Nicholas Grove: Well, it's generally accepted that shares can rise more strongly than fixed interest investments over long periods of time, the question still stands: what quality should you look for when it comes to a stock? Here to give us a few ideas, I am joined by Morningstar's Michael Wu.

Michael, thanks very much for joining us.

Michael Wu: It's nice to be here.

Grove: First of all Michael, what are some of the qualities you look for when it comes to a stock and can you also expand upon the Morningstar concept of a moat?

Wu: Well, Nick, let's start with the definition of a moat. A moat is basically the water around a castle. The water basically protects a castle from attackers. So, the same concept can be applied to a business. A very good industry will attract quite - plenty of competition and what economic moat is what kind of competitive advantage a company has in sustaining that return on capital that exceeds the weighted average cost of capital.

We basically assign a moat rating based on how long they can sustain it, a company that can sustain over 10 years will have a narrow moat, and a wide moat for 20 years. Obviously, a company with no competitive advantage will have no moat rating.

Grove: Michael, what kind of criteria are required for a moat rating?

Wu: Nick, there's a number of criterias in Morningstar that we look for. The first one is an intangible asset. What intangible asset is, an asset that's quite unique to the firm and that can come in the form of a patent, a brand or regulatory license. An example could be SP AusNet, where they have a perpetual license in operating a transmission line, an electricity distribution network in Victoria.

Another criteria that we have is cost advantage. A cost advantage is where a player has a sustainable lower cost structure over their competitors, an example - a prime example is Woolworths, where they have a wide economic moat rating. Basically, Woolworths has a significant footprint right across Australia, they�ve got a large efficient supply chain and that allows them to operate at a very low cost and in turn they can pass on those prices, low prices to consumers.

Another criteria we look at is switching cost, where a firm�s product makes it very difficult and costly in the form of time and both time and money for them to switch to another provider. So, a prime example is the banks where the products that's offered by banks are quite common, but it makes it very time consuming for depositors and borrowers to switch between service providers.

The fourth criteria we look at is network effect. Basically, what a network effect is when additional users take up this product or service it enhances the value of that particular product. An example is Trade Me, which is an eBay online auction site in New Zealand, who got a wide moat rating on it. Basically, when more users use that website it enhances the value. It has more people looking at listings and making bids, so it attracts both buyers and sellers on to the site.

The last criteria we look at is efficient scale. Efficient scale is where a market is dominated by two players and this market tends to be quite small. An example is the telecommunication market in New Zealand, where the industry is served by Telecom and Vodafone, they dominate the market and basically they have economies of scale, which limits competitors from entering the market.

Grove: On the flipside Michael, what are some of the warning signs to look for when it comes to evaluating a company?

Wu: It should be constantly looking at companies and industry how that changes the company's competitive advantage. These factors can come from both external and internal. Externally, we look at how new entrants would enter the market, how it would shake up the competitors of the company. An example, if we go back to the early example is Woolworths, obviously, there are new entrants coming in with Aldi and international players like Costco. So that's going to increase the competitiveness of the industry and investors should be mindful of that.

Grove: Finally Michael should an investor only look at buying stocks that pay dividends and if not, why not? We know that diversification across asset classes is important, but is this also important when it comes to the equity market?

Wu: Well Nick, I think an investor should look at diversification in the context of their entire portfolio. Whether a company pays a dividend now or in the future, it really depends on the company itself and the investor individually. So from a company standpoint, it depends on where they are in their business cycle in the industry cycle, what kind of projects they have in hand at the moment. If a company for example, an emerging company in a fast-growing market, perfectly they have quite a number of projects that increases the value of the company.

From a company standpoint, it depends on the capital management strategy where they are in the business cycle and in the industry cycle. A fast-growing firm in an emerging market, there should be quite a number of projects that could increase the shareholder value. From that standpoint we see those companies - it's just better for them to reinvest in the business, instead of paying out dividends. Comparatively, in a company in a very mature market with limited projects, obviously we do want to see the company return dividends to shareholders, as well as maybe perhaps a share buyback program.

From an investor perspective, really it depends on the individual circumstance. This includes the dependence on the cash flow in the form of dividends or for example what the tax status is. For example, a person on a high tax bracket would not prefer dividend being paid out now, which could lift tax payable in this period. To wrap up, it really depends on the investor themselves, so what they should do is, look at the investments - individual investments in the context of the entire portfolio, and remember to consider both risk and return.

Grove: Michael, thanks very much for joining us.

Wu: It's good to be here, Nick.

Grove: To read more on the basics of stock evaluation, please visit the Morningstar.com.au Learn tab and click on the link below.

Rachel Haig: I'm Rachel Haig from Morningstar.com. A big question for a lot of investors is what is the best way to use their money? If they don't have enough to do both, does it make more sense to invest or to pay off debt? Here with me to address some of these issues is Morningstar's director of personal finance, Christine Benz. Thanks for joining me, Christine.

Christine Benz: Rachel, nice to be here.

Haig: So, where should someone start if they're grappling with this decision?

Benz: One obvious starting point is if you have high-interest credit card debt. In that case, it's very unlikely that you'll earn 18% or 20% by investing in the market, so paying off that credit card debt is going to be, by far, the best return on your capital.

One other area would be setting up an emergency fund, because the worst thing would be to find yourself digging an even bigger hole by layering on more credit card debt while you're paying off additional credit card debt. So you want to carve out that emergency fund, usually three to six months worth of living expenses.

And finally, if you're earning a 401(k) match, not investing in the 401K plan is the equivalent of turning away free money.

So those should be three starting points for anyone who's wrestling with the question of whether to pay off debt or invest.

Haig: When you're looking at which type of debt you should pay off first, obviously high-interest credit card debt, where you're paying a lot and not getting anything for that, is one of the first things you should eliminate. But how should you calculate it, generally? Which sort of debt is worth carrying?

Benz: Other types of debt, like mortgage debt and student loans, sometimes are characterized as good debt. But realistically, I think you have to think about whether you could earn the rate of return by investing in the market that you're paying to service your mortgage loan, or even your student loan. So even though those rates might seem nice and low on paper, paying them off or prepaying them is a sure return on your money.

Another consideration to bear in mind is whether you're earning any sort of tax deduction on your interest. If you are earning a tax reduction on your mortgage interest or on your student loan interest, that may push them down a little further on the priority scale versus investing.

Haig: OK. And what impact would it have if someone's carrying private mortgage insurance? Does that play into this at all?

Benz: It's definitely a consideration. Typically, you have to pay private mortgage insurance if you have less than 20% equity in your property. So if you are someone who's on the hook for PMI, that would encourage you to prepay the mortgage on a more aggressive schedule than perhaps your mortgage lender requires you to do. That would be another argument for definitely paying an extra $100, $200 a month to get rid of that PMI as soon as you possibly can.

