The Canadian Investor - What Drives Stock Returns & Crypto News

Episode Date: February 21, 2022

In this episode of the Canadian Investor Podcast we discuss the following topics: What drives returns in the short term vs. the long term The meaning behind KPMG Canada adding Bitcoin and Ethereum to their treasury The news that Blackrock will be entering the cryptocurrency space The art of not selling Bond returns in the past 4 decades and what could happen to the bond market in the future https://thecanadianinvestorpodcast.com/ Canadian Investor Podcast Twitter: @cdn_investing Simon’s twitter: @Fiat_Iceberg Braden’s twitter: @BradoCapital Stratosphere 🚀 https://www.stratosphereinvesting.com/See omnystudio.com/listener for privacy information.

Welcome back into the show. This is the Canadian Investor Podcast, made possible by our friends and show sponsor, EQ Bank, which helps Canadians make bank with high interest and no fees on everyday banking. We also love their savings and investment products like GICs, which offer some of the best rates on the market. I personally, and I know Simone as well, is using the GICs, which offer some of the best rates on the market. I personally, and I know Simone as well, is using the GICs on a regular basis to set money aside for personal income taxes in April of every year. Their GICs are perfect because the interest rate is guaranteed, and I know I won't be able to touch that money until I need it for tax time. Whether you're looking to set some money aside for a rainy day or a big purchase is

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How you doing, buddy? I have been in the trenches of an Excel spreadsheet for three days straight. How are you doing? Better than you, it sounds like. Hey, sometimes you got to do what you got to do. It's been an absolute grind. I'm excited for the changes in our model. So sometimes you're just in the trenches, man.

I know, I totally get that. I mean, I know you put a lot of work in Stratosphere and obviously the podcast as well. We both put in a lot of work. So I know it can be a bit of a grind sometimes, but at the end of the day, when you offer a good product, it makes it all worthwhile. Yeah. And when we hear back from you guys, it makes it all worth it. Trust me. First off, let's start with by the time you hear this, this episode drops on February 21st. So RRSP deadline is approaching March 1st, my friends. You still have some time, but just a friendly reminder, but I'm sure you'll be getting lots

of reminders and increased ad spend from the brokerages over the next 15 days. So just a friendly reminder there. Are you doing anything with your RRSP with the deadline or is it business as usual? No, I try to keep it clean. And that's just a reminder as well here that that's so that you can apply it to the 2021 tax year. If you have no intention of applying it to the 2021 tax year, you don't have to worry about this deadline. You can contribute throughout the year, whether it's right now, whether it's two months from now, doesn't matter. It's really to apply it on the previous year. That's right. Yeah. If you're in like a, I did it last year when I, back in the day, when I used to make money, I was like, ah,

I got to reduce that, uh, that income. But now I'm, uh now I eat dirt and ramen for a living. So that's great. We got lots on the slate today. We got, I'm going to talk about what drives long-term stock returns. Simon's going to do a little segment here on some big news in cryptocurrency. You know, we talk mostly about publicly traded stocks on this podcast, but as you and I both know, it's important to pay attention to what's happening. And I think that, you know, burying your head in the sand with crypto is just seems silly to do. I'm going to talk about the art of not selling your stocks. Simone, you're going to talk about the macro with bonds, and I will finish off with a little metric that I find fun at the end. All right, so let's kick off with a little graphic that I saw from Morgan Stanley. It's an older graphic. It covers the period of 1990 to 2009 with stock returns. So again,

this is we're 10 years later, more than that now here in 2022, but it would probably be very similar on the timeframe if we extended it out. Now, it came out with what you and I believe in, which is very important. You know, finance folks get all fancy on how to value stocks, what drives stock returns. how to value stocks, what drives stock returns. And the reality is, and why I put so much emphasis on the most simple financial metric that you can find on any statement, which is sales. Revenue growth is the key driver of long-term stock performance. There are many, many studies that show this. And you know what? We talk about the importance of free cash flow and how a business is valued out on its ability to generate cash in the future. And that is completely true. all can be eventually converted into free cash flow and reinvested into the business is that top line sales. And if it consistently grows, hopefully if you have some good margins, you'll eventually churn out some cash. So on a one year basis, this goes back to what I was

talking about last episode. It's a very similar concept. On a one year basis, multiple expansion and compression, like the PE changing or on an unprofitable growth stock, the price to sales multiple going from 30 to 15, that drives 46% of stock returns. Revenue growth is about 29%. Margins are 13%. And free cash flow is 12%. If you go out to 10 years, 74%, according to this research from Morgan Stanley, 74% of stock returns are driven by sales growth, 15% from margin expansion.

