John M. Jennings is the president of St. Louis Trust & Family Office, a professor at Washington University's Olin Business School, and the author of The Uncertainty Solution: How to Invest with Confidence in the Face of the Unknown.
The Motley Fool caught up with Jennings to discuss:
- Why the improbable happens all the time.
- One key attribute that some of the best-performing stocks have in common.
- And the business advantage that "fast followers" have over pioneers.
To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. To get started investing, check out our quick-start guide to investing in stocks. A full transcript follows the video.
This video was recorded on May 14, 2023.
John M. Jennings: I think that's a goal for a lot of people they'd love to vault into the tens of millions or hundreds of millions of dollars of wealth. What we've observed, and I've done some research on this as well is really to get that much money, you're not going to get there typically by just having a little bit of money, 10 grand or 50 grand, and investing it in the stock market. The way people get that much money within a few decades of a career is with almost no exception. They are owners of the business.
Mary Long: I'm Mary Long and that's John M. Jennings, President of a wealth management firm that specializes in serving high-net-worth individuals. He's also the author of the new book, The Uncertainty Solution: How to Invest with Confidence in the Face of the Unknown. Earlier this month, Deidre Woollard caught up with Jennings to discuss why one in a million happens more often than you may think and the difficulty of investing in trends. Quick note, this conversation was recorded on Friday, May 5th.
Deidre Woollard: I love this book because you talk about uncertainty in a way that I think is really important for people to understand. Just to start off with one of them, you give mental models throughout the book, which is really helpful. You talk about accepting the highly improbable happens all the time. I don't think most of us think of the improbable as happening every day. But if we accept that, how do you prepare your portfolio and really yourself to handle that?
John M. Jennings: Well, I'll tell you, it makes life maybe a little less fun. Because sometimes when we get coincidences it's fun to think that, oh wow, there really is this meaning to the world in life. For instance, like yesterday, so like I mentioned, I'm down here in Miami. Yesterday I was being interviewed on a radio program, NPR up in Grand Rapids, Michigan. Then like two hours later, where at this event for Formula One. Who do I need but somebody from Grand Rapids, Michigan? There's 200,000 people that live in Grand Rapids, and here I meet with somebody from Grand Rapids and I could go, oh wow, like that is just amazing. Maybe this person I should keep in contact with them and we should become email pen pals or something. But the thing to remember is that there are so many things that happen day-to-day and week-to-week, that would be surprising if things like that didn't happen. There's something I write about in my book called Littlewood's Law of Miracles, where this economist said, if a miracle is a one in a million chance or one in million occurrence. He said we have about 30,000 things that we observe or experience every day. If you do the math, that means you're going to have a miracle about once a month. Thirty thousand times, about 30 days is it gets you close to million. It would be really surprising if we didn't have these things happen. The way to look at this from an investment standpoint is to realize that there's going to be things that we don't predict. Like I didn't predict I'd meet somebody from Grand Rapids right after I got off a radio show from Grand Rapids. There's going to be all things that are going to happen that just seemingly come out of the blue, like we're going to have boat stuck in important shipping canals. We're going to have pandemics and terrorist attacks and wars and bank failures out of the blue. We thought that the banking system after the financial crisis was good to go. We had all these stress tests and it turns out that we have this hopefully mini-banking crisis that's happened. I don't think anybody who saw it coming.
Deidre Woollard: Thinking about all of these inputs, you described the stock market in your book as a complex adaptive system. What does that mean and why does that make it so hard to figure out? As you talk about the book, economists get it wrong a lot. I'm right now with everyone predicting the recession, economists seem to be getting it wrong even more than usual.
John M. Jennings: I know so, yeah, this morning we got some information about another strong month in terms of jobs created. It seems like this recession, at least from the employment side of things, is yet to materialize. What a complex adaptive system means is that you have a lot of inputs and you cannot determine with specificity what the output is going to be. That's because you have the actors in the system. Our heterogeneous agents as they're called. They're intelligent and they can change their behavior. They learn from watching each other. They learn from the change in external environment and they create feedback loops. An example I talked about in my book that we all experienced just a few years ago was toilet paper hoarding in the pandemic. It was a situation if you all remember. You go to Walmart or Target or your drugstore, grocery store, and there would be no rolls of toilet paper, no package of toilet paper. Who knows why it was toilet paper that everybody started hoarding? If somebody had said, oh, we're going to have this pandemic and things are going to shut down, what do you think is going to be hoarded? I would've said jugs of water or cans of beans or, I don't know, beer, [laughs] wine, whatever. It'd be something other than toilet paper. But once it started, it was completely rational on an individual basis to buy as much toilet paper as you could. Early on in the pandemic was about early April, I go to Walgreens to pick up a prescription and there on the shelf was one package of toilet paper. I couldn't believe it because every place was out of toilet paper. You tried to order on Amazon or Boxed or whatever and it's like, OK, well, four months delivery. I bought it even though we had plenty of toilet paper at home.