Haig: All right. And what about for people who are younger or people who are further along in their investing careers? How does that factor into their decision?

Benz: Your portfolio's stock-bond mix should definitely figure into the decision. One way to think about it is, what return am I likely to earn on this portfolio? If I'm someone who's later in life and my portfolio is consisting mainly of bonds and cash, realistically, my return on that portfolio may not be that high, and I may well be better off paying down my mortgage or paying whatever debt I have off versus investing additionally in that investment portfolio.

So asset allocation is definitely a consideration. Someone who is earlier in life, and maybe their portfolio is predominantly stocks, that's a greater argument for investing in the portfolio versus paying down, say, mortgage debt.

Haig: Well, those sound like great guidelines. Thanks for joining us today.

Benz: Thanks, Rachel.

Haig: For Morningstar.com, I'm Rachel Haig.

Christine Benz: Hi, I'm Christine Benz for Morningstar.

The Madoff case was perhaps the best known instance of financial fraud, but incidences of financial fraud go on every day.

Here to discuss how seniors are often the targets of financial fraud, as well as what they can do to protect themselves, is Dr. Shelley Taylor. She's is a professor at UCLA.

Dr. Taylor, thank you so much for being here.

Shelley Taylor: You're very welcome.

Benz: I'd like to start with the general way of the land in terms of financial fraud. Can you share any statistics about whether it has increased, decreased in recent years?

Taylor: Yes. Financial fraud is going up tremendously quickly. There are over 30 million complaints a year, and those are just the reported ones. We know there are a lot that go unreported. And of interest, more than half of these complaints are filed by adults, who are age 55 and up, so it's true that older adults are disproportionately the victims of financial fraud.

Benz: So, can you make any generalities about the types of financial fraud that are growing in number over the past few years?

Taylor: Well, the most common ones are foreign lotteries, unauthorized billings to credit cards, weight loss scams, but the most expensive typically are the investment frauds.

Benz: You are a professor of psychology, and you've been looking at the intersection between psychological aspects that tend to make people more vulnerable to financial fraud. Can you share any of those commonalties?

Taylor: Yes. There are some interesting simple pictures you can draw of who is most vulnerable to different kinds of fraud. So, for example, lottery or charitable giving scams are more likely to be perpetrated on older women who live alone--typically women in their 70s.

On the other hand, investment frauds, which are the most expensive, tend to be perpetrated on men who are in their mid-50s, who are actually experienced investors, who have taken risks before, and who are pretty knowledgeable about investments.

Benz: Can you conjecture about what would make that particular demographic vulnerable? Is it simply that men are out there investing more than women--I'm sure that's a piece of it.

Taylor: A piece of it is that fact. There are several reasons. One is that from age 55 on, people are coming into more of their funds. ... They have more capital to begin with. They may be transferring money from a 401(k) to an IRA, and so the money is moving, and when the money is moving, people tend to be targeted. They get phone calls. They get free dinner offers. They get mail solicitations, and experienced investors are often under the impression that they are good at this, and so they can pick the good ones out of these many opportunities, and they are just often wrong.

Benz: So, I know that there has been a lot of research about decline in cognitive functioning once folks reach a certain age, and of course, it certainly would vary by the individual. But can you talk about the intersection there, that if someone is experiencing some cognitive decline they might tend to be more vulnerable?

Taylor: Yes. That's clearly a factor. Particularly frauds among much older adults, and one of the things that offspring of aging parents need to do is keep a general eye on cognitive functioning, because as cognitive functioning declines, obviously money management skills aren't going up, and so that's when they may need to actually take a closer look at where the money is going, how it's being managed, and so on.

Benz: Now, what about [the fact that] the brain is different as we age? Is there anything that people should be aware of in terms of actual physical changes in the brain?

Taylor: Yes, it does appear that the way in which information is processed in older adults' brains is somewhat different from younger adults in ways that may make them more vulnerable. There is a region of the brain called the amygdala. The amygdala is one area that sends warning signals to people. It's what makes you think, "this doesn't feel right." It leads to stress hormones.

Older adults' amygdalas are less active. In some cases, there is actual shrinkage. It looks as though different parts of the brain, the insula being one, picks up some of those functions, but not with the same degree of alarm or concern.

So, on the one hand, this is great for older adults, because it means they don't experience scary things to the same degree as younger adults do. They are not as often on edge. But if there are environmental cues that they should be paying attention to, the brain may not be processing those particularly well, and so that's something for which our studies have tried to provide and have provided evidence.

Benz: This is just a normal part of the aging process. This is setting aside issues that might be going on in terms of dementia or Alzheimer's?

Taylor: Exactly, this is a normal part of aging. Older adults are less easily distressed by negative events. They look for a more positive outlook on life. It's a natural part of aging. It doesn't have anything to do with cognitive decline, but it may nonetheless make people vulnerable.

Benz: So, if you are an adult child of an aging parent, what are some things that should set off alarm bells or make you pay even closer attention to your parents' finances than you otherwise would?

Taylor: Well, I would say first general cognitive decline as we've already discussed. Second, if the parent is starting to be evasive or secretive about where money is going. And a third factor is new best friends. What you sometimes find is just preceding a major fraudulent event, there will be someone who has made their way into the older adult's life and gained that person's trust. Our work actually has focused especially on the fact that older adults don't seem to process cues to deception or untrustworthiness terribly well.

Benz: So what kinds of cues might those be?

Taylor: Well, let me give you an example. I talked to the high school teacher, who had spent his whole career helping kids find the right college and giving them advice, and he loaned $15,000, or believed he had loaned $15,000, to a nice young man as he referred to him, and all reports were that this was someone who was pretty unkempt, who was probably a drug addict, who had broken teeth, dirty clothes, and smelled bad. Now those are all cues that should tell you very quickly, this is not somebody to whom you want to give $15,000, but these cues had not had the effect that they would have at a younger age. So, it's that kind of thing. It's the inability both visually and also on the part of the brain to recognize factors that should be warning signs.

Benz: Now, how about for seniors themselves? Do you have any tips on how they can protect themselves against being victimized by financial frauds?

Taylor: Well, I think there are several things. One is the "just hang-up rule." When people call with solicitations over the phone, just hang up. It's hard to do, when people have been trained to be polite and nice, but that's important. Ripping up solicitations that come in the mail. Not going to free lunches and dinners. Those can often be a source of fraudulent extraction of funds. Not accepting hot tips from anyone, that's a general investment rule. It applies especially to seniors. And not going after a big score. One of the temptations that people experience, seniors especially that are close to retirement or in retirement, is that they need to make up money, or they feel they do, from the financial downturn, and so they're watching for a big score. Money isn't typically made on big scores, and so being wary of those kinds of potential opportunities would be another cue.

