Ep. 2018: All Gas, No Brakes

SPEAKER_01 0:50

I love this quote. This quote comes from Nobel Prize winner Eugene Fama to the CFA Institute a few

The Retirement Portfolio That’s All Stocks

SPEAKER_01 1:01

years ago, quote, academic research produces about three to five good ideas every twenty years. However, the financial industry packages and sells about ten new ideas per week. Well, not only does the wall does Wall Street, but now because of the power of Wall Street's money in academia, academia is constantly coming up with new ways to build portfolios, new ways to retire better, new ways to do all kinds of things with your money that we question because how many new ideas have they have there really been over time? Hi everybody, welcome to Talking Real Money, the podcast. I'm Don. That's Tom over there in his little room where he's got padded walls, which is a good thing. You have padded walls. I'm looking at them. I know. You have padded walls, anywhere I am now. You need those.

SPEAKER_04 2:00

I think home, work, office, they should all be padded.

SPEAKER_01 2:03

You need more padded walls. I'm not arguing.

SPEAKER_03 2:05

I'm not arguing.

SPEAKER_01 2:06

Yeah. Okay. So anyway, the reason we bring this up is because this thing came up a few years ago, but there are some some details that we looked into recently that kind of bother us. This was a study done.

SPEAKER_04 2:19

Two studies.

SPEAKER_01 2:20

Two studies. Yeah, I'm going to skip the four percent rule study. What? That just gets sick.

SPEAKER_04 2:24

No, because we can mention it briefly because they're telling you instead of taking out four percent, it would be better if you took out 3.7.

SPEAKER_01 2:31

Yeah. I mean, really? Isn't that essentially four if you're round? That was my take.

SPEAKER_04 2:36

I was like, wow, there's breakthrough work. I hope you didn't spend too many months or years on that.

SPEAKER_01 2:40

And that oh, that's the other fart fart. There's a Freudian slip. Uh that's the other part I neglected to mention is they're doing this to get press. Always. Yeah. They're doing all this stuff to get press. Now, the one I'm really ticked about is the the uh University of Arizona. Well, Emory, University of Arizona and University of Missouri. This was a few years ago. They got together. Uh said that the way to go into retirement instead of having a balanced portfolio adjusted for your risk tolerance, which the the the stand-in for it is the 60-40 balance portfolio. The better idea, the better idea, the better idea, huh, is to have a hundred percent of your money in stocks in retirement.

SPEAKER_04 3:26

And by the way, I'd love to No, I agree because if I get up in the morning and I drive a hundred miles an hour from my home to here, I'll get here faster. I'll be able to do more work.

SPEAKER_01 3:37

If you survive the Well, yeah, there's that. I mean, yeah, if I don't coming down that hill at a hundred miles an hour. That one hairpin, good luck. On an icy heading down toward the river, that will be no stop.

SPEAKER_04 3:49

That will be that.

SPEAKER_01 3:50

Yeah. Okay. So 100 miles an hour right into the Snoqualmie River or whatever they do. But let's go through this.

SPEAKER_04 3:55

This is a trio of finance professors. As you mentioned, Emory, Arizona, and Missouri found that the all gas where they make this stuff. All gas, no breaks, retirement savings strategy far outperforms the 6040 approach. Duh! Yeah, it does. It's more aggressive. Your hair will be falling out. Uh by the way, it outperforms the target date funds, which are also balanced.

SPEAKER_01 4:20

Well, they're about 6040s. Um 7030s. You know, they're all in that same age. And it says it's a general area.

SPEAKER_04 4:26

It outperforms all other portfolios they measured in terms of building and preserving wealth in retirement, sustaining retirement spending, and generating inheritance. In other words, having large amounts of retirement savings left over after you die, if that's a priority.

SPEAKER_01 4:39

I just want to scream. Yeah. I I do. Because this of course you're gonna make more money if you take more risk. But

The Real Risk of Market Crashes

SPEAKER_01 4:50

but do you think you could have stood that if you're in let's say you retired at the beginning of 2008. God help you. And your portfolio was all in equities, and you found it was uh worth a million dollars when you started the year, and at the end of the year it was worth just over $500,000. How are you feeling?

