By Dr. Jim Dahle, WCI Founder
Dr. William Bernstein trained originally as a neurologist but developed an interest in investing mid-career. I credit his book, The Four Pillars of Investing, with having the biggest influence on my investing career. I attended Bogleheads 8 when Jack Bogle couldn't go due to medical problems. But I wasn't too disappointed since I got to meet Bill Bernstein there. I was a Bernstein-head before I ever found the Bogleheads. He was a keynote speaker at WCICON22. I'm always interested in what he has to say. Plus, it helps that he can speak “Doctor.”
In conjunction with the marketing for his book, The Ages of the Investor, which was published in 2012, he did an interview with CNN. In that interview, there were several ideas worthy of discussion—most importantly, knowing when and how to reduce your level of risk to be a winner at the retirement game.
Stop When You Win the Game
Bernstein was asked, “How much exposure should people have to stocks?” He answered:
“A lot of people had won the game before the [2008] crisis happened: They had pretty much saved enough for retirement, and they were continuing to take risk by investing in equities. Afterward, many of them sold either at or near the bottom and never bought back into it. And those people have irretrievably damaged themselves.
I began to understand this point 10 or 15 years ago, but now I'm convinced: When you've won the game, why keep playing it?
How risky stocks are to a given investor depends upon which part of the life cycle he or she is in. For a younger investor, stocks aren't as risky as they seem. For the middle-aged, they're pretty risky. And for a retired person, they can be nuclear-level toxic.”
The reason why stocks aren't very risky for a young person is that you have a lot of “human capital” (the ability to make money working) left. On the eve of retirement, you don't have any of that.
More information here:
How Much Is Enough?
Bernstein recommends a rule of thumb, based on annuity payouts and spending patterns late in life, that you should have 20-25 times your residual living expenses (after pensions and Social Security) invested solely in safe assets. No stocks at all. This should be in TIPS, SPIAs, and short-term bonds. If you have more than that, that's your “risk portfolio,” which he describes this way:
“Anything above that, you can invest in risky assets. That's your risk portfolio. If you dream about taking an around-the-world trip and the risk portfolio does well, you can use it for that. If the risk portfolio doesn't do well, at least you're not pushing a shopping cart under an overpass.”
This is a little bit of a different way to think about things. The 4% rule was developed based on keeping a significant portion of risky assets in the mix. The Trinity Study showed that having fewer stocks in the retirement portfolio INCREASED your risk of running out of money early. But Bernstein suggests that once you hit your number (which is about the same number you'd hit using the 4% rule), you put all your money into safe assets. If you want a “risk portfolio,” then you need to keep working a while longer. If you buy into Bernstein's theory, you'd better plan on working a little longer, saving more, or spending less in retirement.
More information here:
I’m Retiring in My Mid-40s; Here’s How I’ll Start Drawing Down My Accounts
Fear of the Decumulation Stage in Retirement
A Framework for Thinking About Retirement Income
William Bernstein's Thought Experiment
“I did a little thought experiment in which I calculated how many years it took people starting work in different years to make their number. I realized that the cohort that started working during the worst of economic times is the one that did the best. The last cohort that actually was able to make their number started their careers in 1980, and they made their number in 19 years. And the graph ends in 1980, because no cohort that started work after 1980 actually made the number.”
I'm sure the book goes into more detail on this point, but it does illustrate that when you retire is at least as important as any other factor you can control. I have family members who retired in the late '80s and rode the bull market for the first decade of their retirement. They couldn't have timed it any better. Other family members who were going to retire in the early 2000s ended up having to work a few more years to get to a less comfortable retirement.
Determining When to Reduce Risk
“[In the middle of your career] you need to start bailing out of risky assets as you get closer to achieving that liability—matching portfolio—when you can ‘win the game' without taking so much risk. Instead of cutting your stock allocation one percentage point a year—the standard formula—in a year with absolutely spectacular returns, you might want to take 4% or 5% off the table. In a series of years when stock returns have been poor, you don't take anything off the table. And over time, you start laying down a floor of safe assets with the proceeds from the stocks you've sold.”
While this approach smacks of market timing, it's entirely based on past performance—not future performance—and requires no predictive ability. He's just suggesting that your gradual transition from a 75% stock portfolio to a 25% stock portfolio doesn't have to occur in an even manner. It's OK to reduce the risk level using broad strokes, especially after a good year or two. Seems wise to me.
