Joe Davis (3:01)

Thanks for having me.

Joel (3:02)

Okay, first question. What do you like to splurge on? Mine is craft beer. What's your thing, what's your jam?

Joe Davis (3:08)

Anything to do with cooking? I've been married for a long time. My wife and I were self proclaimed foodies. I can't cook that well. So ingredients, cookbooks, maybe a new piece of cooking utensils. We love cooking. So what we do for date night, going out Friday, food shopping and then so anything food related.

Joel (3:30)

That's great. Okay, well. And that's gonna save you money too, right? Being able to cook fancy meals at home is much cheaper than getting a fancy meal out.

Joe Davis (3:37)

Yeah, well, it's fun. I, you know, I cut the vegetables and she actually does all the hard work. But it's just something we can do together that's stress free.

Joel (3:45)

I love it.

Joe Davis (3:46)

It's nice.

Joel (3:47)

That's great. That's great. Okay, can you give us maybe a peek inside the world of Vanguard and maybe what it's like working as somebody who like read the book Trillions and I like the index obsessed with kind of the index fund. The advent of the index fund. John Bogle. Yeah. Tell me what it's like working at Vanguard.

Joe Davis (4:06)

Well, I remember my first day, I've been here over 20 years. It's a very collegial environment. We take the mission seriously. What I mean by that is just the brilliance of Jack Bogle was aligning the ultimate investors interests with how we should do our work and how should we prioritize? It's the investor. The end investor is front and center. Whether they're individual investor, retiree, someone saving for college and it's palpable. That is true no matter who you are at Vanguard. And it's an awesome responsibility. It's not our assets. We manage over 11 trillion doll today on behalf of the end investors who trusted us with the hard earned savings and capital. You're always thinking about ways we can improve and do things better for the investor. But the investor is always front and center and it's genuine. That's why myself and many of my colleagues, why we're so proud to have worked at Vanguard for so long.

Joel (5:09)

I don't want to go down a dystopian timeline, but what would have happened if Vanguard and Jack Bogle had not completely changed the access to low cost investments for the general public?

Joe Davis (5:24)

I would have hoped that someone else would have come along. I think the big great news for all investors is that Vanguard and other companies have helped lower the cost for all investors so the listeners on the call get to keep more of their hard earned money. If I recall, I had the good fortune of having lunch with Jack Bogle himself many times before he passed. I was earlier in my career. I recall Jack saying on more than one occasion that his one disappointment is he didn't see other firms emerge that would warrant the client owned and the mutual model that we have. Only because he was hoping to see those costs come down more quickly. But the fact is that they have come down. But I would like to have think that if Vanguard hadn't come come by others would have done as well. Because this is effectively adoption of a new technology. ETFs scaled mutual funds, managing portfolios, you can lower the cost through technology. That was not the case 30, 40 years ago. I know Vanguard gets a lot of credit. I think some of it's well deserved. But I would hope that someone would have done it had we not done it.

Joel (6:39)

You actually start the book by detailing a conversation that you had with Jack Bogle. This was what, two decades ago? This was a lunch that you guys were having?

Joe Davis (6:47)

Yes.

Joel (6:48)

What happened in that lunch conversation and yeah, two decades. Right? Two decades ago.

Joe Davis (6:52)

Yeah. And I don't want this to be a Vanguard commercial. It's just I tell you the context for that launch. So I'm only working one year, less than one year at Vanguard. I'm a new employee. So the fact that Jack Bogle even answered my email and had lunch with me. He's the founder of the company. Right. How can you make time? He didn't know my name, but I was just awestruck and just wanted to get to know him better. And he knew a little bit of my background gets just a little bit of the culture of the place. And we started talking things around what economists could do beyond just the next three, six months news flow, which I know is a lot of focus when you read the media reports. And I talk about that story of thinking about how can we help investors as they construct portfolios. What are the returns, the risks they could think about over a medium run horizon knowing that this is the Future. He knew I had more of the technical background, but he gave me a really good grounding. Like Joe, when you can, can you focus on trying to extend the industry's conversation around risk management, not performance chasing? But we know that these risks matter. We're talking about AI today. We're talking about deficits or trade tensions. They matter. And can we think about it in a way that we're not just making stuff up, which to be honest, sometimes is done in the industry. And so he threw down the gauntlet to me and it took me a while to address some of his requests.

Joel (8:21)

All right, so that makes me think when Vanguard has been making predictions about the likelihood of lower returns in the future. But you guys have been making those predictions for a few years now, basically saying, hey, future returns are going to be lower. That hasn't necessarily come to pass yet. But is that because of mean reversion market performance in recent years and how should we be thinking about those predictions?