I remember I told the clerk when I was checking out, I was like, "I'm so sorry, I'm being part of the problem instead of part of the solution." She was just looking at me like move on. Don't infect me with your COVID discussion complex adaptive systems. But it was completely rational once it started for everybody to buy toilet paper. But it created this system might affect, that was bonkers. This happens over and over again in complex social systems because everybody's watching, everybody watch everybody else, we can't predict what the outcome is going to be. We've seen it with meme stocks and we see it with the run-up of different cryptocurrencies, in Dogecoin which was really in, probably still is a joke. Elon Musk tweets about it and people like, oh, I think if Elon Musk tweets about it, other people think is valuable, so I'm going to buy it. Then when it goes up, it creates this feedback loop and more and more people buy it. We see it with gold and other commodities. It just happens over and over again. The more complex the social system, the more inputs, the more actors like an economy that has hundreds of millions of people or global economy which has billions of people. The less ability there is to predict what's going to happen. This is why it's so hard to predict what's going to happen to the economy or in the stock market.
Deidre Woollard:It makes me wonder sometimes why we even bother to predict. But there is a psychological safety idea of someone telling you what they think is going to happen feels better than we have no idea what's going to happen.
John M. Jennings: It absolutely does. The premise of my book is that humans don't like uncertainty. We like it a little bit, that's why some people like to gamble and we don't want to know a novel or movie. Because we get a little hit a dopamine and we feel good when uncertainties resolved. But in general, we don't like uncertainty. It makes us feel anxious and worried, and it's really a primary human motive. We've evolved to become these organisms that like to recognize patterns. When we can't see a pattern, we feel antsy and worried and anxious. One of the things that happens is if you talk to a confident expert that tells you what's going to happen in the future, to some extent, we feel like our uncertainty has been resolved. Even if the expert isn't very good at predicting or they're wrong, we still got that hit the dopamine and because we want to know and were flailing around, sometimes where explanations or seeking patterns will continue to click on those expert opinions. Even with all my research in this area, I've written a book on this. I still find myself succumbing sometimes when I see a headline. I just saw one this morning, where a bond guru was predicting what the 10-year treasury was going to be by the end of the year. I read the headline and I almost clicked on it because I was like, oh, I want to know the shape of interest rates. What's going to happen?
Deidre Woollard: I wanted to talk about something that the book that you talked about, which is the idea that making money and preserving money are totally different ways of thinking. I'm wondering if you're at the stage where you're both accumulating wealth and you're trying to invest wealth. How do you hold both of the mindsets in your head at the same time and how are they different?
John M. Jennings: I was talking about really building great wealth. Our firm, we mainly work with families with $50 million and up. Our average client family has about 200 and something million or medians more like 160. But we're mainly working with extremely wealthy families. I think that's a goal for a lot of people they loved to vault into the tens of millions or hundreds of millions of dollars of wealth. What we've observed, and I've done some research on this as well is really to get that much money. You're not going to get there typically by just having a little bit of money, 10 grand or 50 grand, and investing it in the stock market. The way people get that much money, within a few decades of a career is with almost no exception. They are owners of a business. Either one they founded themselves or their family founded or they were maybe top executives, maybe CEO in a publicly traded company. What this means is that there are concentrated, so they're not diversified. They're taking on a lot of risk. They typically put all their time and effort into it. There are obsessed, it becomes their life to build these businesses and they get lucky. What I love to ask is, clients of ours, when they sell their companies for tens or hundreds or hundreds of millions of dollars to what do you attribute your success? The most common answers are, i surrounded myself with great people and didn't get in their way. Number 2, I got lucky. That's typically how you generate great wealth. Then there's this idea of preserving wealth, which also means growing it absolutely. It doesn't mean, oh, I'm just going to sit here. I have my 100 million and I don't want it to grow, but in order to not lose it now, because remember, the vast majority of companies don't make it to their tenth birthday.
In order to avoid losing it, you need to do things that are opposite. Instead of being concentrated, you're diversified. Instead of being high-risk, you're lower-risk. Instead of you being personally involved, you're typically a passive investor, which means you're investing in somebody else's company. You don't have much of a say or sometimes any say over what these other businesses are doing, often it's public stocks. Then finally, definitely luck plays a role, but you're putting in a process and a discipline that is trying to smooth out the effects of luck, so it's this other mindset. The other part of your question is, can you do both at the same time? Absolutely. Well, we talked with our clients about once they've made all this money, which bucket do you want to be on? How much of your investment assets or your wealth do you want to be trying to create more great wealth versus preserve it and smartly grow. Again, smartly grow, you can just get a 7.2% return, it doubles every 10 years. It's not like you can't do really well in a diversified portfolio, but I think it's important to understand which category you're going to be in and understanding then the category of creating great wealth is incredibly hard. Again, there's a big dose of luck, it's very risky, and we tell our clients, once they've done that, they probably shouldn't put a 100 percent back in there, some smaller percent back into this bucket of trying to create great wealth again out of a smaller amount.
