The Last Time This Happened, Nothing Made Money for 17 Years

0:00You have 17 years in the US market where you made the zero. Momentum works until it doesn't, and then it tends to be disastrous. Jim Reid is the global head of macro research at Deutsche Bank. If you're buying a global tracker, you're almost 25 % exposed to seven US stocks. Radio, TV, airlines, all of these are fabulous inventions that the US has been at the forefront of. But the valuation of the US market has only been higher for a brief period of time in 2000 than it is today. This is not an anti-US story in the slightest, but the valuations are very high. You recently published a report called The Ultimate Guide to Long-Term Investing, and we're going to talk about it today and its findings.

0:38I just want to start by asking, what were you setting out to do and how were you measuring that? Yeah, it's a good question. I studied economic history, so I love long-term returns. I love looking at markets over the really long term. It's fascinating because I think you learn a lot about human psychology and human nature and just rhythms of long-term returns in financial markets. And I suppose I wanted to create a kind of a Bible of how one should think about investing for the long term. So ignore what's going to happen in the next six months or 12 months. If you were setting up a portfolio for your retirement, your kids' future, how should you do it?

1:21But if you just looked at the data, if you took the emotion out of it, that's kind of where we set off. And luckily, I've got access to kind of 200 plus years of data for 56 countries. So there's a lot of data there that we can use. How credible is the data going back? Because obviously, you look at MSCI World and their indexes, and they openly admit this is backtested, hypothetical potential data. I spoke to, is it Ed McQuarrie, I think? he dispelled some of the data that existed pre-1900 around railways and some of the records are patchy so how are you approaching that yeah look um all of the indices that uh we have got come from you know external provider and if you look through their work they patch together various different indices at the time and they they look at various uh things that allowed them to create a kind of a proxy index.

2:16And look, it's not going to be as good as the tick-by-tick data we have today, but it's a very good proxy for where we are. And to be honest, when I look at the data over that 200 years, even if I break it down into shorter periods, more modern periods, similar kind of rhythms and features occur. So I'm pretty confident it's a good way of looking at historical returns. So looking at the data that you have and that you've put together with your report, what would you say is one of the biggest risks that people are taking at the minute that they aren't realising? I think at the moment, if you were investing in global equities today and you bought a global equity tracker, you're essentially buying 65 % of the US because of how well the US has done.

3:08the market cap of the US market in the law of equity indices is 65%. And within that, the MAG7, as they're called, make up about just over 35 % of the US market. So effectively, if you're buying a global tracker, you're almost 25 % exposed to seven US stocks. So there's not really a lot of diversification in just buying a tracker at the moment. the global tracker is that not a function of it doing what it set out to do it identified winners they won i mean if you believe that momentum is the only thing that ever moves markets i.e the winners just get better over time then then clearly but i think the risk is that that works until it doesn't and then it can violently not work if that makes sense and that i suppose the risk at the moment is that those seven stocks, and I'm probably being a bit unfair, there are a couple outside of that, there are a couple of inside of it that are quite good.

4:06But generically, the kind of AI tech story is very, very highly valued at the moment. So you're taking a bet on something that's highly valued becoming even more highly valued. How long do you think that has been the case? Well, obviously, I mean, the tech sector really started to perform probably 2016, 2017, it performed really well. And there was a point in, let's say, end of 2000, 2021, where when rates were, interest rates were still pretty close to zero, people saying this is going to perform forever because when you've got zero rates, essentially you want to buy the longest future cash flow you can because rates won't discount that, if that makes sense.

4:54So people were saying buy tech because of zero rates. And then rates went up massively because of inflation in 2022. And suddenly the tech valuations just plummeted. And then a miracle came along, ChatGPT in November 2022. And since then, the biggest game in town has been AI. And the tech stocks have regained all of their losses and far, far more. So it's probably been a kind of an eight or nine year trade, but the most recent part of it is a three year trade. What precedent is there in history for times like this, do you think? Is there any parts? People draw like the dotcom bubble and that, but it maybe feels a little bit different.

5:36I mean, the one thing I would say is that the big tech companies make a lot of money outside of AI. So they're very, very good companies. If AI disappears, there's still a business there that everyone will use. There's still a business that everybody will use, but they will still be very highly valued, if that makes sense. So look, there are so many precedents through history for markets getting very excited about technology. And look, don't get me wrong. I've been doing this job now for 31 years. I know I don't look it. um i've been doing this you actually don't to be honest with you it's the nicest thing anybody's ever said to me um i've really forgot what i was gonna say i'll stop don't stop keep going yeah um it's doing this job for 31 years um most things in my career have been what i can see negative productivity so um we've got worse uh kind of making things better if that makes sense productivity has gone down but ai i look at it and i think yeah this could be really great for productivity it could be one of the first things in you know my kind of adult lifetime that is genuinely good for productivity but um history is full of these examples where you get something that's really really great for product future productivity and people just rush into it i mean you could go back as far as canal building where you had a boom and bust canals revolutionized most countries that put them in in terms of transporting stuff.