So right there, a huge majority of stock performance is from profits and revenue growth. The multiple only actually expansion or compression actually only works out to about 5% on a 10-year basis. So this goes back to what we've been saying so much. Valuation matters. Of course it does. Valuation matters. You don't want to pay stupid prices. And you especially don't want to pay stupid prices if you want to face short-term hurt because it moves stock returns in the short term. However, if you have a long-term horizon, this is why investing in businesses that are at least growing that top line sales consistently over time is so, so important to getting some

good returns in the stock market. Yeah. Yeah. I think it's definitely an interesting graphic. I mean, I think the only thing to remember here is that valuation, I don't think was taken into account. So like you mentioned, it's always important to look at that because you want a company that's growing, but at the same time, if you overpay for it, you make it a little harder to get those good returns over a long period of time because a lot of things can happen, right? The company could be growing very quickly right now,

but eventually it stops growing as fast or could eventually just stop growing altogether. But this is just a good overview of, yes, you want, to to meet this just means you want the company to grow the simplest way. That's it. You just want the company to grow. Yeah. And we get so caught up right with the fancy things that Wall Street wants us to think that we should care about. And while a lot of it is, of course, important course important however if you can't answer simple questions like in 10 years do i think the business is going to be better have more sales be more profitable in

the future if i can't answer that question i believe on a long-term basis i'm setting myself up for failure now you can play short-term re-rates like on this multiple compression or expansion, you're seeing how much it matters in the short term. But for most of people who are investing for the long term, answering really simple questions like, is this business going to be better, more durable, more profitable in the future, is a really simple yet powerful question to ask yourself. It's a really simple yet powerful question to ask yourself. Yeah, I think longevity is key.

I think that's the key concept here because you just want it to continue happening. We've talked about brand power a lot recently, and that's the and far between these companies that keep that great brand power over decades. Yeah, like for how many clothing companies have died for every Nike, you know? Oh, yeah. Like, you know what I mean? Like, there's only a few. You can lame them on one hand. And I think that that's a good example.

Yeah. Now we'll move on to some cryptocurrency news, some pretty big news like Brayden alluded to. The first one is KPMG Canada. So the Canadian arm of KPMG, one of the big four accounting form, announced that they would be adding cryptocurrency to their balance sheet or their treasury more specifically they announced they added ethereum and bitcoin the only thing is that they did not disclose how much they actually added so it could just be one bitcoin one ethereum or even less but just the fact that they did announce that. And they also said that they did it with carbon offsets to make sure that it was good on the environmental, social and governance side or ESG. And keep in mind, KPMG also mentioned that institutions like hedge funds, family offices,

large insurers and pension funds are increasingly gaining exposure to crypto assets and increasingly becoming interested in that space. Why it's so important is these big four firms. So you have KPMG, Deloitte, EY used to be Ernst & Young, and PWC used to be Price Waterhouse Cooper. That's it. Yeah. So that's why they change it. It's much easier to say PWC. But these firms essentially work with the majority of the S&P 500 companies.

They're audited by these big firms. They also provide other types of services, usually consulting services. So when you see KPMG adding that to their treasury, it just shows that they are starting to get ready and they're starting to get some of the clients asking about crypto assets. And I won't be surprised if we see the other big three follow suit this year at some point. They haven't mentioned anything as far as I can see. And when you think of the S&P 500, it doesn't have to be all the companies. It also doesn't have to be a majority of their cash on hand, for example. But think of a company like Apple. Apple could easily decide to just put $1 billion in Bitcoin. If we remember their most

recent quarter, they produced $44 billion in free cash flow. So what's $1 billion for Apple? They produced $44 billion in one quarter. So it would be 2.5% of that. Clearly, it was one of their better quarters because it's a Christmas quarter. But still, I think it's just very interesting to keep an eye on. And it just it shows that there is increased interest from institutional investors for cryptocurrency. Imagine if PwC went public. Oh, baby. These are good businesses, man. Like they are high margin services that have regulatory moats just all over the place. It's I love consulting as a business. Like, you know, I like Accenture, which is the, the, the consultancy for, uh, um, for technology, but think of how good these, uh, big four accounting firms are. Uh, but I digress. I think you're going on to an important point,