Benz: One thing that I've read is that, there may be some generational aspects to this as well. So, perhaps the folks who are in retirement, in late retirement, right now may be especially polite versus the folks younger than them. Would you say that that might be an aspect here as well?

Taylor: It's exactly right. One of the things we find is that our older adults are typically more trusting. So, if we ask questions about can people generally be trusted, the older adults are much more likely to say yes than the younger adults do. So, I think that we've become a less-trusting culture over time, but we've left a quite vulnerable older adult group.

Benz: Dr. Taylor, this is terrific insight, and we very much appreciate you sharing it with us. This is a very important area, and I look forward to what you and your group are working on in the future. Thank you for being here.

Taylor: Well, thank you very much.

Benz: Thanks for watching. I'm Christine Benz for Morningstar.com.

Christine Benz: Hi. I'm Christine Benz for Morningstar. Many financially savvy individuals would like to create financial plans that are goof proof, in case they should predecease their spouses. Here to share some tips for doing that is Stacy Francis. She is president of Francis Financial in New York City.

Stacy, thank you so much for joining us.

Stacy Francis: Thank you. I'm excited to be here.

Benz: One topic I'd like to cover with you Stacy is, how financially savvy spouses, the one who is hands-on in the household with the money, can help leave the nonfinancially savvy spouse in good shape. So if the first spouse predeceases the other one, how can they make sure that the nonfinancially savvy spouse has kind of a plan and the ability to navigate? What are your tips?

Francis: The biggest tip is to make sure that you understand what's going on, and we all have busy lives. Often you just don't find the time to really sit down and review everything. So instead, what you should be doing is making a financial date. This is a financial date once a month, and on that financial date, you bring the papers, you bring everything. You spend the first half hour really talking about your finances with regard to investments, life insurance, disability, and even just those normal household bills that seem to always be coming in the door.

If you do that on a monthly basis, even if that nonfinancially astute spouse doesn't play as much of role on the day-to-day duties, they will understand the overall picture. And if unfortunately you are not there to help them in the future, they are going to be able to survive and actually really thrive going forward.

Benz: So do you have any tips, Stacy, for organizing documents, to make sure that your spouse could readily put his or her hands on the right information if he or she needed to?

Francis: There are two different file systems that you can have. You can have a file system that's actually a physical file system in your home with tabs listed for insurance, investments, taxes, budgeting, wills, and estate planning.

You can also have it online on your computer with a similar filing system. Both work very well, and which one is going to be right for you is really about your personal situation and your spouse's. Some spouses really don't feel comfortable using the computer and so in that case maybe it's that physical-document program that you would be using.

Others feel very comfortable using that online, but no matter what it is, you need to have that very clear filing system and also keep it up to date. And guess what? The benefits are not necessarily just going to be filed if for some reason you are not here and unfortunately pass away in the future. Having an organized filing system is going to save you hours a year, especially when it comes to tax time, and we know how complicated and frustrating tax time can be.

Benz: So, assuming that a couple doesn't have the time to maybe do that monthly date where they talk about finances, what would you say are sort of the bare-minimum details that one should be sharing with one's spouse about the household financial picture?

Francis: Definitely having a balance sheet would be wonderful. If you could update that once a year to show all of your assets and all of the liabilities. If that's all you can do that's still going to put you light years ahead of unfortunately where most couples are at. And it's going to also help that other person know how you are doing financially, so that they are never, ever in the dark. Part of adding to that balance sheet, I would ask only one more document. So, again, it's not a whole lot of homework here, but also ideal to have a list of all your insurances. So, this list would include what you have for disability, life insurance, long-term care, and any other information on that so that the surviving spouses are not in the dark and know exactly what to do to protect themselves.

Benz: How common is it in your experience that couples are really disparate where you've got one part of the couple who is very hands-on and engaged with financial matters and the other one kind of tunes out?

Francis: It's interesting because you would think that that is actually something of the past, but unfortunately what we see is that we do very much, even in this day and age, find one key person in the relationship not having an active role and sometimes not even wanting to have any role. They've actually made that decision that they don't want to be involved.

And unfortunately--and I don't want to make stereotypes--but typically when we find this, it's the woman. And the biggest thing we could say is: "A man is not a financial plan, and you need to know where this money is. You need to know what type of insurance you have." This is because at some time women will find themselves alone, and according to the Institute for a Secure Retirement, the average age of widowhood for woman is age 56, so you need to know this sooner than later.

Benz: It's a really young age. One discussion that we had with some users on our website was how to widow- or widower-proof a portfolio. I was talking with some of our readers, and they were very interested in streamlining their portfolios, getting them more heavily invested in kind of goof-proof investments that don't need a lot of hands-on monitoring. Index funds were increasingly popular among these readers. Is that a strategy you would recommend, so as you age that maybe you position your investments to be a little more hands-off in case your spouse needs to take over for you?

Francis: It is. It's the right thing to do, and you don't have to have an elaborate portfolio to do well in the market. You should have a diversified portfolio, maybe you're using index funds as well, to give you that broad exposure to the market. If you are investing in certain areas that are more sophisticated, maybe even using hedge funds or other types of private equity, that type of portfolio is going to need a lot of maintenance. And if you feel like your spouse is not up to that or does not necessarily have the sophistication, then most likely you have the wrong investment portfolio.

Benz: Stacy, thanks so much for sharing these tips for couples attempting to navigate their financial matters. It was very helpful stuff here, so thank you.

Francis: Thank you. It was great to be part of this.

Benz: I'm Christine Benz for Morningstar. Thanks so much for watching.

Nicholas Grove: Investors may have noticed the recent surge in hybrid issues over the past several months from big names such as Woolworths, Origin Energy, Westpac, just to name a few. You may have also heard terms bandied about such as perpetual notes, subordinated notes, and convertible notes, but what are all these instruments, how do they work, and what does it all mean?

Here to teach us a bit about them, I'm joined by Morningstar Equities Analyst, Ravi Reddy.

Ravi, thanks very much for joining us.

Ravi Reddy: Thanks, Nick.

Grove: First of all Ravi, broadly speaking what is meant by the term hybrid?

Reddy: Well, these have certainly been the flavor of the month. If we go back to the Woolworths' notes issue last year, then raisings have been more than A$6 billion. There's been a lot of interest. A hybrid is a security which has both debt and equity characteristics, but it's also being commonly used to describe a pure debt securities, such as subordinated notes and retail bonds. The more correct term for this is interest rate security.

It's important to note, there's not one generic type of security on the issue. Whilst some of the securities only show similarities, each has its own unique terms and conditions. You only have to look at some of the prospectuses, which are more than 100 pages to realize that there are a lot of differences, and each has its own specific terms and conditions.

Grove: What sort of risks do these securities carry, and conversely what are their benefits, particularly when it comes to retail investors?