7:01But there was a boom and bust where investors lost a huge amount of money before the technology caught on. The railways, railways transformed our economies. But in the kind of investment phase, there was a huge bubble. It eventually burst. And you could go through things like airlines after the World War II. You could go through things like radio and telecoms in the 1920s, and obviously the telecom sector in 2000. So just by having a fabulous technology that's going to revolutionize the world doesn't automatically mean investors are going to make money from it. The one thing you said there is, and most of those things you listed did make money long term, they were revolutionary.

7:42It's just there was these short term enthusiasms that created a bubble that then burst. Your paper is about long term investing. But those bubbles tend to be short-term over-exaggerations of the impact of the technology in the next five years, but long-term they do pay off. So would it not pay to just ignore that short-term then? Well, I'd probably slightly twist it. If you believe that AI is going to revolutionize the world, then maybe you should buy a global equity exposure that just has a more equal-weighted allocation to companies and countries around the world and not put all your eggs in the AI basket because I think if AI takes off, it might make today's bad companies good.

8:27And those bad companies today are probably lowly valued, if that makes sense. So if you're a big company and you employ tens and tens of thousands of people, you could get much more productive with AI in the future, perhaps. And what's happening at the moment is that those big AI tech companies in the US are doing us all a favor by spending hundreds of billions of dollars making a fantastic product. At the moment, they don't have a monetization strategy. I think the assumption is that they will easily be able to monetize it. They're going to turn on ads. It's just going to be targeted ads. The internet is targeted ads.

9:03Who can target the ads the most makes the money, right? Yeah, exactly. But it might be that by the time it becomes fully ubiquitous, it might be so cheap that actually the investment they're doing today doesn't pay out. And it might be that if you're a big company today and you're not making much money, you can use these products cheaply and really make yourself more efficient. So if I believed in AI, as I do, I would probably prefer to buy boring, dull, unexcited companies that could get more exciting. Central to your work is valuations. It's this idea that over the long run, cheaper things will tend to do better than more expensive things, which makes sense, right?

9:43And you're saying that these big companies are very expensive and there's lots of cheap businesses in the market. But this feels to have been the case now for basically the whole time I've been investing. People have been saying that the American market is expensive and the markets like the UK market are cheap. The last 12 months has been the first time I think the FTSE 100 has outperformed the S &P in a long while. Why has it been that the market has ignored valuation for so long? Yeah, I mean, there's a few things to unpack there. I mean, the first thing I would say is that there will always, always, always be exceptions to any kind of strategy.

10:19So me saying you should always bias your portfolio towards cheap valuations if you're a long-term investor, I think that is 100 % the right thing to do. But the US in the last 10 years is proof that not every country meets that strategy. But the problem is, because the US has, in the last 10 years, done really well and been an expensive market for pretty much all of that, I think the assumption is that that's the way to invest globally for every market, or you can forget things that have normally worked. Whereas I would say the US success in the last 10 years is the exception rather than the norm.

10:57And if you looked at, as you say, in my report, the 56 countries we covered over 200 years, what you find if you do the analysis enough over enough cycles and average it all out, overwhelmingly it says buy cheap valuation markets, don't buy expensive markets. Now, clearly, some expensive markets will perform very well, and the US has. And I suppose the danger is that now the US is 65 % of the global equity market. You've never been quite as exposed to that strategy as you are today. And how much do you look at America and go, how willing to defend their position are they? In terms of, so like one thing I always thought American exceptionalism was this idea that they just created these people in an economic spirit and an entrepreneurial spirit that meant that they would, they win.

11:50They were unique. Now I look at it and go, it's that kind of manifest destiny that they had back in the Wild West of we're just going to take things. And maybe that's how they're exceptional. Their ability to defend their position at the top. like Trump is basically he will just go and get things if they think they're going to lose yeah I mean I don't think the political side is the reason why we're where we are I think the reason why we're where we are is that the US does breed entrepreneurialism and it does breed the ability to start something from from nothing and turn it into a multi-trillion dollar company in a way that Europe has always struggled to do, whether that's regulation, red tape, just institutions around, et cetera.

