92: PracticeCFO: Financial Markets Update

Foreign.

Welcome, everybody, back to another episode of the Dental Boardroom podcast. I am freshly back after the CDA convention here in Anaheim, California, where there was a lot of motion going on with a lot of dentists. Had a great event and excited to be back in the office. On the show today, I have two of my colleagues, one of our lead CFO advisors at Practice cfo, and also our head of investments, and it is Paul Lipschiss and Brandon Hobson. Hey, guys.

Hey, there.

Hey. Thanks for having us, Wes.

All right, this is a portion of our investment committee here at Practice cfo. And if you're a client of ours, you know that our end game is to drive financial independence earlier in life. Everything we do around the accounting, the tax and the payroll is just to give us great X rays to clinically help you with your money to become financially independent. And as such, we do manage a lot of assets for our clients as investment advisors. And as investment advisors, we need to keep our pulse on the stock market. What the Federal Reserve is doing, political decisions that are affecting market volatility. And in this episode, we want to give our listeners an update on what we're seeing in the markets, how we're approaching it as investment advisors and, and just share our thoughts on where we think things may be heading here this year in 2025. It is currently May 2025, and there is a lot going on in the markets and in politics. So let's kick this off. There's four things we're going to talk about on this episode. The first one is global events, primarily tariffs, since that is a significant driver to the market volatility right now. The second thing is we're going to talk about the Federal Reserve, Jerome Powell, what he's doing and what we think will be happening here with interest rates, bond curves, et cetera. Excited about that. Number three, macroeconomic trends. What are the threats and opportunities right now in the stock market? And lastly, how are we approaching that at Practice CFO as an investment committee? Sound good, guys?

Sounds great.

All right, let's kick off. So these things, tariffs, tariffs being that it's a tax that US Companies pay when they import from outside of the country. And there is a lot of different political opinions on this. On the one hand, it will help bring manufacturers back because they don't want to pay that tariff, so they'll build here on our borders and manufacture locally, which is, which is great. And then there's the other side, which is, well, if they're going to have to pay more money in taxes, to bring stuff inside the US they're going to pass some of that, most of it or all of it through to the price back to consumers. And that is called inflation or will lead to inflation. So there's a lot of sort of energized thoughts on this subject. Kick it off for us. Brandon, what are you seeing with these global events in the market right now and how can investors sort of interpret them as it relates to their investments?

Yeah. Thanks, Wes. So generally speaking, the biggest impact that I'm seeing in the market right now is the unknown, and the unknown being around what that tariff rate is going to end up being at once, everything's said and done, once the negotiations are done, country by country or the lack thereof, if there are, if there are not able to come to an agreement, if these countries can't come to an agreement, what that rate stands at. And until we know that, we really don't know the impact like you mentioned. And I'll go a little bit further on your explanation west on the tariffs because it is a little bit of an oversimplification in that companies in the US Are paying the tariff. But the question is, at the end of the day, who really pays for that tariff? Like Wes was talking about, it can be passed on to the consumer. That's, that's one way. Another way is that the exporting country will actually absorb some of that tariff in order to keep the business that they have or the contract that they have with the US Importing company. And the last but not least, the importing company can absorb some of that tariff, effectively eroding their profit margins. Right. Because they've opted to not pass that on to the consumer. And so we have a lot of unknown there. What's the percentage that the exporting country is going to absorb or the company in that exporting country? What's the percentage that the US Company is willing to absorb and what's the percentage that ultimately gets passed on to the consumer? And that varies industry by industry and company by company. So until we have that, we probably don't really know the total impact on earnings for these companies. But the one thing I'll end with, and then I'll pass it over to Paul, is that.

As they're working through negotiations here, it looks like the baseline tariff is going to be somewhere between 10 to 20%. It could be higher. Right. That's the unknown factor is that we're not 100% sure, but that's where it looks to, to be headed somewhere around 10 to 20%. If that is the is the baseline tariff or the average tariff that's applied to suppliers into this country, into America, then we can assume that Most of that 10 to 20% can be absorbed by the exporting country and the importing country. And if the business does not want to, then they don't have to pass that on to the consumer, right? At some point the business doesn't have a decision and they have to put push that cost to the consumer. But if it's within 10 to 20%.

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And it's looking like that can be absorbed wholly by the exporting and importing countries if they choose to do so.

I think that's a good comment. We don't know where the increase or where that tax is going to be absorbed. There's a whole supply chain starting in the foreign country and as it sort of routes back to the US there's various players involved and you got the exporters and the importers and then you got the consumer and that is something we don't entirely know is along that chain who's going to absorb these additional costs. And that unknown is just causing a lot of companies to be concerned. Paul, what's your thought on this?