SPEAKER_04 5:13

Yeah, uh uh no more importantly, would you stay the course? Because remember, it was pretty dark days in the fall of 2008. Every day institutions were failing. Every day, I mean, it if we if the government hadn't stepped in, wow, imagine where we would have been with the largest, I believe, insurance company called AIG at the time. It was it was really difficult. So if your portfolio had gone from a million to half of that, and all these things are happening every day, there was no one saying, hey, bright skies are ahead, you're gonna be okay, just hang in there. It was very, very difficult times. So it's not just the fact that your portfolio goes down that much, it's how your emotion trying to get through that is darn near impossible. I I know very few people. I think you and I used to work for a guy that that was 100% equities. Um, and he used to make the same argument. Now he said, sure, go ahead. You can drive that fast, you can take the ups and downs. If you can do it, sure. But I don't know very many, and you've we've done this in in classes where we've we've said how many of you are okay if you lose X. Almost no one is okay with losing that amount of money.

SPEAKER_01 6:22

Well, and here's the thing that I don't even know how we managed to miss this part. But if you had invested you you were 100% invested in stocks in 1929, by 1938, your million dollar portfolio was worth about eighty, eight hundred and forty thousand dollars. Say that again without taking anything out of nineteen twenty-nine to win?

SPEAKER_04 6:44

Thirty-eight. So basically a decade and you're underwater by a fairly significant amount.

SPEAKER_01 6:50

And if you'd been taking out five percent or four percent or three point seven percent per year, yes, that's right. You would be in trouble. You'd be scared to death about the rest of your life. Yeah, okay. You really would be. This is a dumb piece of it.

SPEAKER_04 7:04

And let's just un let's just do a little more of it. Because here's the thing. Um, we also know because we've looked into this, and we used to make these presentations on a regular basis. If you're somewhere in the middle, you mentioned 6040 or 50-50 or 70 or 70-30, somewhere in the middle, the odds are still greater that I've seen outside of the study that your portfolio will survive. Because remember, there are going to be times you can draw on bonds when your stocks are down, right? Because in this portfolio, when the market goes down, you're gonna be pulling money from things that are decreasing in value, and that helps decrease them more. So the survivability I've seen in 30 to 40 year retirements is in that middle with stocks and

A Strange International Stock Allocation

SPEAKER_04 7:49

bonds. So that's that those are just the numbers. But you pointed out when we read this piece initially, there's another very strange and unusual piece of advice, somewhat buried in it, that the 100% stock portfolio should be allocated to 33% in U.S. stocks and 67% in international. I can't find anybody else, and I looked around after you gave me this that recommends that because that is actually about opposite of what the market capitalization is today. It's about 65% in the U.S. I know.

SPEAKER_01 8:21

I I kind of got a kick out of it personally because I'm a 50-50 guy. I know.

SPEAKER_04 8:25

This is a very strange, very strange. I don't understand how you can defend it other than saying brighter times are ahead for all other countries other than the U.S. It's really unusual.

SPEAKER_01 8:39

And when w we've talked recently about the uh the the risks of a bad market at the beginning of your withdrawal period. If you're 100% equities, it really looks bleak. I just don't underst I I'm I'm truly baffled by these things. I the only reason I think they they possibly exist is so because somebody just desperately wants to get published and get press. Recognized.

SPEAKER_04 9:06

I will also be able to do that. Because it's so shocking. For you for those of you getting close to retirement, remember your returns and your withdrawal strategy, all those are idiosyncratic. It truly, Don's is different than mine. Right? I mean, these things the things you're gonna be you're gonna spend different amounts, you're gonna need different amounts, need different returns, etc. That's number one. Number two is the only correct withdrawal rate we know is the one after you're gone. Because at that point, right, all the rest is just guessing.

SPEAKER_01 9:40

It is.

SPEAKER_04 9:41

It's and so number three is every day, you pointed this out at the beginning. Every day somebody else comes along and says, wait, 4% rule doesn't work, should be 3.7. U.S. stock the bond or US stock ratio to uh international, that's wrong. You shouldn't own any bonds, that's better. I'm every day. So I feel bad for you, the listener, because you're like, well, what who do I believe? This is always at the crux of the matter. Because we tell people to believe the academics, but in this case, yeah, and then you get the academics doing stuff like this.