Reddy: There are quite a number of risks. There is credit risk, interest rate risk, spread risk, liquidity risk, conversion risk, term risk. We discuss these in more detail in the report we've recently published, but I think what investors need to understand is that these aren't bank deposits with a government guarantee. They offer a higher return, which means there is a higher risk. Also, typically these securities are unsecured, and they rank just above ordinary equity. So, what does that mean, in a wind up scenario, you could end up losing all your capital, and this has happened in the past with some previous issues by like Allco Finance, and some of the Babcock & Brown issues, so I think that's what investors need to realize.

Yes, but there are benefits, because it allows investors to invest in a security where they can get a higher rate of return than say a bank deposit, and it also allows investors to - you can trade them, so it means you can - if you do need access to capital you can sell them on market. While they rank above ordinary equity, they tend to be less - the prices tend to be less volatile than ordinary shares, and the other thing is you can get regular distributions. They typically pay distributions quarterly, or - and some pay semi-annually, so there are benefits as long as people understand the risks of what they're getting into.

Grove: Ravi, what sort of qualities do you look for, and should an investor look for, when it comes to these types of securities?

Reddy: We look for a high degree of certainty of getting your capital back, certainty that you'll get distributions, and of course, we look at the yield. The question we ask is, to what degree can the underlying business support the commitments required by the security, and what yield does that justify? So, our preferred exposures in the income securities space are those securities issued by the major banks and the high quality industrials.

Grove: What sort of factors can impact the prices of these securities?

Reddy: There are quite a lot of factors; there's changes in credit spread, changes in the financial position of the issuer or P/Es, changes in regulation or legislation, corporate activity, returns you can get on alternative investments. I'll touch on, probably credit spread is a good one. A credit spread is the interest rate differential between the benchmark rates such as a government bond and a non-government security. Now credit spreads change as there's changes in actual or perceived risks. So, if a credit spread widens, it implies there is a higher risk.

Let's say with a lot of concerns about the financial stability of banks, in such a scenario we'd expect credit spreads to widen on securities issued by banks. Another way of saying that is that we'd expect prices to fall, or the yield to increase.

Grove: Finally, Ravi, where do these sorts of investments fit within a well-diversified conservative long-term portfolio?

Reddy: There are opportunities for capital gain, but the main purpose of investing in these is to get a regular income distribution stream. We suggest that they should be part of a diversified portfolio, and we also suggest that investors should seek profession investment advice before making investment in one of these securities, because they need to be aware of the risks, as we discussed before. They are not like bank deposits, they are riskier, so with a higher return you're going to have a higher risk.

Grove: Ravi, thanks very much for joining us.

Reddy: Thanks, Nick.

Grove: To learn more about investing in hybrids, Morningstar.com.au premium subscribers, can go to our website, click on the 'Hybrids' tab, and click on the link below.

Jeffrey Hutton: 2011 was a tough year for a lot of investors, but 2012 could be different. Lower interest rates, cheaper blue-chip stocks could mean that this is your year to get financially fit. So, joining us to discuss how to do that is Viviane Parsons from the NAB.

Viviane, thanks for joining us.

Viviane Parsons: Thanks, Jeff.

Hutton: Viviane, is 2012 a golden opportunity to get financially fit?

Parsons: I believe so in terms of -- I guess there's two ways to look at it. From an economic point of view, obviously, interest rates are expected to drop, so that means for the Australian mum and dads with a mortgage that they'd obviously be able to pay-off more of their principal debt, if they accelerate their repayments. A good opportunity, I guess, in that sense. For those that actually derive an income from their savings, it's quite the opposite. Their income is going to be reduced, and they may want to look at other avenues to derive an income over the next 12 months.

Hutton: Are we actually being more frugal?

Parsons: I think since the GFC, we've certainly seen a point where people are trying to reduce their debt, or perhaps also liquidate assets to then reduce their overall commitment. But I think 2012 will really see that go a little bit further. People are a little bit more cautious and certainly will try and move ahead without making the same mistakes that they may have done before the GFC.

Hutton: Budget can be pretty daunting, how do you go about making one?

Parsons: Thing you never want to do really, but I guess my advice would be to really make that your new year's resolution. There are some great online tools, moneysmart.gov.au, which is an ASIC sponsored website is a fantastic tool to really prompt you on where you spend your money, help you plan to prioritize, and perhaps also look at what you can save on.

Hutton: Is there a checklist that people should keep in mind?

Parsons: Well, surely, those online tools are a good way to start, but then again look at areas such as what you spend on insurance, what investment products you're invested in, areas where you can perhaps save and as I said earlier, prioritize, really try and spend what you can afford, and don't make the mistake of overspending, get credit card debt accumulated because that obviously is quite clearly not the way to run a budget.

Hutton: Apart from the obvious benefits of getting financially fit; paying off credit card debt, what are the opportunity costs involved? Say, if I have a credit card debt of about $10,000, what could I have used that for?

Parsons: Yes, certainly. 2012 from a market outlook as well, may bring an opportunity, where we see perhaps a comeback in equities. So, that could be certainly the case that people may be too focused on paying debt back and, instead perhaps, should look at avenues to seek some capital growth. I mean, we have been through some very volatile times, and it's likely to perhaps continue. But these times also in history are an opportune time to invest, and yet get some capital growth over the long-term.

Hutton: Lower interest rates are a double edged sword. If term deposits aren't yielding as much as they used to, how do you make up the difference?

Parsons: Yeah. Look, I always try and explain to people that even in retirement, they are most likely not to spend their whole savings in the next couple of years. So certainly there is an incentive to protect the capital from inflation, as well as still seek some capital growth in retirement.

And at the moment, we see for example in Australia, the dividend yields from blue-chip Australian share much higher than what interest rates are doing, plus there's lots of tax incentives that come with that. So, I do believe that anyone approaching retirement certainly should have received advice by now.

For those that are over 50, there's also an opportune time up to June 30th to utilize their salary effectively by salary sacrificing that into superannuation. There is going to be a change in the amount you're able to place into that tax effective retirement scheme. As of 2012 July, the amount is significantly going to be dropped from $50,000 currently to $25,000. So, really people who are in that age bracket should get some advice around that.

Hutton: Generation Y has a reputation for wanting it all and wanting it now. Are they getting better at managing their money?

Parsons: To be honest, I haven't seen it at this stage. I am hopeful that perhaps they will have learned out of this GFC that we've gone through to perhaps align their spending a little bit to what their earnings potential is, but at the moment, yeah I'm quite doubtful. I haven't seen it at this stage.

Hutton: Viviane Parsons, thank you so much for your time today.

Parsons: Thank you.

Christine Benz: Hi, I'm Christine Benz for Morningstar.com.