12:37So look, it's not an anti-US story in the slightest. It's a valuation story. So I would say the US is one of the very good growth stories, very good company stories in the world, but the valuations are very high. But what I mean is America shows the tendency to protect its position and its markets in times when they're faltering. They might bail out their markets. They might go out into the world and take actions to bolster their companies. They'll strike trade deals with other parts of the world under threats of tariffs to, you know, produce good returns for their domestic businesses. They'll kidnap presidents, take oil.

13:17You know, like beware the faltering superpower. And how much of the next 20 years could be defined by America just being willing to push the limits on what they need to do to maintain that position? Well, I think when you think about short-term performance versus long-term performance, people always factor these kind of things in when they're looking at where do you think markets should go. I think the US is good because of this, and therefore I'm going to buy it. But you tend to find they ignore the mean reversion element to it or the valuation element that in three or five years, that's already priced in.

13:50in three or five years, another story emerges. So look, and again, I wouldn't say, please don't ever own US equities. That's not what I'm saying. I'm just saying on a risk-reward basis, when you look at the data and try to take the emotion out of it, to buy expensive markets as your kind of main strategy, which if you were doing a global ETF at the moment, you would do. by definition, you would be buying mostly a US portfolio, you are taking a huge risk against the data. And one thing I would add, the US has been at the forefront of exceptionalism for probably 150 years. In that 150 years, you've had railways, you've had electricity, you've had sanitation uh you had fertilizers that made agriculture just boom uh you had the invention of assembly lines you had uh radio tv airlines pcs um i'm probably missing some out uh internet sliced bread it's sliced bread renewables um and now we've got ai all of these are fabulous inventions that the us has been at the forefront of and these some of these are just game-changing inventions.

15:08But the valuation of the US market has only been higher for a brief period of time in 2000 than it is today. So what the market is telling you from that is that all those brilliant inventions that made a lot of money for a lot of companies, especially US companies, so am I saying, hold my beer, I've got this new thing, AI, that is going to be even better than that. And look, it may well be very significant. It's risky, though. Yeah, yeah, yeah, I completely can see that. Is there other justifications as to why valuations may be higher in terms of like the market dynamics themselves? So one I could point to would be the so-called like wall of money that just arrives into DC pensions every single month, week, and the index kind of, the indexation that I think people have really bought into of just throw your money into the market.

15:56Could that be? Well, I mean, it would be if all markets were expensive. But if you look at, I would say global equities outside of the US are probably now about average valuation through history. Maybe 12 months ago, they were slightly cheap. They're probably average valuation. Now, there'll be some cheap, some expensive, etc. So it's not as if that wall of money that you talk about is actually making the whole asset class really, really expensive. It's more that a particular theme, US tech, is just so much in demand and people are buying it, if not any price, they're buying it at a very, very high price.

16:37I mean, obviously the last 12 months have seen the rest of the world outperform the US. So you could argue the momentum actually is in favour a little bit of the other way at the moment. And you are starting to see people try to diversify. I mean, I would say 15 months ago, so around about the time Mr. Trump came into power, I would say that in my career, I'd never seen so many people wanted to be maximum along the US. So people, whether it's retail, whether it's institutional investors I talked to, everybody wanted to be as much exposed to the US story as possible. And even with Trump coming in, I think the perception was that he was very pro-business and that would mean that US continues the exceptionalism.

17:30And the problem with that is that when everybody is kind of maximum long, it doesn't take a lot of change in kind of sentiment or momentum to people say, well, rather than be 80%, 90 % long US, I'll just be 70 % long US. And I think that's the story of the last 12 or 15 months. It's not as if people are desperately trying to get out of the US, far from it. It's just that they are looking at other areas to invest. And some of Trump's policies have actually encouraged the likes of Europe to start spending money in terms of fiscal spending in Germany. And that's meant that international investors have looked at other markets like the German market.

18:13Because Trump has almost forced the Germans to invest in, to do a huge fiscal package. to main i know you've been setting up your business recently so how's that been going pretty cool t unlimited is out and about um one thing i have found i was looking for a bank account and a lot of the big players in the game they don't they're not uh covered by the financial services compensation scheme so a little bit worrying because i wanted my money to be safe so i think i'm gonna go with tide because they cover up to 120 000 pounds it's a little bit worrying to me that you think you're ever going to have 120 grand in your business account bro I use Tide's Instant Saver account because I can earn interest on the money in my business account that I don't need day to day.

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19:30But one thing I could say about finance risks, definitely invested in stocks with zero research, just because my friend told me to, his research was, trust me, it didn't go well. Wow. So clearly risk affects you in both your personal and business life. And that's why we're really happy today to be partnering with Vanta. They automate a lot of risk processes and help you see the risks in a centralized platform so you know what really needs your attention. Besides risk, the main thing Vanta does is automate compliance with security protocols that you need if you want to do business with larger companies or grow internationally.