SPEAKER_01 10:11

Exactly. Which really truly, I I have to it doesn't pass the the test. It it just doesn't. Yeah, yes, we agree with the premise you will likely not guaranteed, but you likely make more money over 30 years if you're 100% in equities.

SPEAKER_04 10:31

That's right.

SPEAKER_01 10:33

But it totally, totally ignores the emotional component of investing. It can't all just be based on numbers. Otherwise, otherwise, the best portfolio that we can find that you can actually build using a mutual fund is a small cap value. 100% of your money in small cap value over the last hundred years would have made you an ungodly amount of money.

SPEAKER_04 11:02

You would have had to deal with some pretty difficult days, months, and years in there.

SPEAKER_01 11:07

And some big tax bills, but hey. But no, it's the it's the 70%

Balancing Risk in Retirement

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losses.

SPEAKER_04 11:13

And I will still, even with all those things said, still argue that being having a balanced portfolio between stocks and bonds in the withdrawal phase, not in the accumulation phase, in the withdrawal phase is still the better strategy, day to day, month to month, et cetera.

SPEAKER_01 11:30

So Right. And we are advocates of hundred percent equities when you're in the accumulation phase. If you can take it, if you can stomach volatility, then my gosh, yeah, you have the time, you have the ability, you have the flexibility, you have the ability to earn more money. You've got all kinds of things going for you early on that you don't have when you're 72 years old and and the market goes down 50 percent. Wait, there's still people alive at 72? I know. I didn't think I'd make it this far. I was confident in my 20s I would not make it this far.

SPEAKER_04 12:03

But the thing is, you people come into the office all the time and say, I don't want to, I don't I don't really want to be alive at 80, I won't feel well, blah, blah. And then you meet up with them at 79 and they forget that they forget that they're Yeah, I kind of want to go to 80.

SPEAKER_01 12:15

I'll take 80, I'll take 90. I'll give me a few more. I just want to see what happens. There's a lot of that to human beings. Yeah, I agree. I just want to see what you know, there have been so many cool things happen since I was born. I just want to see what happens next. I just want to watch my miss anything.

SPEAKER_04 12:30

I just want to watch my grandsons play soccer because they're really good. So I want to see how far.

SPEAKER_01 12:35

Granddad. Whatever. You're both. You're

The Red Flags in Split-Dollar Insurance

SPEAKER_01 12:38

both. Okay, today we uh Tom decided that uh his ear hurt, so he didn't want to get on the phone. So he picked a couple of things. These questions are so unique and complicated that uh we actually usually we just take them off the cuff. These I did copious amounts of research on.

SPEAKER_04 13:02

And one of them comes from your neighborhood there, Mr. Rogers, uh Orlando, Florida. I think that's right up the street there, right? Eric writes, hello, thank you for all that you do. Love the podcast. My employer, he writes, is offering a now listen to this carefully, indexed universal split dollar life insurance plan. Indexed universal split dollar life insurance. You know, I don't buy anything that has more than four words in it, but okay, uh, to high earners, which they tout as allowing a tax reduction benefit. The idea is the employer would, quote, loan out part of the pay that the employee decides to put into the universal life policy. They say by, quote, leveraging pre-tax contributions, it offers the potential to increase net take-home compensation while providing tax-free growth as high as 11% a year, tax-free distributions while working and also in retirement, and a guaranteed 0% earnings floor to protect against stock market declines. The example they give is that you're making $500,000 and you put $200K for 20 years into this policy. You would save on taxes at the Fed tax rate, 35% plus 2.35% Medicare tax. In the first two years, you can take out 75% of the amount. And then from then on, you can take out 80 all tax-free, aside from small taxes on interest. It is an index universal life policy that has an insurance policy crediting rate at 6.15%. This sounds very complicated to me, but what I mean, okay, yes, no. What's our take on all this? It seems like a lot of stuff.

SPEAKER_01 14:43

Oh my gosh, the alarm bells all over the village are going up. We gotta get in the world. We must be under attack by Vikings or insurance agents.

SPEAKER_04 14:50

Oh, yeah, there could be. One or the other.