which is this is just like the tip of the iceberg, right? In terms of thinking about alternative assets on your balance sheet, especially when like we're seeing these quote unquote CPI prints, right? Like it's got gotta be coming up in more conversations. So I do think that it's the tip of the iceberg. And I think that a lot of the maxis will like kind of overblow this too much. And I think that you have a really good balanced approach on Bitcoin and crypto in general, um, as a believer, but you have a good balanced approach. And so I think that, like I said, in the intro, not paying attention to it is like burying your head in the sand for no reason right and i really try my best not to be that guy and so um yeah this is good yeah and i

mean i've heard it on calls before on different conference calls where it's top of mind for cfos and ceos not cryptocurrency specifically but having cash on the balance sheet because they're not stupid. They know they're essentially losing money on it, even if they try to put it in bonds, fixed income, they're still losing money on a real rate basis because the inflation is so high that even if you get 2%, you're still losing about 3% on your money every day, right? Depending on what inflation measure you use. So now they end up having a conundrum. Do we return that money to shareholder? Do we try to keep a little bit on the balance sheet? And then you really, it's not an easy equation for CFO,

especially if they want to have some margin of error on their balance sheet. So now some more cryptocurrency news. This one, the little company called BlackRock, pretty, pretty small. Just just the trillions and trillions assets under management company, you know? Yeah. Yeah. So a report came out that BlackRock is preparing to offer cryptocurrency trading services for its institutional clients. Again, still that institutional theme that I'm talking about here. And when we talk about BlackRock and clients, it just means that institutions are things like pension plans, sovereign wealth funds, for example, and a sovereign wealth fund would be something like CPP. I believe the biggest one in

the world, I'm just going on memory here, is the Norwegian Sovereign Wealth Fund. I think it has over a trillion assets under management. But I digress here. And BlackRock also plans on launching a blockchain and tech ETF. What's really interesting with BlackRock is, as a reminder, they have $10 trillion on assets under management. So AUM, that was as of December. Can we just stop and take in the scale of that?

Yeah, $10 trillion. AUM. It's a pretty big number. BlackRock low-key rules the world. And what's interesting with BlackRock, I had this little graphic and I won't go into detail, but essentially their client type for asset under management is 57% of assets are institutional, 10% retail and 33% ETFs. For those of you wondering like, oh, what's the difference between retail and ETF? Well, ETF can be bought by just more than retail, could be bought by some institution without going directly to the institutional basis. But the retail essentially would be more traditional investments through intermediaries like brokers, banks, trust company, financial advisors.

So they'll offer different kind of funds that are not necessarily traded on an exchange like an ETF. different kind of funds that are not necessarily traded on an exchange like an ETF. But all that to say that the majority of their AUM is institutional investor. So there's a lot of money there and there's definitely even if only a small portion of those assets under management would have interest in cryptocurrencies or cryptocurrencies products it's definitely in my mind it could be a very big tailwind in the future in terms of bitcoin ethereum and some of the other cryptocurrencies like i mentioned there's nothing official yet here but usually where there's smoke there's fire so black rock actually hired a blockchain strategy lead in June for their Aladdin platform, which is short for Asset Liability Debt and Derivative Investment Network.

So to me, it's a sign, again, that institutions are becoming increasingly interested in this space or probably even putting pressure on BlackRock to offer this kind of services. I'm sure they're hearing it from their clients. And of course, Bitcoin here would probably take the lion's share of those investments since institutions tend to be more conservative in general. And I have a feeling that a lot of them actually view Bitcoin as the safer play over other cryptocurrencies. But on that to say, the last thing to keep in mind here

blackrock also owns 16.3 percent of micro strategy for those who are not familiar with micro strategy their ceo is michael saylor and he's been aggressively putting bitcoin on their balance sheet so they've made headlines be because of that so it definitely shows that uh you know i think black rock is definitely going to dabble in this space it just remains to to be seen exactly when but i think we're going to see a lot of announcement on their end uh this year when institutions start getting interested in a major scale that's going to, that's going to be interesting to see. And the thing that I have a little bit of skepticism around is these asset managers, what is their mandate? Generate fees.