Deidre Woollard: That brings me to the next paradox which is this idea of you're building your own strategy, you know you have to hold on in a tough market. You know you have to trust your plan. But at the same time, how do you know if maybe you're not too overconfident? You talk a lot in the book about overconfidence getting the best of you. How do you balance that idea of trusting yourself but not trusting yourself maybe too much.
John M. Jennings: We all react emotionally, even if we don't think we are. We think we're rational, but we react emotionally. We've all heard about all these behavioral biases that we have and we're all overconfident. I think that's so important. Because of our overconfidence, we think other people are overconfident and we're not as over-confident, which is an aspect of being overconfident. Part of being over-confident is not having the humility to understand that you don't really know more than other people or maybe even most people when it comes to investing. If you're somebody that knows a lot, realizing that maybe a lot of what you know isn't helpful when it comes to investing because the markets and the economy are complex adaptive system and it's hard to predict. I think it's key for us all to admit that we're overconfident. Really, practicing good behavior is the most important aspect of successful investing. What I write about in our book and what we do for our clients is really set up behavioral guardrails in advance, and this is where you have your investment policy statement and maybe even a statement of investment beliefs and you practice good behavior.
A lot of that is really simple but not easy to follow. It's things like being inactive instead of active. It's things like focusing on being simple in you're investing instead of more complex. It's following the simple algorithms of a strategic asset allocation. As I'm saying these things, listeners are probably going, oh my God, that's the most boring thing I've ever heard. Really successful investing should mostly be boring. If you're doing something that is exciting or sounds great, in our experience, most of the time that doesn't turn out well. If you just look at over the last 20 years, some of the highest performing stocks, Apple's number 1, but Humana is in the top 5 as is Sherwin-Williams. In the top 10 is TJ Maxx. There's all these great investments out there that aren't the sexy, fun investments and you're going to get those by doing boring things like being a really diversified, maybe even indexing lot. That's really a big key to successful investing, is really just doing things simply and being boring.
Deidre Woollard: But part of that is outsmarting your mind, the desire to tinker, I think we all have it. You talked in the book about simple rules to save ourselves. What do you do? Are there ways to stop that tinkering? Because inactive sometimes it doesn't feel good. We feel the need, especially at the markets end, we feel the need to do something, anything.
John M. Jennings: Yeah. What we found is the desire to tinker for a lot of people is basically irresistible. I'll tell you, I'm right there. In writing my book, I went back, and looked at my Schwab accounts where I can do whatever I want versus my 401K account at Vanguard and my 401K account's in four mutual funds. It probably doesn't even need to be that many, but it's a bond fund, large-cap, domestic, small-cap domestic, and a total international. I never look at it. It rebalances automatically. There's no reason to look at it. I went back and looked at the returns and they were really quite solid. Then I looked at how I've done and I was outperformed by my 401K and I'm pretty good, mainly passive. I do what's known as factor-weighted indexes mainly. But I also tinker, I found I'd get impatient and I'd sell out of some things or sometimes I'd buy individual stocks, so what we found is a good thing to do and we suggest this to our clients that have the propensity to tinker and I've been doing with myself for a while, is to create a play account where you can say, I'm going to give myself an amount of money. It's not going to be a huge part of my portfolio. Maybe it's one percent, five percent, 10 percent, whatever it is, but here's where I'm going to do my tinkering. For example, with this, again, hopefully, it's a mini banking crisis, back in March when the weekend that Silicon Valley Bank and Signature Bank failed, that Monday, Schwab was way down because they have a big bank. There's concerns about Schwab and they are our primary custodian and we know Schwab well. I know Schwab well and I think they're going to come through this with flying colors. I bought it when it was way down. It was like 52 bucks a share. Over the next few days, it went to 58, 59.
I was, oh my gosh, I'm so smart. This is so great. Then it dropped back down to 50, then 52, 50, 54, and then this week it dropped, to $46 a share. And I am like, "Oh my gosh, what do I do?" Do I double down because I know with loss aversion, we actually become risk-seeking instead of locking a loss. Do I double down, do I like buy more Schwab because if I liked it at 52, I must really liked it at $47 a share or do I sell and say, I'm just going to take the loss or do I say, wow, what am I doing? I'm a long-term investor, I believe in Schwab long-term, I'm going to stop looking at it, which is what I've decided to do but you can see I've written this book on all those great investment behaviour and uncertainty and everything and I still succumb to tinkering but I know that about myself. I bought this tiny bit, a Schwab in my little play account. I think that's a great practice for people that like to tinker. Then at least for me and others that I know and looking at a lot of our clients that do this. It's humbling than to see over time how your play account with all your great ideas and your over-confidence and your smarts and your biases. How does that do versus your hopefully more simple, more diversified, more disciplined portfolio? At least in my experience for me and almost all of our clients not well.