Joe Davis (8:48)

No, I love the fact that, Joel, that you're mentioning that. It goes you to why we provide these projections to begin with. They are focused on generally 10 years out. 10 years is for a specific reason. It's where there is some reliability in the forecast. We I could give you one year ahead numbers, but I think they're fairly unreliable and they're ground on economic fundamentals as well as our diagnosis of future trends. We're actually very well aware, I talk about it in the book the elevated odds of AI being fairly transformative from an economic perspective and a market perspective. In one sense, we have among the most bullish diagnosis from the economy that I'm aware of in the asset management industry. Yet that is also part of the reason why we're more guarded than most on the full cycle investment returns. Because history clearly shows and that's why our projections are picking up, that after a period of very strong returns and no one knows when it switches, you just get more muted returns for a time. We're not bearish on even the headlines. Actually, the stronger the returns we see. It's consistent with our diagnosis of the economic trends. I know some just say, oh, if the returns are high yesterday, then they're going to be low tomorrow. It's not that simple. A lot of these trends vary over time. We try to account for those, but we're fairly bullish from an AI perspective. And that is not inconsistent with saying, listen, the markets could get a little euphoric here. I'm not saying sell investments. What we're saying is though do not Expect the future to repeat now we've been alone. And when you can say when you're early on a projection, maybe we're early, you could say you're wrong. I would say it's consistent with the logic. We have been saying that to be fair, three or four years, but our conviction is going up and we're finally starting to hear others talk about what they call the froth in the market. I think it's put this way, it's nice being not the sole voice anymore.

Joel (11:00)

Some individual investors might see those projections though and they might say, oh, lower returns for stocks in the coming decade. Maybe I should look elsewhere. What would you say to somebody who's thinking that?

Joe Davis (11:11)

Well, I think you say first of all, you think about these projections are primarily done from risk management perspective. So you would take these projections and say first of all, I would hope most investors, if they're investing, they have some multi year horizon, right? So first of all, what are prudent returns? And I'd say historically US stocks have been roughly 9 the past few years. We've been above that the next several years, next five, seven years, we can be modestly below that. And that's effective what our outlook is. But that does not mean for most investors that you should change your allocation. How I think about it is, okay, make sure you have that if you have an aggressive spending goal, you want to retire even earlier. You at least want to stress test those hopes or plans against those numbers of a 6% return versus a 9. Maybe your goal is still valuable or still reasonable. That's how we use these projections when we give advice to clients, perspective to advisors. I'd also say rather than selling investments, which can seem pretty aggressive, I'd say thinking about how you deploy new capital if you get a new bonus or when you work next year in your 401 plan, there are parts of the market that have not participated and our projections show the relative trade off. I don't view it as what some would call market timing because we will not be able to time this cycle. We try to disclose as much as possible. Some may interpret it that way, but I can't help that we disclose it. But I would be thinking about, I tell many clients been on the road hundreds of times this year. I would say think about deploying new capital to work and those investment opportunities are different than what the AI stocks are telling you now. And it's consistent with a lot of former investment cycles. So there's research behind it and it's kind of nice rather than saying people have not made a mistake, they do not need to sell their current investments. I would think about more in terms of how you deploy new capital and then stress test your aspirations and family goals, your portfolio goals on a lower return trajectory for a time. Maybe they're still robust to it. If they're not, you're going to have to increase your savings a little bit or thinking about these new investment opportunities. Hopefully that was a little long winded, Joel, but hopefully that gives context.

Joel (13:33)

No, that's helpful. It sounds like you're talking about moving the rudder ever so slightly instead of jerking the wheel.

Joe Davis (13:39)

Yes, it's a Loretta. And again, it's 10 years. I have investors candidly ask me good questions like, hey, why can't you show the one year, the two year numbers? I said I can give you the numbers. The confidence interval is so wide there's a lack of confidence and I wish we had more accuracy. We don't. Even in the 10 year numbers, our stock return, there's a 50% likelihood we're going to be between roughly 3 and 7%. That's a wide 3% per year and 7% per year. That's huge. But it's actually, it's data driven as evidence based. I wish they were narrower, but even the projections we've seen the past two years, I mean the returns are. I'm not being defensive on the forecast. It has been above our medium projections for sure, but it's not necessarily inconsistent with our view because of the nature of where the returns are coming from.

Joel (14:31)

Well, I think it shows just a lot of humility too, which makes me think about the way you wrote this new book. And I feel like there's a lot of humility in the process and in the presentation as well. Talk to me about AI and globalization and some of these trends that are feel really unpredictable. Like how do you try to make sense of them when you're thinking about investor returns moving forward when these things feel so first or second inning and it's just really hard to know where they go?

Joe Davis (15:02)

Sure. Well, you're kind, Joel, in your words. We began a lot of this project, started over, oh my goodness, probably three years ago. We started looking at AI actually my research team and I, 10 years ago, like a decade ago now. And I had to do my own deep dive on AI. I'm not an AI like techno expert, but had the prospects for more meaningful change. And so I started down this project saying I wanted a little bit firmer range of what the economic impacts could be, what the stock market impacts could be other than what I would call simple narratives. Joel, from smart people. I felt increasing, like I was in a narrative space. What I mean by that. I'll give you some examples. Clients would ask me, hey Joe, our deficits and debt levels in the United States are going up. At what point does the bond market care about that and demand higher interest rates or AI? Is it going to be good or bad? And they wouldn't define good or bad. I would find myself saying, I don't think we're de. Globalizing. I don't think it'll do much for inflation. But I was just giving you sort of more narrative base and I felt deficient as an economist. I know. No one knows for certain. No one knows. But we can certainly bring data and science to bear in the same way other disciplines do. A little bit more detail. I am not saying economists don't use data and evidence, but on these longer term projections, not in an integrated way. They may look at AI, but they're not considering debt levels at the same time. Or they may be thinking about the aging of society, but they may be leaving out the tensions between the United States and China. You and I know this is a living, breathing organism, but to my knowledge, no one was doing this, including ourselves. And so we, we had an audacious goal to try to create a framework that would allow for these feedback loops because they know they happen. What was eye opening to me was the economic diagnosis. I was not looking for it, I did not expect it. But it challenged my own assumptions, which I talk about in the book. Trying to be data driven in a probabilistic way, because that's how I think. Even good investors, goodness. I even talk about poker players. They always think about ranges and probabilities. You think about risks. And we're disclosing this to the whole community. I've disclosed it with policymakers. Maybe they'll improve the framework. I hope they do. But the diagnosis was eye opening to me and I've been in the business 20 years.