That is their mandate, to generate fees. That's their business. That is their mandate to generate fees. That's their business. And so if they're using a lot of these like decentralized platforms or like what we're supposed to be decentralized as profit centers for like more AUM, you know, do you know what I'm getting at, like it's somewhat contradictory and kind of doesn't sit right with me in a way. So I'm curious to like, if you have any particular thoughts on just the business of quote unquote web three and potentially companies like this that are looking at it as a way to just generate more fees. I don't think, I think you'd be silly to think of it as anything else. That's the way I think about it anyways. Yeah, I think that's a good point. I've seen that take on Twitter. It's not the first time. Some people are not, like even people that are really into Bitcoin, or you could even say some Bitcoin maxis are not thrilled because for them,

you know, it shouldn't be something through a third party like a BlackRock, for example, to try and gather more fees. The reality is a lot of institutional investors are also looking for easy ways to get access to get exposure to it. And there's the whole custody thing when you're an institutional investor. There are some options out there. But I think the fact that BlackRock is so heavily involved, I mean, I see it, I work in the pension space, you know, BlackRock is everywhere, right? So the fact that they're already familiar with a company like BlackRock, I think makes it a lot easier for them. But you know, you do have a good point. And, you know, a lot of people do as well, saying that it just it's counterintuitive with what a lot of cryptocurrencies, but more specifically, Bitcoin is trying to accomplish. Right. Ideally, I think the maxis out there will say, well, ideally, Bitcoin becomes the base layer of money and anyone can be their own banks and you don't have to work through a third party. for so many years now. Questrade is Canada's number one rated online broker by MoneySense,

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products. Please check out the link in the description of today's episode for full disclaimers and more information. Okay, let's talk about a segment called the art of not selling your stocks. Now, compounding works in ways that are often hard for the human brain to comprehend. This is mostly due to the fact that exponential functions are not intuitive to our linear thinking brains. term, let them compound and hold them for a really long time, the life-changing investment returns that they generate is such an amazing thing that now everyone has access to. Like the friction and barriers to entry to owning stocks has just come down and down and down.

We talked about how every single commercial for the Super Bowl was basically like, either, hey, join our crypto exchange or check out our discount brokerage. Like, if you're not investing in stocks, like, what are you doing, basically? And so, Chris Cerrone of Acree Capital Management has an excellent piece on this, on the art of not selling winners. Now, I just wanted to point out there that Chuck Aker, who I've been calling Chuck Aker, his name is Chuck Acree. And I feel like such a chump because I'm such a big fan of his, and I didn't even know how to say his name correctly because he does like very little press or like very little talking but i found a podcast that he's on from like 2019 and he introduces his name

as jack ackrey and i'm like wow i am such a chump uh but what's that to your defense though we do read a lot so i know about yeah i know you read a lot i I know I like, I read a lot too. So when you're reading names, um, I know with my French brain at the very least, I'll often like think of the, like a way of pronouncing it. And oftentimes it's like almost a mix of French and English together. And then I'll say the name. I'm like, oh boy, that does not sound right. Yeah. Here I was thinking it was Chuck Aker.

I'll probably still accidentally call him like that every once in a while. But, uh, actually this is side note. I'm going off my way out of my notes here, but the firm, their firm, Acree Capital Management is literally in a small town in Virginia, population 500 people. So the firm is like a sizable amount of the population. And there's one traffic light and two streets apparently. And they talk about how this is symbolic of their simplicity. And so it's, I don't know, everything's just cool. Everything they do is cool. I find them very interesting.

So Chris, he's one of the PMs there and he's very, very smart. He's worked there for over 10 years. Now he has a piece online called The Art of Not Selling. And he starts with a classic introduction into compounding returns, like some basic math. And an example that you are probably familiar with, many of you are probably familiar with. Many of you are probably familiar with. I remember learning this in grade school, but I think it's helpful to revisit it. So I remember this example specifically from math class in like grade six. Now, the question starts with, would you take $1 million right now? I have $1 million in cash to hand you. Or we shake hands on a deal that I'll give you one penny and that penny doubles every day for the month. Now, the penny option after one week is only worth $1.28.

week is only worth $1.28. And after the second week, you're halfway done this experiment, and the penny option is only worth $160.84. Now, with human linear thinking, our brains are just so bad at understanding exponential functions. You'd be like, I just got screwed. It's two weeks later and I have $163 and option A was to walk away out here with a million dollars. Now after 30 days, the penny option is worth $10,737,418.24. And again, because it doubles every day, if you have a 31-day month, you have now over $20 million. Now, after 27 days in this experiment, Simon, the penny option is still worth well less that million dollars you could have run away with. It's worth about $700,000 after 27 days. Now, you're filling in the gaps here that most of this happens when you let compounding work. His analogy of selling winners to take profits works really well with this understanding of compounding. He says that selling companies or

selling winners has almost always been a mistake for their firm. And almost all of their mistakes since investing other people's money have been from actually selling too early. Because this is important, they're not traders, because they own high quality, durable businesses, you know, they have owned American Tower since 200 million in market cap. So like, holy, they're just really not that many reasons to sell, they think. And it doesn't mean never sell, right? It doesn't mean never sell a stock because there are reasons to sell. However, he goes on to say, you know, with the Fed, with interest rates, trade wars, politics, real wars, the economy, pandemics, he says even, you know, valuation, extreme valuation is not a reason to trim a position. Extreme valuation is not a reason to trim a position. He says in quoted here, we are unfazed from our businesses quoted in at market prices above what we would pay for them.