Investors often behave in ways that run counter to their own interests. Carl Richards, a financial planner, a blogger for The New York Times, and a contributor to MorningstarAdvisor.com, has written a new book that address this tendency, and it's called The Behavior Gap. He is joining me via Skype to talk about it today.

Carl, thank you for joining me.

Carl Richards: My pleasure; thanks for having me.

Benz: There has been a lot of academic research around this topic of investors who are overconfident and how that can impede their investment results. Let's talk about a sketch that you've got in the book on that front and also the experiences that you've had with investors who are overconfident.

Richards: I think overconfidence, besides fear and greed, it seems to be the little third partner of this little group that's always lurking around big mistakes. I think it's so tricky, because overconfidence is exactly how you would expect an expert to behave. [For instance,] you don't want an underconfident surgeon.

Benz: I don't.

Richards: I don't know anybody that does. You also don't want an overconfident surgeon. So where you cross that line between confident and self-assured, and overconfidence is really, really fuzzy.

It's a problem of experts, and so whenever you are taking care of your own money, or if you are offering advice to other people on their money, you've got to consider yourself at least somewhat confident or else you wouldn't be making those decisions.

The key is to figure out when we cross the line from confident to overconfident. It's really challenging. As I say in the book, if you are not worried about overconfidence, it's probably because you are overconfident.

So I think we just need to be more humble about the decisions we make when it comes to investments, and realize that often our gut is wrong on the investment side. Often it would make sense to run ideas past two or three people.

The other tricky thing about overconfidence that's really a whammy is that if you have a plan that you are very confident in, and you hold on and hold on and hold on, and then you finally capitulate, you are the one that's going to suffer the most. Because the people who bailed out early, they didn't suffer nearly as much as you did by being confident in your plan. So there is this really fine line--confident in your plan stick with it.

Benz: So the big risk of being overconfident in your view is that you can position your portfolio to benefit from one outcome but not really position it for outcomes that you didn't anticipate.

Richards: That's really good point. I think we are notorious for not understanding ... we are very bad in understanding things we don't know. I think often you position ... you think you've got one outcome.

We need to pick an individual stock, or even an industry--let's say I really feel strongly that commodities are going to do well next year. The fear with overconfidence is that you position a portfolio in a way that if you are wrong, you are going to really suffer. There is a conversation I like to have called the overconfidence conversation where you just ... give yourself permission to consider what would the impact be if I am right, and what conversely, and be careful, what would the impact be if I am wrong about this decision? How would my life change?

Benz: So the idea is that you don't want to position your portfolio to benefit from all-or-nothing outcomes. You really want to think about what's the devil's advocate case for this thing that I think I am so sure about.

Richards: There can be reasons we'd want to roll the dice on an all-or-nothing outcome. But you certainly wouldn't want to do that without at least recognizing that's what you are doing.

Christine Benz: Hi, I'm Christine Benz from Morningstar.com.

Investors often behave in ways that run counter to their own interests. Carl Richards, a financial planner, a blogger for The New York Times and a contributor to MorningstarAdvisor.com, has written new book that addresses this tendency, and it's called The Behavior Gap. He is joining me via Skype to talk about it today.

Carl, you've got a great sketch in the book, and I think it comes back to this idea of what a lot of behavioral economists call "anchoring." So let's talk about what that is, and also to the extent that you can offer some concrete ideas for investors to combat that tendency to anchor on what's going on in the present period of time.

Carl Richards: The idea behind anchoring, we all do this, and it's really easy, at least recently it's been, with real estate. We tend to get focused on a price, and it's often either the price we bought an asset at. We could talk about an individual stock; let's say that you paid $50. That's the example I use this sketch. You paid $50 for XYZ stock, or you put $5,000 into a specific mutual fund, and now it's only worth $30; the stock has gone from $50 to $30.

There is this tendency for us to feel like, "if it just gets back to $50, I'll sell it. I  made a mistake," because we don't want to realize the loss. Selling it is actually the physical act that represents recognizing a loss, recognizing a mistake--I made a mistake--and so as long as we don't sell it, we can still pretend like maybe we didn't make a mistake.

So we anchor on this $50, and I hear people say this all time, "I'll just sell that when it gets back where I bought it." The thing we have to realize, and it is the same with real estate, if you're trying to sell a rental property or your own residence, and you paid $200,000 for the place and it's only worth $150,000, nobody cares that you paid $200,000. The market, and back to the stock example, nobody cares if you paid $50 and it's trading for $30. Nobody cares--the market doesn't care. The market doesn't care.

Benz: The stock doesn't know it was once $50.

Richards: The stock doesn't know, and nobody else in the market cares what you paid for it. All they care for is what's the value today. ... And I think we do this investments a lot; we think, "I inherited this from grandmother." We have these are emotional reasons, sometimes it's anchoring, sometimes it's other emotional reasons that we hold on to investments, and we end up with this sort of collection, almost like a smorgasbord; instead of a portfolio, we have this sort of collection that, "I bought that back here, and I bought this here, and I haven't sold it." Sometimes they represent skeletons in the closet.

I think one really helpful thing is what I call the overnight test, and it's just to take your portfolio--and I think it's helpful to do this once a year--I don't think you should be making these changes, but ask yourself this question: "If somebody sold everything in my portfolio today"--and again, this is totally hypothetical, don't worry about taxes, don't worry about commissions or fees, just hypothetically, if somebody sold everything in your portfolio today and you woke up tomorrow with cash, would you reinvest it the same way?

Almost universally when I ask that question, people say "no." I know that XYZ stock was a mistake or it's not appropriate for my portfolio or just because my grandmother owned it and I inherited it from her doesn't make it right for me, but there are these emotional reasons.

So once you've had that discussion, and said no I wouldn't reinvest it the same way, then you can get to work on the practical application of that information: What are the tax implications and how would you reinvest it? But I think it's helpful to at least start the conversation about, am I holding on to these things for emotional reasons that no longer make sense?

Benz: Carl, you also were forthright. You shared an example about your own experiences with real estate. Is that something that you think exemplifies this concept of anchoring?

Richards: Anchoring could have been a problem. I think the other problem at least with my own experience, we made some mistakes in our real estate decisions. We happen to live in Las Vegas. So the mistakes were amplified, because the market was so wild, and I think what you're referring to is, I wrote about it pretty publicly in the New York Times, and one of the mistakes we made, which there is a sketch earlier on in the book, is we projected the recent past and this is ... we just ... humans do this. We take the recent past, and we project into the future forever.

When real estate in Las Vegas was going up, and my income was growing and everything was great, it was very easy to say, "oh, this will continue." And we do this with the equity markets.

When things are bad, people say "It's going to bad forever; it's never going to change." We've got to remember, things change, and projecting the recent past into the future is a very, very dangerous game, and that's what happened. That's one of the classic mistakes we made.