Joel (17:40)

What was the diagnosis? Which of your assumptions were most upended when you wrote that?

Joe Davis (17:45)

I think a widespread view is that the demographics are destiny. That if you have an aging society or if you have population growth that is slowing down, that you're destined for low growth and maybe either low or very high inflation, depending upon how you interpret those trends. Again, those things matter. They're components of growth, but they don't. Their accuracy in predicting future outcomes is really weak. That challenged my assumptions. I think it does challenge the profession's assumptions. Demographics are not destiny. In fact, there are very little reliability in future outcomes.

Joel (18:22)

That's so interesting. Why is that? Because it has seemed true for a long time that a declining birth rate and aging population, it just kind of sort of intuitively makes sense.

Joe Davis (18:31)

Why is it intuitively? It's a part of growth, but it only explains. Let's put it this way, it's part of the calculus. Part of GDP is how many people you're adding to the workforce every year. It's just that it accounts for very little of the movement up and down of these trends over 5 years or 10 years to really push it. Just think about aging, aging. You have fewer workers. That sounds very bad for the stock market. Doesn't it sound bad? It sounds bad.

Joel (19:00)

Sounds bad for Social Security too.

Joe Davis (19:02)

Human beings have been aging on this planet for a million years and did not stop industrialization. I'm making a really fourfold point. But to stress the point of no one is just bringing data to bear. Like, okay, they can matter, but how much is a small, medium, large? Our beauty of our framework is that we're putting them and we're putting up against other forces. So why demographics don't matter? Technology, how innovative makes us, the new products, how transformative, that does Corporations, that will matter more for GDP the next five years than all the demographics combined. Now, if it happens, if we don't get the lift from AI and we do have the aging and fewer immigrants and weaker population growth, people may say, oh, we had low growth because we had weak demographics. But the data would show, okay, that didn't help. But it was a lack of liftoff from innovation and new ideas that really generated it. And I try to show simple pictures. That was certainly one. All these factors matter. The trade patterns and globalization, deficits matter. The question is the magnitudes of how each of these are moving can really give you a decent handle of where the risks are from the economic and market perspective. 3, 5, 7 years out. This is not magic. It is how these things evolve. And it's our unique data. We brought probably the most data to bear on these concepts that I'm aware of in either the private sector or in the academic field. That's why it took us a while to do the work.

Joel (20:40)

One of the things that, that you pointed to in the book was status quo bias and that people often think that, hey, what was happening yesterday is what's going to happen tomorrow. Things are kind of on a trend line. Part of what doesn't get and one of my Questions for you too is what about the completely unknown things that blitz into our lives that we weren't prepared for that change everything like a pandemic. It's really hard sometimes to make these projections when there's unknown influences that might come down the pike.

Joe Davis (21:09)

Well, that's why some would say, hey, then why bother? So you're totally right, Joel. So you can do. If you say that there's two ways you can react to it and both of them are fair. I'll just give you my perspective on it. One is, you know what future is completely unpredictable, so why even bother? I would say, well then, but then why do financial planning exercises? Why do any risk management? You got to think about give some attempt at probabilities and magnitudes. And that's what was lacking in the industry. Some would say, oh, we're going to have a debt crisis. Okay, what's the probability of magnitude? Because without those two numbers, I can't even think about risk management and portfolio. Someone may say, joe, the probability is small. Yeah, bad outcome, but probability is really small. I may not alter my portfolio a lot versus no. If someone said, no, this is a material risk. Here's all the evidence why we've controlled for other factors. It's 20 or 30%. Oh, that's no longer a tail event that I can't predict. Martian could come down from the universe. What's the. I don't know. So there's always that uncertainty we have first acknowledged. That's why actually, I felt very strongly, in fact, why I came to Vanguard with Jack Vogel. He loved our approach of putting things in probabilities and magnitudes. I know today some in the market want just a number, but we're not going to apologize for the fact that we're given an attempt. No one knows what these true numbers are, but we are trying to be as data driven as possible. And it's certainly not like I woke up one day and said, Ah, it's AI transformation. It's going to be 70%. Why 70? Well, it's different than 50. Like I'm trying to. It's kept myself honest. I didn't want to be in the narrative camp. And then if now it also allows investors say, these are all the assumptions, these are all the things moving. They can change their probabilities based upon the discussion in the book. And they say, you know, Joe, I'm going to weigh these negative forces more. I think you're underestimating, I don't know, the tensions with trade. Oh, fine, maybe take that 20 to 30% scenario increase it a little bit, but at least we started the conversation. It's the end. It's your listener's money, but we've started the conversation. They can take our probabilities or they can move them left or right as a risk management framework, but at least it's a I would view this as a starting point to the conversation in this evolving dynamic, but at least we're putting numbers on the page and they're not. And they're grounded in all the data that we have to bear. Yes, there are things in the sample. The one beauty of going back in time is that history doesn't repeat. But there's been periods where the world has de globalized before major changes in demographics. People are shocked to see that our demographics changed. Immigration slowed, ground to a halt during the roaring 1920s. We've had sometimes revolutionary new technologies, but they're rare. But they do give you a glimpse. But we got to move those periods into the modern day because today is different. I think we've started that conversation. Hopefully investors can think of it through that lens.