Yeah, I think the biggest thing is what Brandon said, the unknown and that goes for who absorbs what on the tariff, but also what each country's kind of end mark will be. So we, over the weekend, last weekend we did see the start of a negotiation which it seemed between China and the U.S. so that'll obviously be probably the biggest one to unpack. But in the week prior there was some trade agreement which the details are still coming out between UK and the US So I think it's going to be nuanced country by country. And the reaction, the initial reaction I do believe was warranted to what was stated a blanket tariff across all countries at pretty high amounts. That would surely put a lot of friction into the global trade ecosystem which would be problematic for consumers and businesses. But as these deals are coming to a head, I think that's going to be the more nuanced approach that investors are going to focus on is okay, well what, what is the end number? Obviously that was some level of posturing to, to negotiate deals. I think we're seeing that's clearly the case. But, but where do these end up A holistically and then B for the material or the big players, China and I would put the rest of.

Southeast Asia, developing Asia and the EU into this category. But, but where do those deals end up? And I don't know if you've had a chance to thumb through those deals. Brandon, is there anything you're seeing from the early outset or is it still kind of a wait and see, case by case sort of dynamic?

Probably my biggest takeaway up to this point, Paul, is that no matter what agreement is announced on the day that it's announced, there's not going to be a whole lot of skin in the game for either country. So I think, and by that I mean things can change. So if they agree on something and announce it, a lot of that seems to be trying to grab the media headline because today we just heard China is a little bit upset with the US on some, some of the semiconductor threats that they're making. And so what that does is essentially calls into question any type of agreement they just came to a week or two ago. And if they're not going to live by the agreement, the agreement's no good. And so that's what I'm looking at or looking for mainly Paul, is to see if countries are actually going to do what they say they're going to do and if these agreements are actually going to be able to somehow have some enforcement mechanism. So if somebody doesn't do what they say, how do we rectify that? And if it's putting tariffs back on the country, which I think that's probably the remedy at this point, then that's going to lead to a long term unknown situation. And I don't think there's going to be a whole lot of clarity in the short term as to where we're headed.

Well, market seems to be reacting from the, you know, obviously our listeners are aware of the headlines from the initial reaction to where we are today in terms of stock performance. I mean, what do you, what do you guys think here? Like which one was wrong? The, you know, the steep 15% sell off or the, or the subsequent rally on the notion that hey, maybe some deals get done? I mean, clearly one sided. That dialogue was incorrect.

Yeah, my interpretation, who knows, who knows? But here's what I think. I think, I think that the market is saying at the end of the day, Donald Trump is probably going to be somewhat of a pragmatist on this in that if the markets get in his words, yippee. If the market, if the markets get yippee, he's probably going to not back down, but he's going to reduce it. And you know, his, his book, the, the Art of the Deal, it's all about coming in big. Right. Way out on this, on the, on the end of the fringes and then you negotiate, you land somewhere that ultimately ends up being favorable. You know, that's, that's the approach and that's what he's doing, doing here. And I think with the most of the market, as evidenced by the recovery, we're, we're now higher than it was. Was it February 2, April? I think it was April 2. Right. We're now higher. Right, Brandon, than we were on April 2nd in, in the market. And I think the market is saying, okay, at the end of the day when this shakes out, it's actually not going to be that significant of tariffs on this. The other thought too is there's going to be probably a rerouting of some supply chains. I think China will be affected on this.

No.

Whatever the outcome, and my understanding is that there's some rerouting over to India because India is probably going to have a lower tariff rate. I don't think that there is considered much of a kind of a political adversary as China is. So we don't know. We don't know. But I will say from my research on this, countries and companies are incredibly innovative at finding ways to reduce the impact of the, of the tariffs. For example, having the goods shipped to a country that has a lower tariff rate and then bringing it inside our country via that other country as well. So there's a lot of kind of figuring it out, sort of anticipating and then figuring out how are we going to maneuver within this new framework of these tariffs. So we'll see what Donald Trump says. But given there's so much power consolidated and in just the President of the United States on this lever, it's such a powerful lever, we'll see how much he decides to use that lever to get what he wants.

Yeah, I think, I think, Paul, I think the market probably overreacted in both directions. The reality was when the announcement was made on April 2, markets declined substantially.

Probably in react at that point they didn't know that Trump would probably, President Trump was going to pull back on some of those tariffs. And so part of it was just the announcement was so far and above what the expectation was for that day for tariffs. But like always, the market tends to overreact and I think it overreacted to the downside and now it's overreacted to the upside. And so we'll probably see a little bit of a peel back, I would imagine, as some of the details emerge.

So bottom line on tariffs, it's really just a waiting game right now. We do know it's going to affect the markets inevitably. And the markets right now are predicting, it seems to me at least that the markets are predicting that whatever the ultimate outcome is with tariffs, it's probably going to be a little bit more about negotiation and a little bit less about really steep tariffs. And I think that the market is okay with that, hence the recovery in the market. All right, now let's move into actually the Federal Reserve and Jerome Powell and I'm going to tether this back to back to tariffs. Obviously this is a big area that will impact drones, Jerome Powell's his approach to the interest rates and the bond yield curves because there's definitely a relationship between what's happening with tariffs and the market and therefore what he's going to do. So talk to me, Brandon, about the Federal Reserve. They decided to keep rates the same a couple weeks ago when they met. Are they also in just a wait and see position and how do you think that they're going to react to what the consequences are of tariffs?