Nicholas Grove: With a lot of emphasis being placed nowadays on the place of solid dividend paying stocks in a good portfolio, investors may be reading a lot about the notion of grossed up yield. Here to help us get a better understanding of the concept, I'm joined by Morningstar's Senior Equities Analyst, James Cooper. James, thanks very much for joining us.

James Cooper: No problem, Nick.

Grove: First of all, James, what is meant by grossed-up yield?

Cooper: Look, the whole purpose of grossing up a dividend is to work out what -- how much profit is being distributed before tax. So, if you look at a company's profit and loss, they make a profit before tax and then pay a certain amount of tax on that profit. The corporate tax rate is 30%, but they may, for a variety of reasons, pay more or less than 30%. But the idea is to take the dividend which is paid out of those profits and work out what that dividend equated to before tax was paid by the Company.

So, if the Company has paid a 30% tax rate, imagine that they earned $100 of profit before tax. They then paid $30 of tax, giving them a profit after tax of $70. Now, if they then distributed that all as a dividend, they would have paid out $70. Imagine you were the sole shareholder, you received that $70. To gross that back up to the pre-tax amount, you multiply it by 100 over 70 right, which is �happens to be about 1.42, and that gets you back to the pre-tax amount.

Then as the shareholder who has received that dividend, when calculating what tax you pay on that dividend, you get a credit, a franking credit for the tax that was paid by the Company. So, the purpose is to ensure that the double taxation doesn't occur. You know, you own a company, it's paid tax, you've effectively paid tax. Why should you then pay a full amount of tax on that dividend when it's distributed to you if it's already taxed?

So, that's what it is. Sometimes, if the Company may have paid less tax than the 30%, you then receive a dividend, which is not termed a 100% franked. It might only be -- let's say it's 50% franked, meaning that only half the tax has been paid on that pre-tax amount. In which case, when you gross up your dividend for the purpose of calculating your tax, you then say 50% of that 0.42, so roughly 0.21 is then used in the calculation. So, it becomes 1.21 times the dividend that you have received. That gives the pre-tax amount. You then calculate the amount of tax as an individual you would pay on that amount of profit and then subtract what the company actually paid and you end up with paying the full amount of tax in the individual�s hands, but not doubly taxed.

Grove: James, why is grossed up yield important?

Cooper: Well, if you look across a range of companies, you�ll -- almost always dividend yields are just given in a -- as a net amount. They don't gross it up. They just tell you, you know, such and such is paying 5%. This one is paying 7%. This one is paying 3%. Now, if you don't gross them up, you actually get a false view of what that yield really is after-tax in the hands of the shareholder. So, the 6% yield, if it's not franked, will not actually be as valuable in most shareholders' hands as a 5% fully franked yield once you've got the benefit of the franking.

Grove: Finally James, just to reiterate, how do you calculate grossed up yield?

Cooper: Yes. Well, you start off saying, with your 100 over 70, which again is -- it's round about 1.42, and you multiply your dividend yield, say it's 5%, you'll multiply that by 1.42, which comes to a little bit over 7 I think it is, and that's your true yield which you then need to apply your personal tax rate to.

Again, if it's not 100%, if it's 70% franked, you then have to take that 0.42 part of that 1.42, so 70% of that 0.42 which gives you roughly 0.3. The equation then is 1.3 times the dividend yield.

Grove: James, thanks very much for joining us.

Cooper: That's a pleasure Nick.

Nicholas Grove: Even if you're only a new comer to the share market, you're likely to have heard the names BHP Billiton and Rio Tinto. In this video, Morningstar Senior Equity Analyst, Gareth James helps novice investors understand some of the terms often found when you first pick up a mining company equities research report.

Gareth welcome.

Gareth James: Thanks, Nick.

Grove: First of all, Gareth, why should investors be interested in the mining sector?

James: Well, the mining sector is an extremely large part of the Australian market. There are around 2,300 companies listed on the Australian Stock Exchange, and around a third or 750 of those companies are mining companies. So, investors have a lot of companies to choose from. In the Australian economy, the mining sector is obviously extremely important too. Australia's two largest exports are iron ore and then coal. So, mining is very important to Australia.

Grove: What kind of investors should consider buying shares in mining companies?

James: The mining sector is typically considered a high-risk sector, particularly the small end of the mining sector. So, those companies with market capitalizations below $100 million, they are particularly high risk investments, so they tend to suit speculative investors. At the other end of the mining sector, we have the large, diversified, blue-chip mining companies. They tend to be highly profitable businesses, dividend paying stocks. So, we consider those companies to be medium risk, so suitable for long-term portfolio.

Grove: Gareth, what should investors look for in a mining company?

James: You look for different things, depending on the mining company. So, if you're look at small mining companies, those companies don't tend to be profitable, they tend to be exploration companies. So, you really need to focus on how much cash those companies have and how quickly they're getting through that cash. You also need to look at the track record of the directors and senior management, because when you're investing in those companies, you're really backing the individuals who are running the company.

At the other end of the market, for the larger mining companies, such as the blue-chip, diversified companies, you need to look at what's in that portfolio and what kind of commodities they're producing. You also need to look at what we refer to as the cash cost. Now, this is the operating costs per units of commodity produced. So, large mining companies will have very low cash cost and that's what you're really looking for in those stocks.

For the larger companies as well, you really need to have a good understanding of how much of the commodities they actually own. So, to do this, you can look at their resource and their reserve statements, and those statements tell you how much of the particular commodities they own in the ground. So, that's important, because that tells you how long that mine life is.

So the other thing that you need to be very aware of with mining companies is that capital expenditure. So, we'll use the term CapEx. For the smaller companies, this is very important because they can have a high CapEx, and they obviously don't have any earnings. So, it's important to understand how quickly they're getting through their cash pile.

For the larger mining companies, it's important too, because although they may have very high operating cash flow, if they have extremely high capital expenditure, then they may not generate very high free cash flow. Obviously, free cash flow is the important metric when we're looking at valuation of any company.

Grove: Finally, Gareth, what should investors do to get started?

James: So, I think the mining sector is a high risk sector. It can offer extremely high potential gains, but you do have to be aware of the risks. So, I think what we would recommend is that, investors take their time. Before investing they need to do a lot of research, so they can use the Morningstar website to look into companies' financial backgrounds. They can look into directors and senior management using the website too.

They can use Morningstar's equity research to understand more about the companies. Investors can also contact the research analysts here at Morningstar too. So, my advice would be to take your time, possibly set up some of your favorite stocks in the portfolio tool on the Morningstar website and keep an eye on them maybe for 6 months, 12 months time. When you're comfortable that you fully understand the risks then maybe consider making an investment.

Grove: Gareth, thanks very much for joining us.

James: Thanks Nick.