Joel (24:19)

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Joel (27:09)

I'm speaking with Vanguard's Joe Davis and we're talking about AI, how it can impact, how it will impact your investments. It already is, Joe. It kind of feels like an inflection point is here akin to the PC, the Internet. Right. Those were revolutionary technologies. There were many others too. But those the Internet changed everything. Like this conversation that we're having would not exist right without the Internet. Just think about the abundance of podcasts like spheres of commerce that just weren't possible before the Internet came out. And it's just so hard to know in the beginning how that's going to shake out. Hence the dot com bubble. There were even companies doing things that now successful companies are doing, but they just couldn't make it work in the early days of the Internet. So what are the possibilities? Like think, think. I'm thinking about it through that framework of the Internet and how it changed things. Is AI gonna is it similar in its potential impact? Is it greater magnitude? How are you thinking about that when you're forecasting?

Joe Davis (28:10)

Yeah. So I'd say, and I try to boil it down. But the one power of our data driven FR are we're looking all technologies that they're meaningful affect us meaning the economy, workers and the markets through three dimensions. One is they automate some of the work we do. That can sound bad. Yes, it can be disruptive but it also leads to greater standards of living and growth. Second, it augments us. It's the computer for helping you with this podcast and the Internet today Joel. That's a copilot Then the third is what general purpose technologies do and you just mentioned it create new industries or platforms. The Internet helped enable online shopping. Didn't create online shopping. But without the Internet we're not talking about it through our framework. It says the odds are significantly tilted in the data driven way because we have all this data and they evolve. We're picking up signals today based upon those signals. There's a likelihood that we're in the third end of this. But we're likelihood that AI is more transformational from an economic perspective than even a personal computer. Our data we can compare the projections versus what it did underneath the surface to the computer, the Internet, the automobile, the electricity. It's not an electricity, but it's meaningful. It's not going to be a dud. Odds are than social media, but it's got to accelerate its development. And that's why the odds are roughly 55, 60%. Why they're not 100. I get two reactions to this forecast. Those that are pessimistic on AI say hey you're, you're too bullish. But I said no, you're ignoring the history and the signals. However, those that are very bullish. I've been to Silicon Valley multiple times and they say how is it not 100%? They literally will say I will not mention individual companies but they say we know the probability of AI transforming is 100%. I say well, you are also overestimating that yes, this development will happen. It has not happened yet, nor have the new platforms emerged.

Matt (30:13)

Yeah.

Joe Davis (30:14)

And so half of the growth effect comes from which we'll get to our investment thesis. Why some of the investment implications are different with the current headlines. Half of the growth lift is these new companies and industries I talk about in the book like computers. It was some of the online shopping, some of these media and communications. Electricity help power the assembly line which help automobile manufacturers. But without electricity we don't have those dividends. It created the movie industry or enabled it entertainment industry. We didn't have an entertainment in that regard. It's anticipating I See the blob of my computer screen? It goes from negative to positive. These are new industries and new investment opportunities. I am racking my brain what those companies are. I have no clue what those industries are. I can speculate, but I'm telling you that is half of the lift. Half of it is just the disruption it will do to our work. We're saying that in 80% of the occupations, most listeners on the call will see their job change by at least 30% over the next seven years. That's a bigger change than we saw with the personal computer. It is big and not everyone will win. So I'm not going to sugarcoat it. There's some significant change coming if AI continues to advance.

Joel (31:31)

One of the things that investors have seen is a handful of companies just grow to enormous sizes and enormous valuations. And so some people might think of as an investor like, I missed out on the earning, I missed out on the growth potential. I should have invested in Nvidia four years ago. Five, whatever. And what would you say to those people? And it's also, we're in this space where there's going to be so much competition, it is hard to determine who the winners and losers are going to be, even if the AI space in general is going to continue to grow at a significant rate.