Yeah, that's a good question. I think the Fed is currently in a wait and see position. That's, that's pretty much what they've communicated and I do think that they're being transparent in their assessment of the economy and the fact that they want to hold here for the next at least another meeting. I would expect maybe three to six months. We can see the Fed on hold while they try to let some of these tariffs filter through the economy. You know, really wait and see what that final tariff number is going to be. Of course their concern, Wes, is on inflation. Higher tariffs mean higher inflation. However, they also have a concern about unemployment. They've spoken about unemployment possibly rising as a result of these tariffs and just general other economic conditions that could, could increase unemployment. Unemployment has been on an upward trajectory for a little while. It's just been very modest. The increases have not been alarming or has not caused the Fed to react in any way really. And so I think, you know, if unemployment rises, the reaction should be to, to decrease rates to stimulate the economy. However, if inflation is rising as well, the Fed is going to find, find that it's in a tough position position there because any decrease in the rate at that point could cause inflation to continue to rise. And so they're going to have a balancing act. Paul, you had anything to add on that?

Well, I think especially with this iteration of the Fed, more than the actual policy decisions and the investment public's been reading into the commentary and the kind of the Q and A section afterwards and I think.

You know, we, we hear these, hear these meetings, then we spend the next several weeks trying to dissect them. So, so who knows. But I got the sense that the pal's decision, or sorry, the Fed's decision will be more probably tied in with inflate with unemployment data than it would be with inflation. Because, because it seemed to me like they're Expecting at least an initial jolt in inflation for one reason or another. I think anytime you see a shock on the supply side, the expectations to see some sort of materialization in the data of sorts. But who knows how long and to what extent that stays in. So, so I get the sense that they're definitely in that wait and see holding pattern. You know, he, he iterated so many different ways that we don't really lose anything by being more dovish or, or easy on rates right now. So we might as well wait and see and, and kind of react to that. But I did get the sense that, you know, for example, if we saw unemployment tick up a couple, you know, fraction of a percentage point before the next meeting, that would be the thing that would drive potentially a change in policy versus if they saw inflation take up 1 or 2%, I couldn't imagine they would react the reverse and be more, be more hawkish or be more, or consider increasing rates. So I believe in this juncture they're going to be way more focused, at least in the short term on unemployment data. Kind of what you're saying as well.

But overall, I mean, would you rate their policy stances sort of accommodative, restrictive, neutral? I mean, where do you get the sensor standing right now?

I would say they're probably right around neutral. I would say that that's where they probably want to be and, and what the neutral rate is, nobody really knows. Right. So there is a risk that they're holding the rate a little bit above neutral, which would make it a little more restrictive. But I think they're pretty close to neutral with where the rate is today.

You know, who I get concerned about is actually small businesses. I feel like big businesses can either some, a lot of them may get some exemptions. I know that there's some exemptions being made for certain products. It's the small businesses and small businesses employ, my understanding is like 70 to 80% of America is employed by small and medium sized businesses. And a lot of these businesses.

Have their products sitting at the docks and bringing it in is going to add this large tax and some of them are going to have to come out of pocket significantly. A lot of these are privately owned businesses or family owned businesses. Those are the ones that I'm a bit concerned about because I have been reading very anecdotal real life stories of these small and medium sized businesses who don't have the weight to throw around politically and yet they're very much subject to the consequence of these tariffs. And if that feeds through to employment. Then I could see the Federal Reserve kicking in. I think you guys are right. I think they're really going to look at unemployment rate. To me, it feels like the economy underneath all of this has been healthy. Unemployment's been low, inflation has not been too, too high and things AI and new technology is driving a lot of innovation, particularly around application layers of AI. New softwares are coming out in industries all over the place. I mean, I was just at the cda, the California Dental association event, massive event. Hundreds of vendors. AI was. There were a lot of booths talking about how AI is impacting all sorts of areas in dentistry, both around the clinical side and also the marketing side and business side as well. But it's so amazing when I walk into the Anaheim Convention center, you guys have been there. It's massive. And there's hundreds of small businesses and big but hundreds of small businesses just trying to innovate new products. It's like capitalism in action. It's actually a really cool thing. When I think about what we have here in our country and I think the underlying sort of source code of our economy is good and I do think it is resilient. Now that said, we're a highly leveraged country and we're a highly leveraged people, meaning that we all have a lot of debt and the country's got a lot of debt. That is what concerns me as sort of a bigger systemic problem. Right now our debt is getting so high in our country that the. It's going to become difficult to service the interest on that debt both in a government and personal level. And that's the thing that worries me in the long run. Do you guys think at all that this tariffs could be a tipping point like subprime loans were in 2008 or the dot com was in 2000 that could push our economy into a true recession?

Well, I think anytime you have this much credit in this credit cycle, and that's what I'll refer to this as is there's a borrowing cycle like folks refer to the economic cycle. And that's all well and good, but it. But it's largely driven by borrowing. And I think anytime you have, you're in this sort of late stage of that credit cycle where money's been easy for so long. Yeah, anything can really be the trigger. In hindsight, it always tends to look obvious. Now do I think, do I person believe that is the trigger? It's impossible to tell. And I don't think I.