Now, that's an interesting thought, right? Is because sometimes you own something that in the short term might look overvalued. Neither valuation or price targets influence them enough to actually initiate a sell. Now, he does go on and say there's three reasons primarily, among others, of why they do sell, which is one, slowing growth. It goes back to our first thing, which is you need growth. Number two, loss of competitive advantages. So that goes on to multiple branches. And then three they talk about management integrity a lot you know they want to partner with people that they trust and have integrity and they have integrity to make good decisions so i just think about this

piece a lot and this hopefully i did a good job of kind of breaking it down i think about this a lot about holding periods, selling stocks, owning quality. I think that they've really laid out a good framework for how I think about investing anyways. Yeah, the management lacking integrity, I find that one interesting because I'm thinking about Buffett and how he stood by companies. And Wells Fargo is the one that comes to mind, right? For years, even though they had leadership integrity issues, and recently started a position in Activision Blizzard before the Microsoft offer. I don't know if you saw that. And again, there were some serious management integrity questions. I just find it a bit interesting that uh you know the goat and

then you have uh chuck ackery who why it's not chuck but uh you know um the uh the ackery person you were talking yeah chris serone i'm probably saying his name wrong too serone chris yeah so just chris saying that i find that uh just interesting the divergence there but i i would assume that berkshire probably has a similar view on the first two items yeah i think so too and again those are two guys that you know do it differently but they both have something very well they have two things two things come to mind right away is one, they have immense patience. They're willing to hold businesses for a really long time. 200 million market cap is the cost basis on American Tower for Acre. Like that is crazy. So they're willing to hold businesses for a long time and they're very focused on business quality. I think that those are two things that they would both sit down and have a beer in complete agreement with.

I do think they do have different ideas about governance. Yeah, exactly. And I think that you point that out well. I mean, granted, I think Berkshire has invested in great people as well. It's just there's been, I think they may just see it as just some value opportunities. Value. Yeah. So I think that's probably the reason that they use behind that,

but I'm going to ask you a question. We didn't go over this. So not selling, I think for a lot of people is easier said than done. Yes. Cause it's really easy to, you know, look at whatever's on the news.

Like you mentioned, whether it's the impact, like, you know look at whatever's on the news like you mentioned whether it's uh the impact like you know and price driving price driving narrative a lot in the short term too right yeah exactly or you know the pandemic people panicking or you know potential war with russia and things like that so do you have some personal tips for you like if you're feeling on like I know it doesn't probably cross your mind a whole lot but you have like a trick that you could you know give people personally when I'm feeling you know nervous about a company first of all I'll you know make sure I look at the company a bit more make sure I'm up to date if you know they release anything recently but the other thing i find is just um going outside and doing some exercise i find that will will really help me that's just a personal

basis sleep on it for sure sleep on it too yeah yeah like okay i have a couple thoughts there and this is a fantastic question by the way and very useful for people thinking out there and useful for me to go through my mental model here as well. So when I think about something like that, one, what you brought up first is I don't make any decisions right there. I don't, or sorry, if I make a decision, I make sure I don't act on it just yet because that decision that I'm making short term could be heavily influenced by my emotions. And I don't want that to happen. So first of all, I'm not going to act on it immediately. For better, for worse, I won't do it. It could be the right decision to sell the thing. But it's not in my process. And like Chris said here, more often than not, their biggest mistakes have been selling great businesses.