Joe Davis (32:07)

Listen, first of all, the stock market's been up a lot. So thank goodness for everyone keeping invested and doing well. It's a good point. If you've been overweight technology stocks in your portfolio, congratulations. If you have and you feel like, hey, I've left money on the table, so what do you do now? What I was surprised to find I did not expect it, is that the areas of outperformance and underperformance. Let's fix on the stock market in a technology cycle loosely has two phases to it. And I didn't know this, the first phase can last. Now, it varies, but let's call it five to seven years. It's the producers of the new technology. It was the electrical companies, the GEs of the world, 1910s and 20s. It's the computer companies in the dot com in 1990s. Think of it. Today, it's the AI stocks. If it's AI, you're really going to continue to advance. They do fantastically well for good reason. Earnings growth is explosive, the technology is spreading, it's starting to be produced at scale and there's huge profit opportunities. However, what I was shocked to find is that without exception, in the back half, in the second five to seven years is that some of that outperformance is switches, actually, and it starts to spread outside of the tech sector. The more bullish you are on AI, I tell investors, believe it or not, the more bullish you are on AI, the more I would be suggesting less overweight or even underweight technology in your portfolio the next five or seven years. People say what I said. I did not misspeak. Let me walk you through it. There are two reasons why this rotation happens. One is all the new entrants coming into the space. Joel, you just mentioned it, right? I'm not speaking ill of the investment. It transforms the economy. But hundreds, if not thousands of companies go into this space. Not all of them will emerge. I'm not saying that the large companies will go out of business. I'm not saying that at all. It's not clear to me who wins. But as a portfolio, there's a lot of creative destruction. The past five years or so, there's been over 4,000 AI companies funded in the US alone. That's more than all publicly traded US stocks. Some of them will fail. And it's not because AI is a bust. You just have to think about that. But it doesn't feel like that in the first phase. It feels like only the tech stocks are going up and it is massive outperformance.

Joel (34:35)

It feels like a bit of an arms race right now too, for these companies.

Joe Davis (34:40)

And then some will say, well, is that a bubble? I said, generally you get frothy investments as part of the reason why we have a guarded outlook, even though we're bullish on it. AI. But I don't. You never use the word bubble. Here's why, Joel, because it implies maybe. It maybe runs the risk of implying that the tech. If I hear bubble, I might be, as a listener may say, ah, then you're skeptical. And I'm like, no, no, no, no, no. That's skeptical. And there's just huge investment because people see the benefits. Some of them will probably misinvested. But, but, but I think everyone could be making rational decisions now. What happens though? Here's the cool thing. In the second half of the cycle, again, in periods where new technology, these general purpose technologies emerge, they are transforming the economy. So I tell those that are bullish on AI, well, if AI is so great, then how is it transforming the average profitability of the average hospital or the bank? Vanguard? If Vanguard was publicly traded, how are we being more efficient? What new platforms? Joel, you got podcasts to say you're a public company. How Are you scaling your business? I said I don't know what they are. But I said this is no longer social media, which means we use it, but it hasn't really lifted economic growth. If it's transformative, what happens? That's where the so called value stocks, the non tech stocks start to perform pretty well because now we're consuming the technology. The cycle goes from producing the technology to, to consuming it. Now again, what new platforms emerge, I don't know. I identify some areas of where it could be. I think the transformation has to go through health care, high unmet needs, cost, tough to scale, labor shortages potentially in the future. I think it's got to go through there as one. But I'm not an industry analyst. But that's exciting because those parts of the market have lagged the tech sector by a wide margin. So I would be saying, listen, as an investor, you have a little new capital coming to work and you are bullish on AI. You start thinking about the stocks outside the US and outside of the tech sector precisely because of the broadening effects. Now if you're bearish on AI, this stuff is hype. Then here's the thing, it leads to the same investment conclusion to if AI is hyped, then the Magic 7 are overpriced. The tech sector is going to underperform for a significant period. The irony is that in either the scenario the book talks about, you would want to start thinking about outside the tech sector in either whether you're bullish or bearish on tech. It's the bullish facet that I didn't see coming.

Joel (37:25)

I think for the average armchair investor it's like what have you done for me lately? And just like look at the Cathie woods fund, right when it was soaring in price and that's when everybody got in, was at the top. And then you have the, you know, eventual devaluation of, of that investment and it just makes it. Yeah like you can look back to the computer and the Internet era too and you can, you can show companies they were at the center of everything we did. I'm thinking about a company like AOL that was like everybody used AOL for email, for news, for communication. AOL is a shell of a company at this point.

Joe Davis (38:06)

It just goes to high failure rates in a period when here's the irony is that I have had to study a lot of these cycles is that here's the thing that comes out of technological change. Rapid returns in those stocks for a time. That's great. It's Actually a signal that technology has some merit. Huge failure rates, some stars emerged. Now we call them unicorns. You call them whatever you want. They could be existing or they become market leaders, become bigger. So you can find evidence of that, but you also find high failure rates. Now if I have to own the portfolio in the sector, I'm probably going to be stuck with a little bit of both. What I'm saying is you can start thinking is that, listen, this full investment cycle is not over, so stay invested. But if you want to be offensive, if you miss some of the tech run up, listen, this thing could go on for another two years. It's in our simulations, it wouldn't shock me. You could have further melt up. But if you're playing the long game, I'm trying to think in my own portfolios, hey, what's the next extension of this? If it continues and start thinking about well, how is AI going to be used? Think about then those sectors which aren't trading at really high multiples and that's actually playing offense, you could be bullish and think about, I'm starting to hear active managers start talking about this. And so I think we're onto something. And you got time on this, it's not going to disappear tomorrow. We got five, seven years on this.