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Would go on record making that claim, but it certainly could be, and I think that's part of the positioning here is, you know.

Reacting too fast or to, to too much of a high degree could potentially cause a spiral in inflation, for example, and, and that could be just as problematic as the demand side or rather the supply side from tariffs in that, you know, the cost of goods rises and it sort of hamstrings the supply side of it. One comment Jerome Powell had was that the Fed's tools don't really, they don't really impact the supply side at all. So if there is a supply shock, lower rates isn't going to do much to sort of offset that. What rates do is really trigger that demand side of the equation in that when money's cheaper, more of it's flowing, there's more borrowing, more capex. And so that's really what they're in control of. So could it, could it be the trigger? Possibly, and I think that's what the market's been trying to dissect. But I do think that a steady policy is probably the right move here to potentially avoid that versus having some, some level of knee jerk reaction. But yeah, anecdotally we are seeing it, you know, with our clients. There's just this sort of feeling in the air, so to speak, on you know what's happening and people are being more cautious in hiring and being more cautious with their expenditures. And I think we're seeing that at scale. But it'll be interesting to see how that comes in through in the data and if and how the Fed reacts to it.

Yeah, Brandon, I want to turn it back over to you a little bit. There's two things that I think really feel for me, really feel uncertain, at least make it difficult to predict the future. Number one is tariffs. We talked about that. The other thing is the effect of AI and the more I use AI, the more I'm just completely, utterly stunned by its power and how intelligent it is now it hallucinates, that's the word. We know that it will get it wrong for sure. That said, it is still remarkably impressive what it can do. And the downstream effects of AI as people build out applications of AI into softwares and things like that to reduce manual labor, that will have an effect on employment at some level. I think that's the other area though where we don't know on the one hand it's going to create a bunch of new jobs and on the other hand it's going to take away a bunch of jobs and we don't know what that net outcome is going to be. So these two things of tariffs and AI makes this a really interesting, difficult to predict time and in our economy. Speaking of long term, Brandon, what's happening at the long end of the yield curves? Explain really quickly like a yield curve 101 and the long term why everyone cares about the 10 year yield and where do you see that right now and its trends?

So I think the 10 year is hovering right around 4.5%. I think it was up today, so just just above 4.5%. In general, the yield curve is, is a, is a line that's typically upward sloping and that represents a term premium that you would receive for investing in a longer term bond over a shorter term bond. And so on the yield curve you have the shorter end. On the shorter end of the curve is a shorter duration. So it starts zero to one month and then goes all the way up to 30 years. And then on the 30 year end of the curve you typically have the highest interest rate because you're locking your.

Money up for longer. So you're going to demand more income on that.

Exactly. And they call that the term premium. Right. So typically it's upward sloping. In a healthy economy it at some point the yield curve was inverted I think several months ago it uninverted and that's when the two year is actually above the 10 year. And that would be, that, that's, that's not common. And basically your term premium is, is yielding negative at that point because your 10 years below the two year. So, so you want an upward sloping yield curve, a healthy yield curve. And right now the Fed's sitting at four and a quarter and four and a half percent on the short end the 10 years at about four and a half. So the curve is not.

Necessarily steep, it's relatively flat. And so we want to see that steepen. My thought is that the long term or the long end of the yield curve, 10 years too, that is going to continue to move up even if the Fed cuts rates, which the Fed typically impacts the shorter end of the curve more than any other area of the curve. And inflation, economic conditions and other things start to impact the longer end of the curve. So we should see longer yields move up as the Fed cuts rates on the shorter end. That will lead to a steepening of the yield curve over time.

Now that long term, 10 year, that's the, that's what drives longer term loans like home loans, correct? Or maybe even practice acquisition loans. Is that 10 year. And if that 10 year starts to rise significantly or, or just, just suddenly, then the ability to get those long term loans which are absolutely vital to the health of our economy, that, that's an area where everyone gets alarmed, correct?

Yeah, that's right. So right now the 30 year mortgage I think is above 7%. And like you said, that tracks closer to the 10 to 10 year yield versus any other duration on that yield curve. And so if the 10 year moves higher, you can expect mortgage rates to move higher, which you know, impact a lot of things in the economy, not only consumer confidence, but their ability to spend and consumer spending is driving roughly 70% of the economy.

And Wes, you asked why is that so important? I mean you alluded to it. It is the rate where a lot of credit is calculated off of. That's an important piece. But it also, you know, no one individual controls the interest rate on a ten year, for example. That's just the dynamics of supply and demand in the bond market. So.

We look at the bond market to give us clues about what the investment public thinks for the economy. So with an upward sloping yield curve, which Brandon talked about, which is the normal dynamic, what that tells us is.