Nicholas Grove: Investors may have recently heard about covered bond issues by ANZ and Westpac. After the Australian Government passed a law allowing the banks to sell them. Here to help us get a bit of a better understanding about these instruments I am joined by Morningstar Senior Equities Analyst David Walker.

David thanks very much for joining us.

David Walker: Hello again Nick, it's good to be back.

Grove: First of all David what is a covered bond and how does it differ from other types of bonds.

Walker: A covered bond is a new kind of debt security used to fund banks where the collateral is particular assets. A particular group of discrete indentified assets on the bank's balance sheet. This contrasts with the traditional kind of bank wholesale debt funding which is unsecured. Where in the event of the wind out banks would rank behind other more secured creditors.

Grove: David, why do banks issue covered bonds and who do they sell them to?

Walker: Banks wanting to be able to issue covered bonds to broaden their funding options. Their funding base. At this time the volatility, instability in global wholesale funding markets. To give them another kind of market in which to fund themselves away from traditional unsecured wholesale debt markets, gives them more options.

However regulators and the Parliament restricted the issuance of covered bonds to maximum of 8% of Australian assets on the balance sheet. So far the amount of covered bond issuance has been very small, just 1.25 billion in the case of ANZ and 1 billion in the case of Westpac. These figures compare with total loan books worth hundreds of billions of dollars. So if these banks get to the 8% limit at all, it will take years. A couple of banks has had to pull back from issuing its first tranche of covered bonds. Because it's found that global debt capital markets are too unstable at this time.

Grove: David what sort of risks do these instruments pose for shareholders in Australian banks and for deposit holders.

Walker: Well, it's good for shareholders, because it broadens the funding base of the bank in which they own equity. It creates a small risk for depositors which is why it's taken so long to introduce covered bonds in Australia. The argument by the regulator always was that in the event of the worst possible case, one of a liquidation of the bank. There might not be enough loans left on the balance sheet to fund a full payout of depositors.

However the amounts of covered bonds issues are so small compared to total size of the loan book. This is very unlikely additionally the ratio of loans to deposits is already very high, in the worst case there'd be more than enough loans to depositors which are in any event implicitly guaranteed by the Federal Government up to certain limits.

Grove: As in a side David with all that�s happening around the world at the moment in Europe et cetera. How well positioned are our banks to weather the worst of all possible outcomes?

Walker: The worst possible outcome is that global wholesale debt funding market close completely for several months. Now if this happens, Australian banks have sufficient liquid assets to meet, maturing wholesale debt funding requirements over the months ahead in this emergency situation. However they can't keep doing that forever.

Most likely if this were to happen the Australian Government would reintroduce its AAA rating guarantee of bank wholesale term debt funding as it did in global financial crisis. This will come on top of Australian bank's existing superior credit ratings compared to other global banks. So it will put Australian banks in a very strong position. Additionally Australian banks recently have been lengthening maturity of the wholesale funding from say around two years before the credit crisis to more like 4 to 5 years.

So in contrast to European banks which have a problem with a lot of their wholesale funding rolling over time. Not much Australian wholesale bank funding at this time doesn�t mature for several more years.

Grove: David thanks very much for joining us.

Walker: My pleasure.

Jason Stipp: I�m Jason Stipp for Morningstar. As part of Morningstar�s 5 Days to Better Investing, today we�re talking about behavioral finance and how you can actually behave better and improve your chance for better returns.

Joining me today to talk about some behavioral finance issues is Sanibel Captiva Trust�s, Pat Dorsey. He is their director of research, and a former director of equity research here at Morningstar.

He is going to give us some tips to overcome some of those stumbling blocks.

Thanks for joining me, Pat.

Pat Dorsey: Always happy to be here, Jason.

Stipp: So behavioral finance, it seems to me that if you did overcome some of these mental areas, you might able to improve things on the margin, but the fact is that the way that you behave, your temperament, actually has a much bigger potential impact on your returns.

Dorsey: It�s absolutely huge. There�s a Buffett quote that I always love, which says that once you go from 130 to 160 IQ, it really doesn�t matter. What gets people into trouble in investing is their temperament, making the wrong decisions, not being smarter or less smart.

Stipp: So as a smaller investor, this is one of those things you actually can control and you actually can have a pretty big impact on your returns.

Dorsey: Especially because, as a smaller investor, you don�t suffer from something that most portfolio managers do, which is called career risk. If you�re a portfolio manager, at your average large mutual fund shop, your performance versus the benchmark and your peers is being tracked week by week. You underperform for a couple of weeks, or you have a rough quarter, your boss is going to come around and say, �You know, Jason, I think it was those stocks--ACME or whatever else--that you bought, and they�re not doing so well.�

And so you go, �Ugh! If I keep owning those, I might lose my job,� and that�s a huge issue for you. Whereas, of course, if you are an individual investor, you can�t fire yourself. You have no career risk in that sense. So, hopefully, you can think a little more rationally.

Stipp: So thinking a little bit more rationally, this is a way for you as an individual to potentially get ahead, but it doesn�t mean that it�s easy. These are the things that are difficult to overcome.

So, I�d like to talk about some of these mental roadblocks that we encounter, and specifically, I�d like to start with what�s known as �loss aversion� because this is something that�s probably on a lot of investors� minds recently. So, what is this exactly and how can you overcome it?

Dorsey: What it boils down to--and this is really one of the original findings in behavioral economics that we�re not the rational utility maximizers that the economists would think we are--is that losses hurt us two times more than gains give us pleasure--two times more than gains give us pleasure.

And the outcome of this is that people are unwilling to convert in investing an unrealized loss into a realized loss. Hanging on to your losers and just sort of watching them go down, go down, go down, hoping they bounce back a little bit so you�ll sell them. I think that�s something a lot of investors can sympathize with. And it�s not because we are stupid or weird; that�s how our brains are wired. It�s hard for us to lose money. It�s hard to say, �Well, I am down 10% on this, but I was wrong. My investment thesis was just flat wrong. So, I am going to take my loss and move on to the next investment.� It�s very, very difficult to do, but it�s one of the reasons why people tend to hold on to their losers way, way too long.

Stipp: So, how can you overcome this, because you don�t necessarily want to lock in a loss if you think that the security has a brighter future, but how do you make sure that you are cutting something of loose when you need to cut it lose? What�s the mental exercise you need to go through?

Dorsey: The mental exercise is look into the future and not the past--which is a lot harder than it sounds, of course. The market doesn�t care whether you have a gain or a loss. The security doesn�t care if you have a gain or a loss. The security doesn�t know. All that matters is what will that company earn in the future, or how will that mutual fund manager invest your assets in the future. What they have done recently is close to irrelevant.