Joel (39:38)

But essentially productivity is going to extend to so many other sectors of the economy. And if you're only focused on AI stocks, then you're too hyper focused.

Joe Davis (39:49)

If it stays in Silicon Valley, we got a problem. But I'm saying what horizon. If someone's saying for the next year, I said, well, next year we don't have that accuracy. But yeah, it wouldn't shock me. We continue to mount up. You want to chase some momentum, fine, go ahead. But re prepare for a rocky ride.

Joel (40:06)

What does a robust portfolio look like then? For the average investor who does have a long time Horizon, they've got 10, 20, 30 years and do simple strategies. Index funds, target date funds, do they need to be more complex than that or can bogleheads still do?

Joe Davis (40:23)

Well, first of all, the key is the asset allocation and driving down the cost. AI has not in any way, shape or form changed the investment principles which will be here long after AI and then the next tech and then the next technology. Next technology. And that's why I felt compelled to introduce in a very respectful way Jack Bogle, Vanguard's founders. He's probably done more for investment principles for the industry at large than I can think of anyone in finance. You got to stay invested. That's the first thing what I thought though, is most of the risks we are diagnosing are different than what some of the markets contemplate. Just think about risk management as you think about, and I try to talk about some actionable things in there, but they're not. I wouldn't call any of this, Joel a sea change. If you're listening here on Joel's podcast, as you always do, and you're thinking about, okay, how do I think about for my 401 or so forth, changes in moderation at the margin, if at all, but stay invested. Do not listen to those that are going to say the sky is falling, and do not listen to those that get so hyped up on AI that they see no risks in the market. Just on the downside, let's not think the world is ending just because our debt levels continue to go up. There's a way to overweight fixed income at the margin for more conservative investors, which also sounds contrarian, but don't run for the hills for gold and other asset prices. The signals are not what you invest in for the full investment cycle.

Joel (41:53)

Let's say someone does have a shorter time horizon. Let's say somebody's listening and they're on the edge of the retirement and they're like, stocks have been good to me and I should I take some chips off the table, Especially given kind of some of the potential, the ways that this could play out that could be negative from like a tech standpoint. Let's say we see some of the valuations pull back and investors kind of get a little tepid. That could have an impact for people who need that money more quickly.

Joe Davis (42:24)

Well, that's a part of a good, I think, financial plan or stress test. If someone's doing it on their own, listen. And any good advisor would have all the sophisticated math. Your investors may have spreadsheets and software and all that good stuff. Joel. But a way to simplify with not losing any of that great insights is to say a simple exercise. I even tell family and friends, so you take your money and you have your asset allocation right. You can pull up your balance right on your account. I say, just imagine a world. Next two years, we're down 30% and up 30% in both those worlds. Do the math. And I do it. I actually do it with Pen, I actually put in Excel. I dropped 30% of my portfolio. Oh, that hurts. I said, let's see that number. And now my wife and I go through that now I say, hey, hon, is this changing our lifestyle from what we know are we going to get? Do we have to put off something that we are planning on doing? If the answer is yes, then they should start thinking about modest change and take some risks on the table. But then also be aware that if you do that on the downside now, you okay giving up the 30% upside and look at that number too, because you have to look at both. You can't just look at one. I tend to be a little bit more risk loving, less risk averse, but there's no judgment in this.

Joel (43:44)

No, I appreciate, I appreciate that.

Joe Davis (43:45)

So if someone says I cannot be down 30, that's take chips all day. Others like, yeah, I can live with it. It's longer term, then good. They're probably looking at the 30% on the upside. I think there's nothing wrong. This is judgment free zone. And I say that's a really simple exercise people can do. You can add more math to it, but that gets to the same end point. And if the answer is no, don't change anything. If it's yes, then they're probably in the wrong asset allocation because most people don't rebalance, which things like target date funds automatically do. And it's kind of like on autopilot. But my brokerage account doesn't rebalance my stock portfolio. I have more risk exposed today than I did three years ago because the market's up a lot.

Joel (44:28)

Makes sense.

Joe Davis (44:29)

If I do that 30% down now, it's going to look like a bigger hurt than it did three years ago. Am I good with it? I don't know. We're going to do that at year end, my wife and I, and I'll let you know where we land.

Joel (44:41)

I look forward to hearing that. Okay, we've got more to get to international stock exposure. We'll get to that and more right after this.

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Do not let financial opportunity slip through the cracks. Use code howtomoney@monarch.com in your browser for half off your first year. That's 50% off your first year at monarch.com with code how to money still talking with Vanguard's Joe Davis and Joe, I have just a few more questions for you, but one of the things I'm really curious about too. We touched on this briefly, but how crucial are low costs in a portfolio, especially given kind of these trends that we might be experiencing? Is that something investors under consider the there are certain funds out there even when you're looking at something as basic as an S&P 500 fund, the cost can vary dramatically. How important is keeping the cost low? Is it more important in this environment or less important?