SPEAKER_01 14:52

Oh my God, I I'm opening a red flag factory. Uh I gotta start making red flags for this one. Oh my gosh. I can't I can't even begin to explain what's wrong with this thing.

SPEAKER_04 15:03

Oh my god. Universal split dollar life insurance. I want to know what's going on. Okay, let's just start with split as with the charts, guys. That's my first.

SPEAKER_01 15:10

Let's just start with indexed universal life. We hate that to begin with. But let's explain why. It's a gimmick. It's a gadget, it's a gizmo. You don't take money out tax-free. That's a lie. You borrow against your own policy. The policy must remain in effect for the entire time you have that money out, otherwise it becomes taxable immediately. And it must be kept right. This business about borrowing from the employer and oh my gosh, that part, the the 200,000 in salary into life insurance and avoiding income taxes. And this the I'm telling you, when we get back to a fully staffed IRS My lifetime?

SPEAKER_04 15:53

No, not happening.

SPEAKER_01 15:54

Uh well, the I'm telling you, there's some trouble to be had in River City. This thing, the IRS is going to come after this thing. In fact, I even found some cases where the IRS had disallowed programs like this, the uh redirecting the salary. Um, under Treasury regulation, get this, 1.7872-15.

SPEAKER_04 16:17

Oh, I dash fourteen, I would have been right there, but okay.

SPEAKER_01 16:21

An employer can advance premiums on employer employee owned life insurance and treat those advances as loans rather than compensation, but it has to meet requirements like the employee doesn't recognize borrowed principal as income, the loan must be genuine. There must be a reasonable expectation of repayment, which it doesn't sound like there is in this. And below market interest creates taxable compensation. So if the employer lends the employee $200,000, that's a tax-free loan. If the employer takes $200,000 of the compensation and calls it a loan, that's a totally different proposition. The the latter one doesn't magically become tax-free just because an insurance policy is involved. This is incredible creative writing on the part of the insurance industry again, which is known for its extraordinary creativity. This sounds like a terrible deal. This sounds like you have an employer who has been taken in by a buddy on the golf course, which in Florida makes perfect sense because from now until May, everybody's golfing. In Florida. In Florida. But yes. Not there. They're golfing here. Um Wow. Uh wow. This just has problems written all over it. Um the the uh I also found this from the National Credit Union Administration. They published some guidance on uh split dollar life plans for executives.

SPEAKER_04 17:48

What do you mean split dollar? Oh, that's refers to what? Split dollar. I don't understand that.

SPEAKER_01 17:54

Well, you're s you're between employee money and employer money and uh but okay, let's just let me go through this. Based on what I can find, I cannot find, and I'm not a lawyer, but I can't find anything that permits all of this in one package. Excluding, for example, excluding $200,000 of taxable salary from current income.

unknown 18:20

I think it's a good thing.

SPEAKER_04 18:21

So they're what you're saying is they're gonna loan you that money instead of pay it out as income. Right. Correct. Okay.

SPEAKER_01 18:27

Right. Right. Right. So and then this immediate accessibility of 75 to 80 percent of that through unrestricted tax-free borrowing, I don't think that's allowed. Retaining favorable life insurance tax treatment without uh deferred compensation problems, there's tax red flags all over this thing. I mean, honestly, I would ask, if you're even thinking about this, which I would say.

SPEAKER_04 18:49

No, I don't think he is, but he's saying what am I missing?

SPEAKER_01 18:52

Ask the idiot insur I'm sorry, I shouldn't say idiot, ask the incredibly creative insurance agent for the exact internal revenue code section that permits that $200,000 salary exclusion. The exact code I want to want you to see. And then a written explanation, written, not spoken, as to why he believes that that 75 to 80 percent loan does not violate treasury regulations as deferred compensation.

SPEAKER_04 19:19

Oh, that's so funny. Those are the two words when I read this, I thought, why don't you just defer your compensation?

SPEAKER_01 19:25

And and the other thing I would do if I was thinking about this, I I again I wouldn't do it. You got to get a tax attorney. Your own tax attorney to look at. Not the insurance companies. Not the insurance companies. Do not trust anything they tell you. They have two the commissions are too big on these products.