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21:04This was just a quote, and I tried to dig into what he thought that meant was. And I think one thing he was getting at was, if everyone went equal weight, the opportunity then disappears anyway. And also, you're betting on the losers with equal weight, not on the winners. Where do you stand with that kind of... Yeah, look, well, I mean, talking about betting on the winners, if you look at 2000, when the US was the only time the US market it's probably been more highly valued than it is today. Of the 10 companies that were the biggest companies in the S &P in 2000, four of those in 2025 actually made less money than they did in 2000.

21:48So essentially, 25 years has gone, and 40 % of the top 10 have actually deteriorated quite a lot. because in real terms, that's dreadful. So you could argue that the US, because it's the ultimate capitalist market, there's always going to be people trying to be the best company in the world or the biggest company in the US. So you don't always stay the biggest. No, no, of course. And therefore, momentum works until it doesn't. And then it tends to be disastrous, if that makes sense. So I think just by saying you want to be exposed to the winners it's fine but they won't always be the winners yeah but doesn't the rebalancing of the market of the market cap weighted index kind of address that because as a company grows in size you buy more of it whereas with the equal weight you're always rebalancing back to that point of if every company's 0.25 percent holding every three months you're selling the company that's currently run to buy back into those ones that are losing at that moment so the you're over rebalancing into that basically yeah i mean look uh when i do my um in in the report um which hopefully you'll have a link on in the in the show notes um it's really good thank you very much there's a second bit of flattery today i mean like you know elroy dimson and like the dimson mars staunton that's that's like hundreds of pages and you allow it people to read it the ubs one's quite hard to get hold of the full about you know so yeah great you can read it on the Deutsche Bank Research Institute.

23:21That's the word from my sponsors. We literally will link it in the comments or in the description. Wonderful. I forgot what the question was. Every time I get flattered, I blind you with flattery. So it's really the function of the over-rebalancing because every three months, you're selling whatever's gone up and buying whatever's gone down all the time. Well, let me give you some stats from the document I'll give you. I did this measure over 200 years. So for example, I got my 56 countries and I got my 200 years of data. Now, not every country has exactly 200 years. Some has 170, some has 190, but they've all got kind of decades and decades and decades and decades of data.

24:12And I did an exercise where I got those 56 countries and I split them every year into 28 cheaper than average markets, 28 more expensive than average markets. And that was my portfolio. I had a low valuation portfolio every year and I had a high valuation portfolio every year and I rebalanced it. But I did it for two different valuation metrics. So I did dividend yield and And I did price earnings ratio, which is price divided by annual earnings. I would say the very long run average of PEs across every country, every area around the world is 15 plus or minus. So you're buying equities at average valuations if earnings, well, if your price divided by those earnings is around 15.

25:07So as an example, if your earnings are 100 and the price is 1 ,500, that's probably an average company. And when you do that, consistently, you find the lower valuation portfolio outperforms over the long run. So for example, for dividends, if you bought a low dividend portfolio on the way that I said, your return over 200 plus years is about 9.3%, which is great. But if you bought the high dividend portfolio, it'd be 12.8%. For PE ratios, I just do the adjusted PE ratios. Over the last 70, 80 year where we've got data, if you bought the high expensive valuation portfolio in terms of earnings, your return would have been about 11.5%.

25:53Good. I mean, equities go up, so that's good. But if you bought the low valuation portfolio, your return would have been about 16.5%. So I would dispute that. I would say that if you do rebalance every year and almost mean revert, you will get a better performance. Every year or every quarter? Well, we did it every year. I don't think there'll be much difference if you... S &P would... A lot of the equal weights are every quarter because that's when they kind of reset the index, don't they? I think one thing as well with the equal weight is they tend to be... Diversification doesn't mean less risk and there can be added volatility, can't there?

26:29And I think a lot of people that are listening, they really need to understand that before they move to an equal weight portfolio, or if they were to. It doesn't mean that it's going to be a smoother ride. It can be even bumpier potentially. Yeah, look, I mean, the main reason I say equal weight is that it's just an easy way of doing... I mean, basically, I'm saying you should actually buy the cheaper stuff. So I'm actually... The recommendation from the report is arguably, take all the markets in the world, buy the cheap ones, don't buy the most expensive ones. now if you wanted to do that in the easiest possible way without having to do a lot of the research i suppose you would you would buy uh an equal weight as a as more of a kind of a don't buy the the the actual market weight because the market weight at the moment is massively skewed to the expensive markets now if the market weight was skewed to cheap markets that might be difficult to do but it could happen then you could buy the market weight but it's just at the moment the market weight one is skewed massively to expensive ones can you absolutely can you explain what you mean by expensive ones like when we say so for example like the us is too expensive currently what does that mean in practical terms like does that mean you're going to get lower returns in the future when it gets cheaper or how does it actually work for the investor yeah i mean i kind of always see markets like a piece of string um in the sense that you're here.