Investors aren't rushing to the safe haven and driving yields lower by driving up the prices as much on the 10 year because they're more bullish on what the underlying economy is doing. Whereas in an inverted dynamic, what's causing that is a lot of investors are running into these bonds and driving yields lower. And one of those is just a flight to safety. So a steepening of the curve is something we tend to like to see for the longer term economic backdrop. That's the investment community signaling, hey, at least where things are today, it's probably better to be in risky assets than safer assets, which would normally be Treasuries.

Then what's the 10 year yield telling us right now, Brandon?

The 10 year. I think a couple of things. We just got another downgrade apparently that I think was Friday. Did you all hear about that? So, so that can factor in here and maybe that's why the 10 years on the rise today. But we should see, see that have some impact, right? I mean, if the, if the credit's downgraded, your interest rate should go up on the longer end. I think it's telling us, you know, right now it's probably telling us that the neutral rate, which we talked about briefly earlier, is probably somewhere around.

Probably more like 4, maybe, maybe high threes to 4% because the 10 years is a healthy 10 years, probably about 1.25% or 11 1/2% above the overnight rate. That's, that's historically pretty common. And so the fact that the 10 years at four and a half right now.

It'S probably signaling that the Fed could have some room to cut to bring that back in a normalized rate. However, times have changed and so some of those historical spreads may not apply any longer.

All right, well then here's a question for you. Let's talk about how this actually impacts specific decisions investors are making. Are there areas in the stock market that you think are undervalued or sectors that are undervalued or maybe even overvalued, and I do need to qualify that. This is not investment advice. This is just us evaluating from the outside in what's happening in the marketplace. And what are you seeing where investors might find some opportunities out there?

Well, I think anytime you get uncertainty, there is opportunity. You know, the market's wrong every day. It's, it's, it's actually constantly wrong. Over the long term, it's very accurate at pricing. You know, all of these dynamics, whether it be the economy, trade, taxation, all, all the rest. But I, I do think personally we're going to find out who's swimming naked. You know, there's that saying when the tides pull back, you Find out who's swimming naked. And with a relatively tighter.

Credit market than we've had the last 10 years, as well as some geopolitical tensions that are probably not going to make things easier, at least in the short term for trade. You know, I think we're going to find out who's got strong balance sheets, you know, who's really been prudent and who's investing in the right, you know, areas of, you know, economic growth. So I think Brandon will agree with me on this that some of the more boring sectors are probably pretty good right now. Utilities, consumer staples, things of that nature. But, but I also think companies that have just probably have less international exposure or are less reliant on international growth for, you know, to justify their valuations would, would be preferred. So.

Maybe not within the entirety of the sector, but I do think there is some value in, you know, some of the semiconductor companies, particularly the ones that would benefit from onshoring of manufacturing and fabricating. So, you know, like an ASML or LAM research, things like that. But, but I think, I think it would be more focused on balance sheets, more focus on fundamentals right now as potentially the tides pull back and we, you know, kind of see what, what's underneath the hood. I mean. Brandon, any other sectors or just trends?

Yeah, I mean, for me, probably at the macro level, I would just focus on quality. When you dig down into what the quality sectors are, you kind of arrive at those sectors that you're talking about. Paul, Semiconductors have bounced back quite a bit, but some of those typical quality sectors like materials.

Financials are actually positioned really well, pay good dividends, potentially.

Some deregulation too.

Yep. Yeah, some deregulation as a possible tailwind there and then. Wes, you talked about AI and the impact on AI earlier and in the market. And probably the biggest thing that I would say on that is that the unknown associated with AI has led to.

Some pretty high PE ratios. So call it PE expansion in the technology sector. Now you introduce unknowns on tariffs and other areas of the market where there's just always this unknown. But when you have the unknowns priced into these tech stocks, it drives their valuations high. And then you introduce some, some unknowns that are possible headwinds as opposed to tailwinds, and you see some of those pes peel back quite quickly. And that's what we saw when, when those announcements took place on April 2nd. A lot of those stocks have rebounded since, but, but I would say going forward, continue to position for quality, low PE ratios, solid Dividend paying stocks. That would be my focus.

Yeah.

PE ratios, price to earnings. What are you paying for a stock relative to its dividend back to you basically to its earnings or the earnings of the company as well. Still very much at historical highs right now, correct? Oh yeah, still very high. Probably 85, 90% relative to historical averages.

And for the, for the everyday investor, I mean they're, they're, if they're looking at the broader index or the index S&P 500. Yeah, it's extremely high, extremely frothy. Uniquely though, in this market there has been very little breadth, meaning essentially a few names have carried that index. It is a market weighted index and so I expect to see more of a broadening out of that performance. And underneath the hood there are a lot of really good value companies at historically reasonable PE ratios. You might not notice it if you're just looking at for example the S&P 500. But, but that, that breadth or that sort of evening out of performance is something I think we continue to see. And this year I saw today, you know, the Mag 7 is down on the year, not, not measurably a small decline and then the other 493 are up and that's just been a pretty large deviation from what we saw last couple of years where we had the Mag 7 carrying the load on performance on that.

The Mag 7. Amazon, Apple, Tesla Video, Netflix, Microsoft.

Netflix isn't in it anymore.

Oh, they're not, they're not, no.