Joe Davis (48:07)

Well, it's critically important, regardless. The fact is it's part of compound interest. Benjamin Franklin, he said it 250 years ago. The power of compound interest. And even Einstein used to talk about it's probably one of the most powerful forces in finance people least appreciate high cost can eat at returns. And it's just the math. I want to keep as much of my hard earned money as I do. I would say that at Vanguard has always been the thesis. I know sometimes it gets in the industry. Listeners may appreciate this. Oh, should I go active management, active funds versus index funds. More important, this is coming from Vanguard, what we've always said it's low cost versus high cost. So push the extreme. If someone, Joel, if a listener on this call has, I don't know, a 90 basis point or 70 basis points index fund, I am saying as an employee at Vanguard, sell that fund. I cannot give financial advice, but I would be strongly questioning. And that's an index fund. But it's high cost.

Joel (49:15)

And those exist. Those exist. There are some.

Joe Davis (49:17)

That's why there's some ETFs that go narrow. Yeah, they have narrow space thematics. Some things are high cost. I'm just saying that's a hurdle you're going to have to overcome just like active managers have to overcome. So I've always been there's some high quality, even active managers, 20, 30 basis points, they still have to outperform the market, but they don't have as much of a headwind as say, I don't know, 80, 90 basis point manager. Now the index fund. I know I'm going to get the market return minus my expense ratio. And as Jack would say, I want to get as close to the market itself as I can. So that's a great starting point. But you know, I start to have reservations personally when I start going up north of, I don't know, 35 or 45 for sure, for broad market exposure. If I'm north of 20 or so. I'm asking myself why.

Joel (50:11)

You briefly mentioned international just a little bit earlier. I know Jack was not. He didn't necessarily think most people needed international exposure. Much exposure to international stocks. Has Vanguard's thesis on that changed much?

Joe Davis (50:26)

No, it hasn't, I tell you. And I was respectful. So Jack had all those years on me. He's the founder of the company. Company, but we Battled on that over the same lunch. He was asking me, I talk about in the book. He'd say, ah, Joe, we don't need international. You get the most exposure for the US don't sell the US short. I'm like, I'm not, I'm not, I'm not patriotic. I'm more diversifying of. And so I tell you so fract. This past 10 years, US has dominated non US and so I'm hearing Jack, I can hear him, I told you so, I told you so. He's been been spot on. Right. What I say though is that doesn't say why we ultimately say put some of your eggs outside the US it has nothing to do with the relative valuations as US more expensive, less. The fact is what history shows is roughly 4% of the companies account for half of the stock market's return of the last century. 4%. Just think about that.

Joel (51:21)

Wow.

Joe Davis (51:22)

Now the past 15 years, but the benefit of hindsight, it turns out almost all those companies have been in the U.S. well, great help. Explains the high earnings growth. It's not all, but it's a big chunk. Helps explain the strong returns the past 20 or 30 years. My only point is if you have 100% US exposure, I just remind people, whether you realize it or not, that's a very strong stance on technology, dare I even say almost arrogant stance, that the US is going to dominate 100% of the next great companies over the next 20 or 30 years. Now again, I'm not saying you shouldn't have a high U.S. weight, but just think about that. And I'm not 100% confident they will be in the U.S. i think the U.S. is very innovative, very entrepreneurial, more so than most economies. But I'm not 100% confident 100% of companies will come from there. That's why we say non zero. And then that also then diversifies your currency exposure a little bit. Given some of our debt risks at the margin. That's why you would have non us. And I would say that, bless them, if you were alive today. Now the valuations is secondary. Is the US more expensive than the non US we'll talk about that. But reasonable people can say, can I have 10%, 20%, 30%, 40% non US I think it's more just getting off the zero boundary because you just may not realize you have almost like this technology bet. For someone that says I'm good with the US I would just really move your mind. And this is smart people. I would just say respectfully, the smartest minds in the world 40 years ago said you only needed investments in one country and that was Japan, technology leader of the world. The smartest investors in the world by the way, that were right for 20 years. And I am not saying the US is following Japan. What I'm saying, I just like you.

Joel (53:23)

Want all your eggs in that basket.

Joe Davis (53:24)

All your eggs in one basket. So reasonable people, I said even if you have 5%, 10%, get off the zero bound a little bit. But thank goodness the returns have been so strong for US investors. It's been a huge.

Joel (53:35)

How has writing this book impacted how you think about your own investments?

Joe Davis (53:39)

Well, I think it's. Well first of all, writing a book is humbling. I've had to write academic style type work for years but to try to make it take all the jargon out of it took me more than a few tries. I will admit it beat me up. But as my mom says, it's always good to be dose given a little humble pie every once in a while. But I think it was really appreciating the opportunity for non consensus outcomes. And not to be alarmist on it, we are saying it's actually probably the most bold economic assessment that I'm aware of from any firm in the world right now. We are saying that the most respected minds generally have the same view. Central banks, International Monetary Fund. The probability of their forecast being correct over the next five years is 20% or less. Can you think about from my perspective, the audacity of that statement is fairly. That's pretty audacious statement but it's data driven. I was not looking for this forecast that was in itself but putting it in a way that wasn't being alarmist. What I hope is there's value in us trying to bridge the economic world into the investment world without me having to read 500 pages.