All right, number two is, I'm a fundamental investor, I'm focusing on the business. So there's a lot of price narrative. The narrative and the sentiment around the actual business fundamentals follow prices in the short term. So careful about the types of news you read about too, right? If the stock popped on earnings compared to fell 20%, on the same results, think of how different that article might be, right? And so, one, I don't watch the news at all. I think that that might be helpful. Dude, I have no idea like just what's going on in general. And maybe that's stupid and naive, but I sleep better at night

not knowing the stupid ins and outs of the media cycle, which I'll call it. And I'll just go back to, if you owned a company, you're the full owner of a private investment. This is the problem with public markets and retail investors is you get a daily mark. You get a daily mark to mark on asset prices when you invest in public securities. when you invest in public securities. When you own private businesses, maybe, you know, every year and a half when you do a new round of funding and you get a new valuation,

and that curve looks a lot more linear and less panicky, right? Now, quarterly results, while they're important to pay attention to, are not as important as the media makes it feel. And even like this podcast, we talk about it so much, like quarterly results. The reality is, is that the business fundamentals just don't change that often. So when you focus on them, the rest of it really falls in place. And I know I'm rambling here, but the last one here is experience. The more you manage, the longer time, the more scars you develop as an investor, that'll help you manage decisions better. Because when I first opened up my brokerage account, I wouldn't be able to speak like this, dude. I would make the common mistakes that you all did. And everyone starts as a beginner.

Everyone starts just uneducated and inexperienced. Anyone who tells you that's not the case, it's just not possible. So experience is a big thing now when i see big drops in my stock i focus on the biggest fundamentals and you don't see any brain radioactivity if you were to a ct scan they'd think i'm a psychopath or like some sort of socio but that's because i have experience doing this now for for you know close to a decade yeah yeah no that's good and before we move on i wanted to add like see i kind kind of see quarterly results as just a chapter in a book. So are you going to base your whole opinion of a book based on one chapter? So I think that's a, that's a really good way, in my opinion, just to look at it clearly, you know, once in a while, you'll have like a disaster quarter quarter. And, you know, the one that comes to have like a disaster quarter quarter and you know the one

that comes to mind is peloton where the premise completely changes just based on one quarter but that's pretty much the exception to the rule that's pretty rare that it happens and like i mentioned i talked about all of your firing your entire staff and so that's like you know obviously you should pay attention that's real thesis creep not just like exactly change and i think you know most people will be able to use their judgment and you know when a quarter like that happens that it's worth paying a lot of attention to but i did mention the exercise part because i think that's just a good thing for me it might be difference for someone else maybe for someone else it's some you know playing a game of chess or whatever it is but for me it's just a good thing if i find

like i may take a rash decision doesn't have to be about investing specifically i find that exercise kind of levels my thinking out and just cools me down so maybe just find out what for listeners what that thing is for you. And if ever you feel like you're going to panic and pull the trigger on something, try and go do that thing. Then come back and see if you're still thinking the same way. Yeah, I saw an interesting tweet today that was kind of like, if we are managing our money ultimately for financial freedom paying less fees doing the things we want to do unlock our time later in life if it's giving you stress beyond the the potential value

of that then what are we doing right like sentimentally what are we doing so i think it's an important question to ask yourself and and yeah, I like that. Yeah. So anyways, now we'll move on to our next segment. That's my fault. I just kind of took a side turn there, but I thought it was a valuable discussion for people. If people don't hear us think through those things, then what's this podcast about? As do-it-yourself investors, we want to keep our fees low. That's why Simone and I have been using Questrade as our online broker for so many years now. Questrade is Canada's number one rated online broker by MoneySense.

And with them, you can buy all North American ETFs, not just a few select ones, all commission-free, so that you can choose the ETFs, not just a few select ones, all commission-free so that you can choose the ETFs that you want. And they charge no annual RRSP or TFSA account fees. They have an award-winning customer service team with real people that are ready to help if you have questions along the way. As a customer myself, I've been impressed with Questrade's customer service. Whenever I call or email, every support rep is very knowledgeable and they get exactly what I need done quickly. Switch for free today and keep more of your money. Visit questrade.com for details. That is questrade.com.

So not so long ago, self-directed investors caught wind of the power of low-cost index investing. Once just a secret for the personal finance gurus is now common knowledge for Canadians, and we are better for it. When BMO ETFs reached out to work with the podcast, I honestly was not prepared for what I was about to see because the lineup of ETFs has everything I was looking for. Low fees, an incredibly robust suite, and truly something for every investor. And here we are with this iconic Canadian brand in the asset management world, while folks online are regularly discussing and buying ETF tickers from asset managers in the US. Let's just look at ZEQT, for example, the BMO All Equity ETF. One single ETF, you get globally diversified equities. So easy way for Canadians to get global