More information here:
The Average Investor Needs a Financial Advisor
I had a long conversation with Bill about the ability of investors to do it on their own. I've mentioned before that each of us has two jobs—practicing the profession we trained for and then our moonlighting gig as a portfolio manager. Bill used to think that most people could manage their portfolios successfully. But the longer he's been in investing, the more he realizes that it's really quite a tiny sliver of the population that can successfully manage their own portfolio. He explains it this way in the interview:
“I've flown airplanes, and as a doctor, I've taken care of kids who can't walk. Investing for retirement is probably harder than either of those first two activities, yet we expect people to be able to do it on their own.
An alternative would be to have a pension system such as in Singapore, where the government forces people to put money into a dedicated investment pool that it manages at minimal expense. And when people get to be of retirement age, they are forced to annuitize some of those savings, which turns into safe income.”
I have to admit I share his opinion. When I first learned a little about investing, it seemed so easy that I figured anyone could do it. The more people I meet and talk to about money, the less I'm convinced that most doctors, much less most people, can do it on their own. Many readers of this blog are in this small, capable sliver, but you certainly shouldn't feel bad if you'd prefer having a financial advisor or two helping you out.
How to Choose an Advisor
Bill was asked, “How do you find a good advisor?” This was his suggestion:
“Interview one and say, ‘Look, this is my portfolio now,' and you show him or her a simple, cheap index-fund portfolio.
And if he says, ‘You know, this is really good, you've got the right idea, I think we can diversify you a little more by using some more cheap index funds.' That's the answer you want to hear. You've probably found an honest advisor. And someone who adheres to an index-fund portfolio will probably be more likely to adhere to the policy, because you've got someone who has some humility and realizes he doesn't know how to time the market.”
As usual, there's a lot of wisdom there. Thanks, Dr. Bernstein for all you've done for investors, doctors, and those of us who like to wear both hats.
If you aren't already a fan of Dr. Bernstein, here are links to a few of his best-selling books, many of which I review on my Best Financial Books for Doctors list. Enjoy!
If You Can
The Investor's Manifesto
Investing for Adults
The Four Pillars of Investing
The Birth of Plenty
A Splendid Exchange: How Trade Shaped the World
What do you think of Bernstein's rule of thumb? How have you reduced your level of risk in retirement?
[This updated post was originally published in 2012.]
I guess for most it’s best to have a more conservative portfolio as you age, But, I really don’t agree with it. I think a better idea is to save and invest so much, invested in equities that even sustaining a crash you would still have more money. Also, if you balance some of your portfolio with cash generating assets such as triple NNN properties, consistent income, with SS, you won’t have to dip into your 401, 403, IRA, at the wrong moment. Also, I think your heirs will thank you by not going so conservative, look at it this way, you are not just investing in your life expectancy, but theirs as well. Imagine you started going conservative at 60, then lived until you are 102, that’s a long time earning small returns. Just some thoughts. And you might think, that doesn’t happen, well it did for my grandmother. She lived until 102. If you have a family I don’t think they are going to leave you on the curb in your older years because you didn’t go conservative.
Yeah, I agree. It might be difficult to say exactly when you “ won the game” as Bernstein says. If you have legacy goals, you might want to continue to invest aggressive.
“If you have more than that, that’s your “risk portfolio,”
This is pretty much where I’m at. Instead of “when you win the game, stop playing” it’s more like stop playing with what you need to retire safely, then you can increase risk on the excess. I anticipate the % of stocks to rise in my retirement since that’s where I’m putting money into and letting grow at this point.
Managing money in retirement is a lot different than when you’re working, that’s for sure.
“Instead of “when you win the game, stop playing” it’s more like stop playing with what you need to retire safely, then you can increase risk on the excess. ”
THIS!!! Bernstein isn’t saying everyone ought to put 100% of their money into bonds and cash. He’s saying put the money you NEED into bonds and cash. You can keep the rest invested in equities if you like, knowing that you’ll be OK of you permanently lose a significant percentage of that money (or even if you lose all of it).