Joel (54:57)

Yeah, well no, and I think that's what you did really well in this and it gives people instead of just reading headlines and negative news or boy, this could be really bad. It gives people a framework to help understand how this is going to impact them as individuals over the next 10, 15 years. And so I think it's great work Joe, I really appreciate you joining me. We'll make sure to link to the book as well in the show notes. But thanks so much for coming on the pod. We really appreciate it.

Joe Davis (55:26)

Thank you for having me.

Joel (55:27)

All right. That was such an interesting conversation. So fun to have somebody from Vanguard on. Joe has just been an economist there for multiple decades and done Such great work and Vanguard is such a unique institution. It's been so impactful to individual investors. And so when I saw Joe's book come out, I was like, ooh, that's an interesting subject matter. Also interesting, like where it's coming from gave me even more pause to say, I think he would be a good guest and I hope this was a helpful conversation for you. I think when it comes down to it, my big takeaways from this were really to not change your investing thesis all that much based on the headlines. That is an interesting place to reside. Especially after Joe's like, hey, I'm super bullish on AI. I think it's going to have overwhelmingly, based on my modeling, a really big impact on our economy as a whole. Then you might think he would have some hot tips, some specific stocks that he would recommend. This is the direction you should go to maximize earnings over the next six months or six years. But really he said changes at the margin at most, most people should be making very small changes to their holdings and at low costs still matter more than ever. So even despite AI being a disruptive technology that is likely to have meaningful impacts across the economy, he's saying like you probably shouldn't do much that's a whole lot different. And I love how too he talked about actually if you're going to do anything, you might want to underweight technology. And so the last 10, 20 years has been the betting on technology has been a winning formula. But with valuations where they are and with his thesis that AI will be impactful, actually those impacts are going to spread to companies that aren't just the Mag 7. And I think there's a lot of truth to that. And I think he's right that if AI is going to be impactful, it is bound to. It has to by definition impact hundreds and hundreds and hundreds of publicly traded companies across the country and across the world and that those productivity gains are likely to help investors see greater returns in non tech stocks. These are really difficult things to prognosticate. Even like we started off the episode talking about the Vanguard's predictions about muted stock returns and he's like, yeah, last two years we haven't looked that great. These are really difficult projections to make. But I love that Joe's using data. He's doing his best to try to help people make an informed decision. And I think more than anything it helps me as an individual investor. Just like you, you're an individual investor, I'm an individual investor. It helps me feel solid about my choice to stay the course, to stay low cost, to not make meaningful changes. Even if other people around you or other people on the Internet are getting rich investing in a couple of tech stocks. Well, is that outsized growth going to keep going for years and years and years into the future? Maybe. But I think what Joe has, based on history and based on smart projections, I think he's come up with a reasonable framework for how we can think about where things go from here. And especially when you look back to the history of the PC and the Internet. Some of those companies that started off strong aren't with us anymore. Some are. Amazon's still here. The dot com bust hurt Amazon, but Amazon made it through. But then there are other companies that looked like they were poised to change the way certain business was done, and they just, they didn't last. Right. As an individual investor, now is a time to maybe not change things dramatically because of something you heard on cnbc. But it is time to step back and look at am I doing the basics right? So I hope this episode was helpful. Thanks as always for tuning in. You can find links to Joe's book and to some of the other things we may have referenced on the podcast today up on in the show notes on our website@howtomoney.com until next time, best friend out.

Matt (60:07)

Hey, it's Matt. Joel's also here. And we are fired up because we are back in another charity challenge. If you've been with us for a while, you might remember the last time Joel and I, we went head to head. I may have come out on top.

Joel (60:19)

Don't rub it in. All right, you did win, I'll give you that. But this year, we're teaming up in Daffy's Voices for Good charity Challenge, competing with other podcasters to see who can raise the most for charity.

Matt (60:30)

Yeah, for me, that means supporting GiveWell's top global health charities, like malaria nets and vitamin supplements that save lives for just a few bucks.

Joel (60:38)

And I've chosen fire, which defends free speech, undue medical debt to wipe out medical bills for families, and the Hope Effect, which is changing the way the world cares for orphans.

Matt (60:46)

And the best part, we are matching donations so every dollar you give gets doubled. And if you donate by December 2nd, you'll be entered to win a trip for two to the 2026 iHeartradio Music Festival in Vegas. So head to daffy.org voicesforgood find our campaign and donate. That's daffy.org voicesforGood Hiring isn't just about.

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Health Stuff Hosts (62:06)

On the podcast Health Stuff, we are tackling all the health questions that keep you up at night.

Joe Davis (62:10)

I'm Dr. Priyanka Wali, a double board certified physician.

Health Stuff Hosts (62:13)

And I'm Hari Kundabolu, a comedian and someone who once googled Do I have scurvy at 3am and on our show we're talking about health in a different way. Like our episode where we look at diabetes in the United states.

Joe Davis (62:25)

I mean, 50% of Americans are pre diabetic.

Health Stuff Hosts (62:29)

How preventable is type 2?

Joe Davis (62:31)

Extremely. Listen to Health Stuff on the iHeartRadio app, Apple Podcasts, or wherever you get your podcasts. This is an iHeart podcast.