stock exposure with one ticker. Keeps it simple yet incredibly low cost and effective. Very impressed with what BMO has built in their ETF business. And if you are an index investor and haven't checked out their listings, I highly recommend it. I bet you'll be as pleasantly surprised as I was that BMO, the Canadian bank is delivering these amazing ETF products. Please check out the link in the description of today's episode for full disclaimers and more information. So now, like Brayden mentioned, I'm going to be talking about bonds a little bit. We do talk a lot about stock investing. Obviously, that's the majority of our discussions. But bonds, I know that most people don't have a big

allocation, but I've done some poll with our Twitter at CDN underscore investing if you don't follow us. And people that listen do have some exposure to bond. Some people don't, granted, but there is some exposure here. And that's why I wanted to talk about it. I came across from a tweet from at Charlie Bielo. I think he's a great follow, by the way, for the broader market just to be able to see charts. They tend to be a bit more macro, but they can still be very interesting to look at. And I retweeted the tweet as well. So if you're wondering what I'm talking about, just look at one of my recent retweets.

Essentially, it's a chart showing the total bond returns since 1977. And total returns just mean the interest that you're collecting on the bonds plus any price appreciation. So only five years within since 1977 had negative returns during that time. That's 1994, 1999, 2013, 2021, and so far year to date in 2022. So it's easy to think, wow, bonds are great investment. They've only had five years of negative returns. Well, even despite that, equities have outperformed bonds. But let's dig a little deeper here. So as a refresher, bond prices actually move inversely versus the current interest rate. So if interest rates go up, the value of the bond goes down because the market says, hey, these current bonds should be yielding more. Since the payout remains

the same, the value of existing bond actually goes lower to match the current interest yield for those type of bonds. And then if interest rates go down, then the value of an existing bond will actually go up since the market now expects smaller yield from that bond. So essentially, if the price go up, the yield goes down. So from 1977 to 1981, most of the returns were provided by interest yield from bonds. For those not aware, interest rates were actually going up quite significantly during that time. But since 1981, things have actually been quite different. So the face value of existing bonds has trended up over long periods of time since interest rates have steadily gone down

since 1981. Yes, you know, don't tweet at me saying like, oh, there's a two, three year period where interest rates actually went up. I get that. But the overall thing is that the interest rates have been trending down pretty consistently over that since 1981. And that's really important to understand, because if you are investing in bond ETFs, for example, there's a view that bonds are always safe. And I've challenged this more than once on the podcast. I'm sure you remember that, Brayden. And that bond should be an integral part of any portfolio. I still see some people recommending a 60-40 equity bond allocation. And the problem with this approach is that it worked well when rates kept going up.

Sorry, when rates kept going down. But the problem is that right now, we're not in that environment. And the chances that rates keep going down are pretty low, in my opinion, with the inflation figures that we're seeing right now. So if we keep seeing rate hikes in coming years, this means that bond ETFs will be showing negative returns during that time. Some might say, well, just buy treasury treasuries, which are government bonds and just hold them until redemption. So you won't lose on the face value of the bond. And that's, that's, that's true. I'm not gonna, I'm not going to say that it's not, but although you won't lose any capital, if you buy a government treasury right now, a Canadian treasury, you'll get about 2% yield for 10 years. So what this

means, you're actually losing on the real rate of return because the inflation figures that are going on right now, it's about 5% official figures. You're getting 2% on that yield. You're essentially losing 3% every year on your money. And again, this is not investment advice, but make sure you really understand bonds if you're looking to allocate some of your portfolio. It's just a lot of people oftentimes think this is a safe allocation and they just don't fully understand how bonds work and the future potential of bonds in this environment. If we look historically, owning equities has been the way to go. Now, bonds provide excellent stability historically compared to the volatility in equities so that's why people do that typical 60 40 allocation now i know many people have said

screw the 60 40 doesn't make sense anymore and i i tend to agree with that very like i i don't own any bonds and i probably never will because of my experience and trust in owning high quality companies and i'm willing to ride out volatility. Now you'll hear that a lot in terms of 60-40 and bond allocation. A lot of that is because professional fund managers don't want their clients facing extreme volatility. Because you know why? They knock on their door and ask them why their stocks are down or why their portfolio is down 40%. So bonds help ride some of that out. However, if you are a self-directed investor, you don't have to worry about those kinds of things. And you can have high conviction in

the companies you own. A lot of those problems go away. That's all I'll say. Yeah, no, that's well put. And I mean, I think the point here I was just wanting to point out is just understanding the environment if you're putting money in bonds and just understanding that it's very different than it's been over the past three, four decades. I think that's the most important thing. And if you want to put a percentage of your portfolio to reduce volatility, that's fine. I mean, personally, like I'm like you, I don't have any bonds just because I think long term equities will serve me much better. But I also know my temperament and I know that if I'm going to panic, I'm going to go mountain biking and then I'll be fine afterwards.