I’m about 6 years into retirement. Prior to retirement, I put stocks in my taxable account and fixed income in my tIRA. I can tell you that it is difficult to convert all that stock into fixed income because of the large capital gains tax that I would incur. I can live off of Soc Sec, dividends, and RMD. I don’t need the additional tax burden of capital gains since that would also drive Medicare IRMAA higher. I understand the argument to quit while your ahead, but I struggle with the tax implications.
Yeah, dude absolutely the tax hit can hurt. Might make you feel better if you realize that these are longer term capital gains where you’re not actually paying your full marginal tax rate a discounted tax rate. This might help psychologically. just make sure your securities are selling are greater than a year old 🙂
Nice post Jim about dude I absolutely freaking love! not just because I’m a neurologist, but I love the salience he adds in his writing and speaking. I love the “at least you’re not pushing a shopping cart under an overpass” and also some other examples where he says “ The financial industry serves you like Baby Face Nelson services banks” or if you don’t save for retirement “you will be eating Alpo”.
Do you think him that most doctors need a financial advisor in your experience because it is not part of a regular required curriculum? As a doctor I did everything that I was told to do to become a good doctor. If a financial literacy class was required in all medical schools to become an MD/DO, Do you think this will solve the “most doctors need a financial advisor problem?”
I’m pretty sure for myself as well as for all doctors that if they had to pass a test proving financial literacy, the dumb doctor money problem would disappear immediately!
Jim, do you have any data on medical schools that make it required such as Jason mizell at University of Arkansas as well as Jimmy Turner at Wake Forest if those doctors attending those medical schools end up not needing a financial advisor and being more financially successful?
My guess is not that 99% of docs need an advisor, but I still guess 20%. Even putting it in the curriculum may not get the figure all that much higher because they’re just not that interested. Maybe if it were in every school curriculum we could get the number up from 20% to 25%, dunno.
No, I haven’t seen that particular question studied. My goal isn’t necessarily to run financial advisors out of business. I want the crappy ones and the overpriced ones run out of business, but that’s it. The number of docs who need a good advisor is never going to 0%.
Jim, one of the things I’ve really appreciated about you is your willingness to throw the BS flag on the Bogleheads Forum when posters there are excessively/crazy conservative with some of their opinions. I have much respect for Bill Bernstein’s intellect and his ability to pivot from practicing doc to personal investing guru mid-career; I benefited considerably from reading “Four Pillars;” and he’s certainly forgotten more about personal finance than I’ll ever know. Having said that, I can’t help feeling that you’re giving him a pass for being majorly pessimistic and a bit of a curmudgeon. He’s been saying that equities are markedly overvalued for a decade-plus now, and most of us would be considerably poorer if we’d taken his advice to heart over this period. As others have already observed, his long-held dogma that retirees ought to have 20-25x in very low-risk fixed assets (a) is impractical for the majority of us, and (b) why?? Not to say that the Great Recession is as bad as things will get in our investment lifetimes, but having 10x in fixed as a retiree in 2008 would have been easily more than sufficient to ride things out (fwiw, I was 100% in equities then and didn’t blink, despite being middle-aged and thus stocks already being “pretty risky” per BB). Sorry, rant over, but I do think that Dr. Bernstein has chosen to take a rather contrarian stance without really being called out for this (ooh, look at those nice clothes!).
Did you miss this post?
https://www.whitecoatinvestor.com/optimists-vs-pessimists-finance/
Also, Bernstein isn’t saying save up 20-25X in bonds (or whatever) first. He’s saying when you get rich, put a whole bunch of money/enough money into assets that will keep you rich and then take risk with the rest. I’m not sure everyone in this comments section understands that. The idea is to avoid taking risk you don’t need to take to reach your goals. That’s pretty hard for me to disagree with. How you implement that concept of course, will be highly variable.
Thanks Jim – certainly see how that minimizes volatility and sequence of returns risk, but what about the ol’ “inflation eroding your purchasing power 10 years down the road” type of concern? Is the assumption that low-risk assets will at least keep up with inflation (just not outpace it)?
I said don’t take risk you don’t need to take. You do need your portfolio to keep up with inflation. So if you’re retiring with barely enough, that probably means 50%+ of the portfolio is still in equities. Maybe you don’t qualify as having “won the game” yet if you can’t just stick it all in TIPS and still have enough.