SPEAKER_04 19:44

So, Eric, to your question, what am I missing? It sounds like it's not what you're missing, it's what they're not telling you.

SPEAKER_01 19:51

So I I think your employer is being I think they're I I think they're being taken. I do. Yeah. Yeah, uh I mean split dollar plans exist where you you and your employer split the things, but you gotta follow the law. And I just feel like this one it's dancing right on the edge if it's not

What Dave Ramsey Gets Wrong About Investing

SPEAKER_01 20:17

skirting it entirely.

SPEAKER_04 20:18

All right, let's go to another question from New York. This is Chris. Hi, Don and Tom. I'm a relatively new listener and I love the show. I owe a lot of my financial success to Dave Ramsey, who opened my eyes to living on less than I make. I have no debt outside of my home. I invest 15% of my income and have around $700,000 in a mix of traditional IRA and Roth. I'm 45%. That's great. From what I observed on your show, your stance is a bit critical of Dave Ramsey's investment advice. I'm following his diversification recommendations with 25% in each class of mutual fund uh growth, growth and income, aggressive growth, and international. What part of Dave's investment advice do you caution against so I can learn from multiple views on investing? Thanks in advance. Love the show.

SPEAKER_01 21:08

Well, let's start at the very beginning. It's a very good place to start, as the song says. One, he claims, and I'm I'm this is not anecdotally, he actually claims it in print. I found it. That uh these that you if you invest in a in a in an equity portfolio of the kind he recommends, which by the way, when you use those categories, those sound a lot like the American funds.

SPEAKER_04 21:30

Well, no, they sound old. That's this kind of thing. Growth and income was something you talked about in 1915.

SPEAKER_01 21:34

Well that's American fund stuff.

SPEAKER_04 21:36

Yeah, okay.

SPEAKER_01 21:36

That's but he claims that a a reasonable expectation, a reasonable expectation of return is 12% per year.

SPEAKER_04 21:45

And yet, if you ask other people that really look at actual investor returns, a reasonable expectation would be somewhere more closer to six to seven percent for a variety of people.

SPEAKER_01 21:55

Well, no, no, no, no, no, no, no. He's saying all equities, to be fair.

SPEAKER_04 22:00

People that all you can go back and look at the people that survey mutual fund use, et cetera, they're going to say actual investor returns six to eight percent. That's what people actually have to do. If you're invested completely in stocks and you're in every day and it worked out, yeah.

SPEAKER_01 22:14

He's saying that the SP 500 over 100 years made 11 whatever per year. I don't remember what the period was. But anyway, that's not the thing. Here's the thing. Okay, let's assume for a minute his 12% number for the stock market is a reasonable number. Well, he sends you to people who sell commissioned products like the American.

SPEAKER_04 22:31

Actually, what he tells you. He tells you at the beginning, you need an advisor. And I think many people do need an advisor for more than just asset allocation, by the way. But the type of advisor he sends you to is, as you just said, commission uses expensive products. So these are all completely 180 degrees from what we think you should do, where you should use low-cost index or index style. Then advisors 100% fiduciary. His advisors are not. And so that's right off the bat.

SPEAKER_01 23:06

Okay, I tell you, now that's not true. Some of them very well are pro. I mean, they might I m they can they can be fee only. He'll accept those. He doesn't turn them away. It's just that most of them are commission people. You can tell you they are.

SPEAKER_04 23:18

But let's go then let's go more specifically to his asset allocation, growth, growth in income, aggressive growth in international. This ignores a very important, several very important asset classes. Smaller stocks, small value stocks, large value stocks, et cetera. Those have been better performers than growth over the long haul. So the very specific aspect of that, in addition to the high expense, in addition to the sky high expense ratios, and in addition to these that you mentioned casually, are actively managed mutual funds. There is somebody there that is telling you they know the future, and they most certainly do not. And you can go read SPIVA, the survey. These type of funds have underproduced indexes for decades. That's so our our advice would be not to use his advice

Monte Carlo Simulations Challenge the 12% Claim

SPEAKER_04 24:14

there. No question.