It also depends like what game you play. Like you're listening to us. We have long horizons. If you're listening and you're playing a different game because your horizon is much longer, you're in retirement, you're about to face retirement, then caveat what we're saying. But what we're saying is the expected return is not great. The outlook on expected return is quite poor on a real return basis. And that we are okay with riding out volatility. But just remember what type of game you're playing and that none of this is investment advice, of course. It is not. Just two guys talking about how they think about the world. Okay. Last on the slate, the rule of 40. The rule of 40 is a pretty commonly used metric in software, especially in like private software.

But it's used in public software equities as well. I actually calculated on a spreadsheet for all of the companies I cover, which you can download on the top picks tab of Stratosphere when you're logged in. There's a button right in the top right to download it. It's a big green button, and it's an awesome resource for those who are listening. It's ridiculous amounts of data, metrics on 50 plus US Canadian stocks. It's kind of nuts, like the amount of data on there. And I keep it updated myself. So it's a great resource for those of you who are listening. The rule of 40 is extremely simple. It adds revenue growth and EBITDA margins together. That's it. Revenue growth rate plus EBITDA margin.

Now, all this means is if you combine your growth rate and your profit margin, EBITDA margin, profit margin, we'll just say profit margin for the simplicity here. Is it above 40 when added together? This signifies a healthy, profitable software business. Or if you're not profitable, you better be growing that top line above 40%. That's basically what it is. better be growing that top line above 40%. That's basically what it is. If you're growing a little slower, hopefully you're very profitable for some healthy margins to help fill that gap and be above 40. This is the kind of rule of 40 thing that gets thrown around. Now let's look at some examples.

Let's look at the trade desk because they just reported results today and they're timely and I thought of it. They had 43% full year revenue growth and EBITDA marks to 42%. Okay, so geez, this is like a rule of 40 on crack. This is 85 if you add those together, which is monster. That's extremely high and a rare example of a fast growing software as a service company that's also very profitable if you look deep in their financials now what about another one i own like autodesk 20 ebit of margins on the dot 19.9 so call it 20 and they grew revenue year over year in 2021 at 16 which was kind of underwhelming i will mention that this falls just short at 36% when combined it's close, but the top line revenue growth rate was only 16%, which not great for a company valued at what it is. So these are just random examples. This is not a must use metric at all, but I think it's interesting when comparing, you know, profitable software companies side by

side or just any software company side by side. But like I said, I use it, I use it for other ways to, to just figure out like, again, it kind of goes back to that first thing I was talking about, which is margins plus revenue growth, drive long-term returns on all equities, not just software. So, um, it's just a little fun thing to look at. I always look at margins and I always look at revenue growth. So it's a fun little thing to look at. Yeah. Yeah. I mean, I knew about the 40 rules, so it's nothing new for me, but it's definitely a good tip for people looking to just get a quick glance whether a company, a software company is worthwhile or not.

And I'm going to do a deep dive into, we're going to do an entire, man, on the Stratosphere community forum, it had like over 20 likes, which is a lot for a specific post of asking us to go through metrics kind of like one by one for an episode. And that is coming, but I'm just timing it up with when we launch uh all those metrics in one place for you guys so that it'll be actually actionable so that's coming in the future uh simone anything else on your mind this this fine web this fine wednesday no no i think we we went over everything and some little bonus that we didn't even have on the notes. So, yeah. Yeah, that's the good stuff.

That's the authentic stuff. All right. Thanks so much for listening. We appreciate you guys very much. If you have not rated the show, shared it with your friends, someone who can learn just something from it or just entertaining. Like, I find listening to this stuff entertaining personally. I know a lot of you guys do as well. I listen to finance podcasts, other ones as well. So it's a real thing. So yeah, share with a friend. Really appreciate it. If you haven't checked out

Stratosphere Investing, go to stratosphereinvesting.com. There's so much there. go to stratosphereinvesting.com. There's so much there. Someone today on Twitter said, it's Yahoo Finance on steroids. I thought that was a really good endorsement because stop using that three-year crap. It's free to get 10 years on Stratosphere, 10-year financials, baby.

Let's go. Okay, thanks so much for listening. Really appreciate you guys. Bye-bye. Take care. The Canadian Investor Podcast should not be taken as investment or financial advice. Okay, thanks so much for listening. Really appreciate you guys. Bye-bye. Take care.