Deidre Woollard:That is my experience as well. I have a play account with some weird things that I think might happen. Like flying taxis and things like that but I'm not putting a lot of money on that. I've wanted to talk about AI a little bit. I know everybody talks about it, but you've got this chapter in your book, it's titled, The Trend is Not Your Friend. I feel like that's a message that people need to hear right now because everyone I know seems to be looking for How do I play AI. What do I do? Where do I go? How do I make money on this I'm sure there's money somewhere, I just got to find it.
John M. Jennings: The genesis of this chapter on trends, really was presentations that I started giving to our client families, years and years ago, and then started doing investment conferences because we'd have clients that would come to us, things like AI or cybersecurity or genomics. It's like OK, we've mapped the genome, CRISPR. I want to take advantage of that. I think that makes sense. You see something you'd think it's a trend. You think it's going to persist and you say, how can we make money off of it? Really in this chapter, I hit three of the primary challenges with trends. There are more than three, but the three I hit on are, it's hard to spot a trend early is number one. That's often because really trends that make a huge impact on our lives and business and other companies grow exponentially and we don't appreciate exponential growth. We're seeing that with ChatGPT. They went from the fastest technology in history to a million users. It took five days. There are all these other things that took months and years to get to a million users. They had a million users in five days and hit 100 million users in two months. It was just unbelievable and that's just one AI application. Once you see a trend, you don't know how it's going to turn out and it can shift and can change.
We don't know exactly what's going to happen with AI but I think the most important one with respect to evaluating AI right now is the section I call, it's difficult to spot a successful needle-in-a-haystack of investors. A key thing to remember is that [Alphabet's] Google was the 21st search engine. Wow. Back in the day, what you do is you do a search on AltaVista or Ask Jeeves or Dogpile or Inc. Tommy, or MSN surge, which later became being. You do all these different searches because they weren't all that great. You would do them in different things. Then along comes Google. This has happened over and over again. There's actually a term for early movers versus fast followers. There was a study out of USC's business school that found that the average fast follower is really like 10, 13 years after. When the pioneer went into business but looking at long term market pioneers are the early movers, long-term had a much higher failure rate, like nearly a 50% failure rate, long term and long-term only have a 7% market share. Whereas the fast followers have a much lower failure rate and tend to have 40 plus percent of market share later on. I think that's an incredibly important mental model. To say in an early industry, there's all this creative destruction. You don't know exactly who the winner is going to be. It happens over and over in the automobile industry. In the first 20 years of the 20th century, 775 automobile companies went into business in the US and 600 went out of business.
There are only seven car brands that are in existence today, that existed prior to 1920. There have been over 500 television manufacturers. Now 10 provides 75% of all televisions in the world. You look at smartphones. It's been hundreds of smartphone manufacturers now just two Apple and Samsung have nearly an 80% market share in the US. Again, this is what happens. You have all these companies and everybody is competing. Even if you get the trend right, yes, AI is going to be huge and people are going to find ways to make a ton of money off of it, is really hard to know who the winner is going to be. The best thing to do is not try to pick these companies yourself. There's a few things to realize. You can use a specialist fund or ETF. Again, that's risky. If you wanted to do, electric vehicles, which it seems to be a burgeoning trend. I drive one myself, and they're amazing to drive but anyway, you could buy an ETF or you can buy a genomics ETF. I don't know if there's probably AI ETFs. You couldn't do that or you can find a specialist fund where there's actually humans saying here's what we know and we're going to buy. If you have enough money getting into venture capital, some of those funds are going to be able to do those things or if you just have a diversified portfolio, just realized that all these big companies, they were publicly traded companies, are looking to take advantage trends and often by competitors, these young start-up upstarts. Think about it like Microsoft is a huge investor in OpenAI, which is the company that has ChatGPT and Dally, which is the art one. Even now if you start using Bing we'll see how Bing does versus Google. It's using chatGPT somewhat in Bing searches. We have all these companies that are investing in AI that you already own in your portfolio, even if you own an index fund.
Mary Long: As always, people on the program may have an interest in the stocks they talk about. The Motley Fool may have formal recommendations for or against it, so don't buy stocks based solely on what you hear. I'm Mary Long. Thanks for listening. We'll see you tomorrow.