SPEAKER_01 24:15

Okay, I actually went further. I ran 200,000 Monte Carlo simulations. 200,000? 200,000 Monte Carlo simulated. Busy guy simulating a 30-year retirement with each with three different return assumptions. One an 8% average annual return, one a 10% average annual return, and one Dave's 12% average annual return. Taking out the 8%. And again, this is this is depending on how the markets do. Um over, let's see, let me find it. Uh with using using even his most optimistic return, 57% of the scenarios ran out of money before they ran out of life. Wow. Because you got good markets and bad markets. It's sequence of return that kills you. Indeed. It's not, you'd think 12% average annual return, 8% withdrawal, I win. No, no, no, no, no, no, no. If you're taking money out at the beginning and the market is collapsing at the early part of your withdrawal strategy, your returns have to be much higher in subsequent years than your 12% average to make up for the loss of all that money earning money over that time. So when you factor in sequence of return risk, which means taking out money early and really getting hit hard, um, you you only have a 43% success rate. And if you're taking 8% out a year and the market only does 8% a year, on average, that the key is on average, you you have a 87% chance of running out of money.

SPEAKER_04 25:58

And this is another reason to be balanced, right? Again, and another reason to have your own plan, not just to oh yeah, if I make 12, I I I can take out eight. It doesn't work that way, sadly.

SPEAKER_01 26:10

No. It's it's simplifying the math to to an extent that is well, it's doing your listeners a huge disservice. Dave Dave does great service when it comes to beating you up over bad debt. Or debt at all, really. Well, there's he is a little too hard on mortgage debt. I agree. I believe he's a little too hard on mortgage debt. He thinks all debt is bad. He's he's a ze he's and I'm a little bit of a zealot when it comes to this stuff. He's a zealot. Which is not necessarily a bad thing. But when it comes to his investing advice, it still is terrible. Yes, it is. It is truly terrible. I would not follow this growth, growth, and income strategy. No. No way, no way, no how. Matter of fact, good luck finding those factors anywhere but at the American funds. Trevor Burrus, Jr. Well, because as I said, they got Nobody uses those anymore.

SPEAKER_04 27:02

No, that was like those expressions, those the nomenclature goes back to like 1985. No kidding. That's what you call it.

SPEAKER_01 27:10

When I was starting out, we talked growth, growth and income, equity income. Yeah.

SPEAKER_04 27:14

So again, just to close it out, yes, Dave gives some great general financial advice. Getting out of debt, a good thing. Too many saving advice. Spending and saving, all those we love that. Investing, we'll just say it gently, not so much.

SPEAKER_01 27:34

I just can't get over this. I I just really can't get over how bad these numbers are, and yet his acolytes continue to follow him blindly. The numbers just don't work. Pencil this out. Just pencil it out. Okay. Intuitive. Intuitive. Big sheet of paper to do 200,000 Monte Carlo simulations, but Yeah, that's these days it's a lot easier than it used to be.

SPEAKER_04 28:01

Talk about killing trees. That's

Send Us Your Financial Questions

SPEAKER_04 28:03

a lot of trees.

SPEAKER_01 28:04

So, anyway, if you have questions like those or any others, please send them in. We love doing the research. We really do. And uh debunking a lot of this bunk, and it's bunk. Go to talkingrealmoney.com, ask a question, hit the mic button for the Friday QA podcast. I need some more of those spoken ones. Uh let's see.

SPEAKER_03 28:28

And get your plan together for can we believe that? 2027? 2027. That's around the corner.

SPEAKER_04 28:36

I know. Yeah, we know why. But anyway, so get your portfolio review, make sure you're heading into the year. Time is time, supposedly. Doesn't turn out that way when you get older. But anyway, take advantage of the free portfolio review discussion with an advisor, and you can go further if you want and actually have a plan as you head into the new year. Highly recommended.

SPEAKER_01 28:58

Oh, by the way, just wanted to make a footnote on the Monte Carlos. I didn't even take out, I just gave you the return. I gave a 12% return without fee reduction. You just gave them the 12%. Yeah. So good luck with that. Good luck with that. Thanks for listening. We appreciate you. And remember, we're here almost every single day of the week.

unknown 29:18

Money! Money!

Important Podcast Disclosures

unknown 29:20

Money!

SPEAKER_05 29:21

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