They changed from Fang to Mag 7 to boot. Those guys out.

Interesting. So who's on there? Amazon, Apple, Tesla? Tesla's on there, right?

Yes.

Nvidia, Microsoft. That's five. Who are the other two?

Did you say Alphabet?

Oh yeah, Google and Meta. Oh yeah, Google.

That's it. That's it. Google and Meta. Thanks guys.

I was like, I know this one test.

So those companies, I imagine the PE ratio of those companies is astronomically high. Safe, safe statement. Is that accurate?

I think you're. Yeah.

Meaning that, meaning that the price relative to the net earnings of those companies is really, it's like just saying that they're really, really expensive relative to the profits of those of those business.

Something our listeners would be accustomed to hearing is price to ebitda. Right. So you know, if, if you're going to Pay, you know, five times EBITDA versus 10 times EBITDA. Right. That's just evaluation for the same underlying economics of the practice. And that's kind of what we're talking about.

Yeah, especially those who have been Pitched higher multiplier. Those who have been pitched by the DSOs, you know, they calculate what's your earnings before interest, taxes, depreciation and amortization. Your EBITDA times a multiplier and that's the valuation they have. Yeah, it is true. It's the same on the public markets. In fact, I was talking at the cda, I was speaking at the CDA this week and I was just emphasizing like as a dentist you have the same components as these big companies and tax id, labor costs, taxes, debt, all that stuff. It's important to understand what is your, your operating profits and, and to almost treat it like you were going to sell tomorrow. It'll make you a better business operator. But going back to these different, the Mag 7, if they're really high and they're accounting for I believe around 30%, 35% of the returns on the S&P 500 in which, which case those things right there, even if half of those, maybe three or four of those, if they tanked, it literally could tank the entire s and P500 like a dozen domino effect downstream. Are you worried about that at all?

Yeah, no, it's, it's a good, that's a good question and it really builds on what Paul is talking about because if Paul is correct and, and the future leads to more of a broadening out, meaning the, the 493 stocks in the 500 perform or outperform the top seven. Since this S P 500 is a market cap weighted index, if that happens, it's going to be very difficult for the broader index to move higher. So in other words, over the last several years where tech has outperformed really well, if you've held other stocks in that 500, there have been a lot of days where the index has not been reflective of your investment performance because those other stocks have lagged the magnificent seven significantly. And if that reverses, you know, basically you'll see the opposite where some of that broadening out is going to lead to that 497 performing better. Now am I worried about that? Wes, back to your question. Not at all. Because broad diversification would mean that you're not as concentrated in the Mag 7 as the S&P 500. And so we are not. And that's not how we invest at practice cfo. So we are more broadly diversified. And so a pullback in those names would actually be good, I think for overall market health, but also for portfolios like ours.

Yeah, the market is just so emotional and everyone knows about these and almost everybody is investing in these, you know, like my 19 year old son, he's going to invest in these big sexy companies you hear about all the time. And there's so, I think that's what drives up a lot of the price is just kind of the euphoria around the tech and tech innovation and everybody translates that into value and so they all go pop into it and buy it. I've, I'm just always concerned about what gets us to a tipping point. You know, like Malcolm Gladwell's book called Tipping Point. What, what gets us to that point where things tip. Because that's usually how the recessions or even a depression starts is something hits the tipping point and then the sentiment of the consumers and the sentiment sentiments of the economy suddenly flip. And it's almost like those birds that just swarms of birds that just switch on a dime in the air. The market can do that. And when you're out of the market, when those birds switch in the positive directions, you're missing out most of the returns on the recovery. And that will happen in a day or two sometimes. So we're such big advocates of staying in the market.

Look at the last 45 days. I mean, right. If you panic sold when we were down and there was, and don't get me wrong, there was plenty of reasons to be concerned right there. There's, that's the thing is the market rarely does anything for no good reason. But what it, what it tends to do is overreact. But it, but it typically has a good reason for selling off or rallying, right? And you're just never going to know when those birds say, hey, it's time to go south. Like there's just no, there's no way to.

And capitalism has its, its pros and cons. And at the end of the day, I'm a huge fan of capitalism, without a doubt. But one thing about capitalism and a little bit about Americans is we don't know how to react. We just tend to overreact is something I, I heard lately. And the market is very much that way. It doesn't just react, it overreacts. Those emotional, it's like you're in an argument, you know, with somebody, a spouse, I don't know, or somebody, and you get all emotional and then you just overreact and make small things bigger than what they are. But the thing about us here at practice CFO is since day one in 2013 when we started the firm, we've always been value based investors. Not that we're exclusively in value companies. And just for our listeners, value companies are the less exciting, thrilling companies. Tech companies generally tend to be great growth companies. They're not issuing dividends usually and they're just trying to grow. Value companies are older established companies that are predictable and are issuing dividends usually and not as exciting. But historically, historically those the value companies tend to outperform the growth companies when the growth companies eventually truth and reality about their economics place itself out in the long run. And, and that's why value tends to do better. And it's not to say here at practice CFO that we are not investing in the MAG7. We are, but we're not investing in the MAG7 as much as the proportional allocation of our investments relative to the s and P500. So let's now pivot a little bit to our approach here at Practice cfo. That's my intro. We're more value based investors. Brandon, let's talk about our 401ks and defined benefit plans. We manage, you know, a few hundred of these things. They're unique as 401k. And defined benefit plans are what are called ERISA money. ERISA is the government laws enumerated about how these have to be invested. A 401k is employer puts the money in or the employee puts the money in, they both can into an account. And then whatever happens to that, from that time to the time the employee retires and takes the money out, it's all the risk is on the employee. The defined benefit plan is the opposite. Only the employer funds it and the employer is responsible for its returns. And if the returns drop, then the employer has to pull money out of their pocket to get it back on track. So talk to us about how your how our models are being designed right now amid all of this market uncertainty and fluctuation.

