limits of like what people will actually listen to in terms of nerdiness, but we'll see. And then I do have the podcast community, community.comunity.comitational reminder.com, which is a closed community. You do have to sign up, but it's not paid. It's, it's free. It's a really nice place where some very nerdy

people have very respectful, good discussions about these kind of topics. Awesome. Thank you so much, Ben. And we will talk to you soon. Thanks, guys. All right, Scott, that was Ben Felix. And that was absolutely fantastic. I loved everything he had to say. And now I need to go back and listen to it all again so I can really, really figure it out. This is not an episode to listen to at 2.5 speed. This is an episode to listen to at like 0.75 speed. I think Ben is absolutely fantastic. Rational Reminder podcast is a great show. I think folks should check out. I think he's, you know, if not the originator of the research, he is as close to it as anybody in this space. He's met the original researchers in this area. And I think, I think it's just fantastic. I think his views align

broadly speaking with many of the prominent, you know, folks that we've talked to like Frank Vasquez and the Golden Ratio portfolio like Paul Merriman over the last couple of years. And then Bill Bangan originated of the 4% rule used some of this factor research to inform his updates in a richer retirement, his new book. This is not new stuff for really that controversial stuff. It's pretty well-established research. How it performs in the future, is anybody I think it's particularly interesting to me. And I'll also say that I ran that experiment, do you remember back in Q3 of 2025, where I put $10,000 into four portfolios, specifically using this kind of research. So it might be a good time to check in on those portfolios if you're

interested in do a quick update as we close out this episode. Absolutely, Scott. We should check in on your portfolios and see how they're performing. Okay. So I've got all four of my portfolios pulled up here and I'll share my screen, my entire screen in a moment. Just a reminder that this is a short term, so far short term experiment. So Scott's performance is not indicative of future gains either. And it's for entertainment purposes only, of course. Scott, entertain us with your portfolios. As a reminder, what I set up was first, a traditional stock bond portfolio, 6040 stocks bonds. I said this up probably early October 20, 25. which is also when I happen to rebalance my my personal portfolio as well, not covered by these portfolios.

The first one was a 60-40 stock bond portfolio. So $6,000 started in the total stock market index fund and $4,000 started in the bond fund. Bonds have basically gone nowhere while we've seen a small amount of growth in the total stock market over that six-month period. The next portfolio was just straight up S&P 500, V-O-O. That portfolio has had about a 4 to 5% cumulative return over the last six months. So great almost exactly near the historical long-term averages of which you'd expect from the S&P 500 over that period. I could probably do this over six months, actually, to be a little clearer with each of these portfolios. The next portfolio was the risk parity portfolio designed by our friend Frank Vasquez and modeled basically off Mindy's portfolio. That portfolio has jumped about $680 or 6.8% over the last six months. And the last one was my timing the market portfolio where if tilted essentially entirely a way,

from large cap and towards small cap value, international small cap value bonds, which are specifically held so that if the S&P 500's, you know, the Schiller Cape ratio goes below certain historical norms, I'll pivot that back to the S&P 500 in VOO. And then there's my real estate ETF, which is about paced what we're seeing from the S&P 500 over that six-month period as well. So so far, this portfolio, the timing the market portfolio is up, but again, this is a short period of time. So this was a very simplistic expression of a little bit of a factor tilt here in AV, AV, AV, B and D, NQ. That's what I got. Scott, I think it's fun to experiment with these smaller amounts just to see what's going on in different sectors of the market, especially if you

are still in your growth phase and you want to see, well, I wonder how small cap would affect my current portfolio. I definitely wouldn't recommend somebody who wants to just test it out, do it with a large portion of their portfolio. But you took $40,000, split it up into four. I took $10,000 and put it into my Frank Vasquez portfolio, my Frankenomics portfolio. I am withdrawing the equivalent of 5%, which comes out to $42 a month. And I am up since July of last year, I am up to $11,529, and that is with withdrawals equal to a total of 5% per year. And this is the golden ratio portfolio that Frank set me up with. So it's fun to watch this grow.

Gold has been my biggest growth for the longest time. And when I have to rebalance, I have to pull it out of gold because it keeps going up. I did not have the same. I've had about 7% gain on gold in my portfolio started in October because I missed that huge run-up by starting that portfolio later. than you did. So it's just interesting how the timing of this, everyone will have it, almost everyone will have a different experience of this because when you create the portfolio, you're going to have different valuations. So those will normalize over very long time horizons. But that's the fun

of investing. And if $10,000 is too much for you to experiment with, start with $1,000. See where the growth is. See what you're comfortable with. Because if you go in there and get obsessed like some of us are and you're checking it multiple times a day, you'll see up, down, up down like all day long. In some cases, it just keeps going up. That's always fun. It just, it gives you more of a real time look at what's going on in different sectors of the market. So if there's something you think you want to own, try it out with a tiny little bit. See what happens. All right, Scott, there are multiple different ways to determine a small cap value fund. Ben shared, I think, three different ways to determine the small cap value fund. I recently wrote an

article called Stop Optimizing when good enough is the best financial decision you can make, talking about how people can sometimes obsess over different little factors or different big factors in their life. And I think the determining which small cap value fund do you want to invest in falls under this optimization trap where you're constantly trying to get a better return and get a better return. Make a decision and stick with it. If small cap value is the right one for you. If you want to start adding small cap value to your portfolio, determine which fund you're going to invest in, make the decision, and just accept it. I think the decision whether to allocate to something like small cap value or large cap value or international value, that's a big decision,

right? That's going to change the course of your, you know, the next couple of years in terms of the ride you're going to experience if you decide to tilt away from the stock market, you know, S&P 500 or total market to those. But what's not a big deal is, you know, the next couple of years, is, you know, that we've discussed in the past is really like investing between VTI and VOL, like a total stock market index fund in the SMP 500. Those correlate very closely. And I think that's the parallel with some of these funds. I think that that applies only, you know, in this good tier of value investing funds.

There can be a big difference between a bad, you know, a small cap value fund and a good one. But I think once you get to the across a couple of good ones, those last points of optimization, yeah, begin to maybe not matter as much. Yes. And it doesn't have to be in all or nothing scenario. If you're trying to decide between VO and VTI, put 50% of what you were going to allocate into each one and see which one performs better. Maybe you discover that you like VOO better or you like VTI better, then you can move the

other amount in there or move half of what was in there into the other one. I think people get really hung up on, oh, which one is the best. Here's a news tip. You are never ever going to have the best, most optimal performance in your portfolio ever. So stop trying for perfect and focus on good enough. And if you want to get more articles just like this in your inbox, you can sign up on our newsletter at biggerpocketsmoney.com slash newsletter. I would love for you to join our list.

Oh, we also have more things at biggerpocketsmoney.com. We have a ton of resources. Scott has been going nuts creating resources for you, our dear listeners. They're at biggerpocketsmoney.com slash resources. We also have calculators and templates to have. help you accelerate your financial independence journey. So join us over there at biggerpockets money.com. All right, Scott, should we get out of here? Let's do it. That wraps up this fantastic episode with Ben Felix. He is Scott French. I am Indy Jensen saying, see ya, Chia.