So that�s what you need to be thinking about going forward. If you have a loss in it, but your original investment thesis was sound. If the manager is still executing on their process. You stand pat. But if you have a loss and the competitive situation has heated up for the company or the manager has gotten fired or kind of gone off the rails, which mutual fund managers do once in a while, well then the future has changed; but it�s the future that�s changed. It has nothing to do with what the securities� returns have been in the past.

Stipp: Another mental roadblock that can cause investors to hold onto something too long is known as �endowment effect.� What exactly is that and how does that affect investors?

Dorsey: This is a great one. So, we overvalue what we already own. I actually gave a talk on behavioral finance just this past Friday in Omaha, The University of Nebraska at Omaha, and I did an exercise where basically I asked students, what would they pay for a coffee mug, and then I asked another group of students, I gave them the mug and said, what would you sell this back to me? It�s the exact same mug. Two times was the difference. So, basically, people would only pay $3 for the mug, but if I gave them the mug and asked them to sell it back to me, it took about $6-$7. So, that�s insane because it�s the same mug, right?

And so the outcome of this in investing is that people tend to get very ... have you�ve ever heard �falling in love with your stocks?� Maybe you have a security that has a low cost basis, it�s done well for you over many years, and then it kind of starts to roll over, and roll over, and roll over, and roll over, and you�re reluctant to let it go. It�s because you�re not evaluating securities on a level playing field.

And that is how you tackle this, is you always tackle securities on a level playing field, whether you own the fund or don�t own the fund, own the stock or don�t own the stock--it�s not relevant. All that matters is, how will it perform in the future? So, again, it�s very hard to do, but focusing on �this manager has made me lots of money� or �this stock has gone up a lot in the past six or seven years.� Those are not relevant pieces of data.

Stipp: So, it�s not only how well will it do in the future, but how well will it do in the future compared to what your other options may be as well?

Dorsey: Exactly right, exactly right. So, certainly, it could be that I think this stock will continue to grow earnings at a 3%-4% rate, but maybe the market is taking a giant header. Maybe China just fell by 50% and Chinese stocks are on sale, you�re going to get a much better growth rate there at similar valuations. So, evaluating other alternatives always makes sense.

Stipp: So, Pat, another thing that can hold me up is the fact that I like to be liked, and this is related to something called social proof. What is that?

Dorsey: Basically, it�s just that--that humans are wired to be social animals. You go back to the savannah where we kind of evolved, and, you know, being in a band of six was probably more likely to help you survive than being one guy who couldn�t get along with anybody. So we�re wired that way for survival purposes.

But in investing, it can get you into a lot of trouble, because just because the crowd is doing something doesn�t mean it�s right. It doesn�t means it�s wrong, either, but certainly doesn�t mean it�s right.

And frankly, the financial media can reinforce this, because what sells magazine and ads on CNBC is what�s popular right now. So the media tends to talk about what�s in favor, not what�s not in favor.

And so, the way to tackle this as an investor, to try to get around this, is just to bear in mind that just because everybody else is doing it, everybody is talking about it, doesn�t mean it�s the right decision. In fact, again it�s not relevant. Whether your buddy is buying the stock or whether there is lots and lots of stories about a particular asset class in the paper, it�s simply not relevant to whether that asset class or that fund or that stock will do well in the future.

Stipp: So it doesn�t mean that the crowd is wrong necessarily, but it doesn�t mean that they are right necessarily?

Dorsey: Exactly. You don�t want to be a knee-jerk contrarian. I mean, look at what happened to knee-jerk contrarians like David Dreman, for example, in late �08 with the banking stocks. They didn�t recognize that it was different that time. There had been a huge shift in the mortgage marketplace that was going to cause losses to be worse than they�d ever been in the past.

In that case, just blindly running in the opposite direction of the crowd didn�t do you any good. Again, it�s not that what the crowd thinks, you should always be running in the opposite direction. It�s that what other people think is irrelevant. It�s your money. It�s the stock you own. It�s a fund that you own. What people on CNBC think about it, what a writer at Fortune magazine thinks about it, what your brother-in-law thinks about it. It�s not relevant.

Stipp: So Pat, another thing that has come up, and I think this is another timely one, is the fact that we�ve seen not only in 2008 that horrible market downturn, but also a lot of rockiness again in the late summer and early fall here that creates the sense of things are going down again. They are going to keep going down. That�s what we�ve been seeing. This is related to something called recency bias. How does that play out and how can you overcome that?

Dorsey: People tend to overweight the most recent information. So, of course, in 2007 home prices weren�t go up forever. In 2009, we were talking about, Dow 2000 and things like that. So this has been demonstrated empirically, actually, with sell-side analyst estimates, which consistently lag actual earnings, lag by 9 to 12 months. Typically sell-side consensus earnings turn most bullish right as actual earnings roll over, and they turn most bearish right as earnings recover. That�s because they�re overweighting the most recent information.

And the way to get around this as an investor is to just look over the long span of time, just look at average earnings growth for corporate America, it has been 5%-6% over a long span of time. That�s kind of the relevant number, much more so than �were earnings down 15% last year or up 20% last year.�

So, looking at lots of data over long spans of time, asset class returns, something that I think Jack Bogle has always spoken a lot about. Looking at what asset classes, equities, bonds, what have you, had done over long spans of time is a much better guide to your future experience than what�s happened in the past year.

Stipp: Last one, Pat. We talked about how, as humans, we like to be liked, but as humans we also like to be right. So I think we go out and tend to try to find things that will support our argument. This can lead to something that�s known as a confirmation bias. How do you overcome this?

Dorsey: We process information that we already agree with more easily. Most Democrats don�t hang out with people with Sarah Palin bumper stickers. Most Republicans don�t have a GObama sticker on their car. We hang out with people who think like us. And in investing, that means if you feel good about the market, you probably read a bullish investor, right. If you thought Treasuries were a terrible investment, you�re probably saying, �Go Bill Gross!� over the past year. That didn�t work out so well. It turned out that people on the other side of that trade were more right.

So what you need to do, then, is you literally need to read about points of view, listen to individuals, consciously seek them out, who make your tummy ache. They make you feel bad, because they�re disagreeing with you, and frankly their point of view says, you might be wrong. But that is really valuable information to know.

You kind of go back to the ... Ronald Reagan �Trust, but verify,� it�s kind of like. That trust your own opinions, but verify them. Verify them by actively seeking out people with the other point of view, and then testing your own beliefs. You might wind up saying well, �I�m still right,� or you might come across information you wouldn�t have otherwise found that will help you make a better decision.

Stipp: Well, Pat, it doesn�t sound like it�s easy to overcome a lot of these mental roadblocks, but certainly it sounds like it could pay off for you in the long run. Thanks for joining me.

Dorsey: Thanks so much for having me, Jason.

Jason Stipp: For Morningstar, I�m Jason Stipp. Thanks for watching.

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