Yeah, so we, we also, just like you mentioned, we really believe in value based investing. We also believe in broad diversification. And so this year diversification has worked really, really well. And by that I mean the US Market has has lagged international developed and emerging markets, mostly due to the tariff unknowns and things like that that, that seem to mostly be negatively impacting the US On a broad scale if you look at market returns since April 2nd's announcement. So with that said, developed, international, developed markets are up about 10%. Emerging markets are up, I think 5%. I don't know how they did today, but they are up about 5% on the year. And so the US market's relatively flat even if you look at the S and P, which is market cap weighted, right. Like we were talking about, that's, that's about flat on the year, maybe up 1%. And so that broad diversification is key. Diversification has not helped much over the last 10 years. But just like value has, has periods of outperformance and growth has periods of outperformance, so do international markets. It looks like we're coming into a period of outperformance. How long that will be sustained is unknown, but it could last for quite a while, could be several years, it could be the next decade. And so we're going to continue to stay well positioned so that at least 20 to 25% of our total equity exposure is in international and developed markets. As far as the US exposure goes, Wes, we're tilted towards those macro indicators that I mentioned earlier, dividends, value based fundamental stocks, stocks trading at relatively lower pes, that would signal that they're a better value than since then, some of those higher PE stocks that are trading at high valuations, mainly due to PE expansion over the last 20 years or so. And then our bond allocation is, is depending on the model, it's about 10% of the portfolio, but can be as high as 60 or 70%. We are positioned pretty much at the belly of the curve. So intermediate level bonds, duration bonds, somewhere between five to seven years seems to be the sweet spot right now. That's what we're targeting. And that has worked well this year as well.

Yeah, and I think you'll see across two different clients and two different portfolio objectives, a pretty stark difference, maybe not in the fundamental philosophies, but in that allocation of how not waiting. So for example, as you mentioned, 401k, which official term is a defined contribution plan, whereas a defined benefit plan, it defines the benefits and the, the plug is. Okay, well how are our portfolios doing? And so we have a mandate within those, those, those allocations to target a, you know, 4 to 5% rate of return to meet that defined benefit objective. So if I have a client, I put them in, you know, 80, 20, 80 stocks, 20 bonds, and we're down 8, 9, 10%. Well, I got to have a pretty rough phone call with doctor telling them, hey, we got to fund that shortfall. So how do we overcome that? We have a much higher allocation to fixed income. Fixed income is going to be more steady, secure rate of return. Now folks hate diversification in a bull market. They love it in a bear market. Right. And so I think that's what Brandon was Kind of alluding to is, you know, broad diversification hasn't helped over the last nine of the last 10 years. But in those times where we're not having to pick up the phone to say, hey Doc, that sweet tax deduction I got you, well, here's the cost. You have to fund more and it was unintended. We can track returns on a more steady, consistent basis with a higher allocation of fixed income as, as well as our positioning to more value oriented. So it really is case by case, really is case by case. And then the more obvious is that people tend to focus on is how close am I to retirement? You're going to be more in bonds, you're going to be more in blue chips and safe. But even based on our tax planning and the investment style, we'll make those calls as well.