27:51And at the end of the day, equity markets tend to track the growth of the economy over a very long period of time. So let's say the global economy grows at 5 % or 6 % every year for 30 years. If you give me a piece of string, I'll roughly give you an idea of what global equities are going to do in that period, because they'll roughly track that period. So if markets aren't expensive, they're obviously bringing forward some of that future return. And that is essentially what's happening in the US today, because everybody thinks AI is going to make a huge fortune. So therefore, we are going to bring forward those returns.

28:34Now, where I would be wrong is if that 6 % suddenly becomes 9%. And then the market bringing forward those returns is more justified. So yeah, I mean, the piece of string is a nice, I think, a nice way of thinking about the destination, we know where it's going to roughly be, but it's whether you bring forward that or not. And I think there is a risk that some markets are bringing it forward. And can we talk about the expected returns? I'm not asking you to make predictions in terms of what they'll be. But on Merrin Talks Money, you said, I still think a market cap weighted index will be a good investment long term um but obviously i'm worried that audience might listen to you here and go bloody hell i need to be out of this thing so what what are you saying in terms of are you just saying it would be you may make more money if you're in an equal weight you're still going to make some money if your market cap waited you know yeah and look um it's difficult to give you a definitive answer that because no one kind of knows what what's going to happen to the world in that period.

29:41But one thing I would say is if you looked at 2000, when the US market was at its peak, and in valuation terms, not a huge way from where we are today, the S &P actually didn't go above its 2000 level till 2013. 2013. Actually, if you real adjust that for inflation, it was 2017. So essentially, if your inflation adjusted your returns, you had 17 years in the US market where you made the zero. If you'd have bought the equal weight in 2000, you would have doubled your money by 2013. So that would have been a really decent return. It's about 5.5 % per year in a bad market. So everybody knows that the market was bad after 2000.

30:27Yet if you'd have bought the equal weight S &P in 2000 and held it to 2013, you'd have doubled your money whereas in the actual market weight version you would have been uh in nominal terms uh flat is that not like one example of that strategy working and you're basically taking an it's like an active approach right an equal way you are making the decisions and not just back the market so it's not really like an index position it's not a passive it's you're betting that the smaller companies are going to do better than the bigger companies in there over the long run small caps tend to outperform big caps um we've seen that uh repeatedly doesn't mean to say big caps haven't done really well um but small caps tend to do better than big caps over if i went 200 years back to the start and i somehow bought a global index i know they didn't exist yeah but if i bought a market cap weight global index and i bought an equal weight and i consistently invested for that period which one would have won over the period um obviously we we can't actually track that no but from on the assumption that the um cheap markets would be more likely to be smaller markets than the expensive markets which would be more likely to be a higher market cap weighted i think the data in this report suggests that over the long run uh small is small is better or less market cap tends to beat big market cap in the long run what's the long run because obviously you did a report for 200 years is a long one like our lifetime 50 years 100 years or 200 years however long it takes for me to be right yes good answer um well look we in this report we looked a lot of it we did 25 years uh but we also sense checked ourselves to do five years at every point So when I look at the performance of portfolios on a buy cheap, sell expensive basis, on a five-year basis, it still works.

32:26I think once you get beyond kind of three to five-year basis, I would say the themes of this report really start to kick in. One year, it's a random, you know, one and two years, it's probably pretty random. But once you get to kind of five years, I think you start to get valuations that matter. because you know let's say a long-term uh investing approach is a career so 30 40 years potentially longer now because of longevity of individuals in retirement people could be investing for 60 years couldn't they yeah that period of the lost decade through 2000 post 2000 to say 2013 was that not just an opportunity to acquire units of the american market very cheaply before it went on the longest ball run in history it's like a passive index approach the point to buy the rough with the smooth.

33:13Do you know what I mean? We'd look at that and go, oh, that was a terrible time to be an investor. But it was actually a great time if you were accumulating into the next 10 years after that. Yeah. And look, there's always exceptions. So as I said, in the last... Well, the US market has outperformed for a couple of decades now. So the US is an exception. But if you were trying write the rule book on how you invest globally, you wouldn't use the US as your template, would be my argument. And also, as I said, the reason I make that point is that we have very similar valuations today than we did in 2000.