Yeah, I just want to drive that one home. I think that's a great way to, to conclude here is that at the end of the day, don't time the market. Time your circumstance. It's one of my mantras that I've always had with clients is just time your circumstance. And these defined benefit plans. For our listeners who have a defined benefit plan, if you're a practice CFO client and you're a little bit older than your staff and you're really cash flowing well, maybe your debt's paid off. We most likely have you in a defined benefit plan. And they have their complexities, but they're when managed well, they are an absolute silver bullet in fighting the tax battle. And so if you have, you know, if you put in 300,000 in a defined benefit plan in a year, you're going to save somewhere around 100 to 150,000 doll in taxes in that year and it's going to grow tax deferred. So so much of the return around these defined benefit plans comes in the way of, of rerouting money from the IRS back into your future self, your future selves pocket through these defined benefit plans, which is why we're such a huge advocate of these. But you got it, you got to keep the return consistent. So we're not shooting for a 10 to 12% rate of return in these things. We're shooting for a 5% plus or minus, you know, 1%, 2% from there. Very different types of investment vehicles. So it's not all about which stocks or bonds you pick or ETFs, exchange traded funds or even sector. A lot of it is about how, how we're really, what is the objective of the given Investment account. All right. And I just want to mark for the record everybody that in that our belief is that in the long run, it is singles and doubles that wins the game. And that when you're going for the fence too often, you're going to, you're going to get out a lot, you're going to strike outs or you're going to hit these fly balls that are caught and you don't even make the first base. Now you may hit one or two like maybe you got an apple 15 years ago, and you're like, I'm good. I got this down well. It's very difficult to repeat that. And concentrating in a given stock or bond or playing the market may give you good returns. But as we finance people like to say the risk, the quantity of risk you're taking on relative to the potential for return is not as good of a ratio as when you just stay diversified. And so we very much stay diversified. And a lot of the value of a good investment advisor is a psychological coach in a way. And I have, I meet with a kind of a business and life. I'll call him a coach, but I call him really as a thinking partner. And I find it extremely valuable to have somebody who can be outside of me. You know, one of my favorite statements is you can't read the label from the inside of a bottle. It's extremely hard to read ourselves from the outside in and not let emotions lead us to make sometimes fatal decisions. And over the many years, I, I've seen a lot of people who accumulated some good assets and then they tried to time the market and they lost 50 to 70% of those assets and they didn't get back at the right time and they missed the steps back up. And it's very devastating. And so if an invite an investment advisor gets that one person to stay away from the emotional side and the timing side, they are worth whatever that investment advisor is compensated, not said. I think we do a lot more. We do personal financial planning, we do retirement planning, and we tether the risk and the target of the portfolio back to the individual circumstance of the client. And that's my advice for all you listeners. Make sure you know your life goals, author your own definition of success, and invest in a way that's very consistent with that. You don't need to keep up with anybody but your own goals. All right, everybody, let's go ahead and finalize on one simple topic. Our good man Warren Buffett has. He's hung it up and I just want to give A little tribute to Warren Buffett. Maybe we all have a favorite quote we can share from Warren Buffett. Mine would be that the stock market in the short run is a voting machine and in the long run it's a weighing machine and it's all about endurance and discipline and patience. Most of his wealth, about 80 to 90% of his wealth was accumulated after he turned 65. And he always talks about the power of compounding and I think he is truly one of the greatest, if not the greatest business investor of all time. Brandon, what's your thought on our good man Warren Buffett?

Love Warren Buffett. He is an investing legend and champion the, the art of value investing really. So everything that we, we invest and believe in here at the firm, he did it at an exceptional level for many years. And if we're talking quotes, Wes, one of my favorite quote from Warren Buffett is on investing patients and it's so true, is that the stock market is a device for transferring money from the inpatient to the patient. That really says a lot about, you know, when you're experiencing these periods of volatility, stay committed and have conviction in what you invested in and continue to stick to that strategy, that long term investment strategy and, and don't let your emotions take control and have you maybe sell at the most inopportune time. Move to cash, you hit the nail on the head west. The biggest risk to any investor achieving their long term goals is really moving to cash at the worst possible time. And so stay invested in the market. Make sure that you're invested in a way that allows you to ride out the market downturns so that you don't panic sell. And when you are overexposed to risk, typically that can lead to panic selling. So when you have massive drawdowns of 20, 30, 40 or even 50% or more in your portfolio, it's really hard to stick to the strategy without losing sleep at night. And then a lot of people will sell at those times because they can't handle the volatility. So by reducing the volatility you, you're increasing the likelihood that you're going to stick to your long term investment plan.

Paul, round us out.

And coincidentally my, my favorite code is, and I'm sure most have heard it by now, but be fearful when others are greedy and be greedy when others are fearful. So, so Brandon, like what you said is the human construct. We, we want to sell when we're scared and, and again for good reason. Generally there's probably a lot of reason why stocks are down at that point, point in time. But the irony is that the forward return prospect has only increased with them going down, if we believe in the capital markets, which I. Which I believe we should. And just as a comment about Warren Buffett, I think he's obviously an incredibly esteemed investor, but just as a human, is someone that we can all take away lessons from. He has so many tidbits from his annual letters for Berkshire shareholders, just so many good life lessons in there. And so I'd really encourage everyone to take some time, if you haven't already, just to kind of get to know kind of what he stood for. I think there's no better representation of the good side of capitalism. And he's been there at plenty of those trying times where that belief system was under pressure and, you know, was the American ingenuity going to maintain and progress and grow. And each time he was kind of there because he wasn't taking on risk and really being able to capitalize on those opportunities. But the human side of him admitting mistakes, learning from lessons, just living life in a simple, pragmatic way, I think is something we could all take.

Something from hats off to Warren Buffett, we here at Breck the cfo. Salute the man. Thanks, everybody, for joining. We will keep these investment committee podcasts going, doing about one a quarter to keep our clients and listeners up to date on what we are seeing from our perch as we review the market, the political changes, the changes with the Federal Reserve. And we find, we hope you find it helpful. So thanks again. Tune in for the next episode of the Dental Boardroom podcast. Thanks, guys.