I think people are trying to get some sort of specific investment instructions out of what is a general concept. The general concept is “Stop playing when you win the game” or “Don’t take risk you don’t have to take to reach your goals.” Some methods that can be used to implement the concept are dialing back your asset allocation, buying SPIAs (especially back when inflation-indexed SPIAs were available), buying TIPS ladders/LMP type portfolio etc. If you have enough money that you can buy a 30 year TIPS ladder covering all your living expenses or maybe just your basic living expenses, then you can go hog wild on risk with everything else whether everything else is 10% of your portfolio or 90% of your portfolio.
But somehow people are reading this as “a retiree’s portfolio shouldn’t have any stocks in it” and I think those people are missing the point of the discussion.
Good article. I’m curious, Jim. Since you’ve become FI have you followed this advice? If I remember correctly, you have 25% bonds. Obviously I don’t know your financial specifics but is 25% a significantly derisking for your portfolio?
We’re 60/20/20, so 20% bonds. But we’re wealthy enough that we can live off just our bonds the rest of our lives. So yes, I guess we’ve followed it in that respect. But we didn’t go to 100% bonds just as soon as we had enough.
It’s more important to understand the concept of not taking risk you don’t have to take with money you actually need than exactly how you do that.
WCI,
I agree with much of what you and Berstein say on this subject, but if you step back from some of it you can see that the 4% rule is not really a good measure of when “Enough is Enough” especially if you are going to change your investing AA from aggressive to super conservative as you go into retirement. Look at the investing timeline of “work to grave.” It certainly consists of two separate “periods” but in the big picture they can be equal in length. Let’s start saving at 30, retire at 60 and live to 90, as a typical example. This leaves 30 years to be withdrawing money from your portfolio, which “could” stand up to the 4% rule, but generally not as well if you put all your investments into bonds or fixed income, maybe just keeping up with a nominal inflation. Since most of the clientele here are Doctors, you know even better than I that some end-of-life scenarios aren’t going to survive well on the 4% rule.
The issue is really your risk tolerance.
If a person has trouble sleeping on the 4% rule and a smaller balance sheet, then maybe the answer for them is the “2% rule” but still keep maybe 20% in equities like a market index.
If a person understands investing and has a higher risk tolerance they can understand that if they have that same size retirement nest egg that supports a 2% rule, (twice the 4% rule nest egg) that they don’t need to invest conservative in retirement because retirement is 30 and maybe 40 years, and they have time to recover from any market upsets that we could be in based on the last 120 years, because with an extended 50% cut in your balance you are still only doing the 4% rule, so even if this 4-6 year recession hits you on day one of retirement you still are going to come out ok, if you don’t panic.
PS. I retired at 60 and only changed my asset AA from near 100% equities to about 85% equities now at 72. Sure, the market has been kind for me, but to counter that I left probably 2% to the market on the table over most of those years, which is not uncommon for most investors.
Yes, you’ve identified the issue. Huge discussion about it taking place here too:
https://forum.whitecoatinvestor.com/general-welcome/465709-discuss-latest-wci-blog-post-stop-playing-when-you-win-the-game/page10#post466122
Lots of people that don’t understand the concept of a Liability Matching Portfolio (LMP) either and I’m not sure you’ve got that yet.
2% is way overkill by the way. If you are really thinking 2% you should definitely put an LMP plan in place (30 year TIPS ladder etc)
JD,
What do you think would be the minimum in liquid assets a man can retire with at age 45? Let’s say it’s a physician that could theoretically work or go back to work, if needed, but is competent with investments and wants to do other things in life. Does it change at age 50? Does it matter that you can predict how long you’ll live, really? I’m just saying that because I don’t see a lot of people spending a lot into their 70s, or caring as much if they didn’t, given the reality of that being an “older” age – even if you are still in quite good shape.
Impossible to answer without some sense of what that man spends annually. But there’s little difference between a portfolio that’ll last 30 years and one that will last 200 years.
And yes, people tend to spend less in mid retirement, the infamous “slow-go” years. The best numbers I’ve seen are about 20-25% less compared to the go-go years of early retirement. Of course, if you retire at 45-50, you’ve got an awful lot of go-go years.
Let’s say conservatively 110k in annual spending, starting at age 47. What would be the range of liquid assets that most likely wouldn’t be a worry, concern, etc? Thanks.
$110K * 25 = $2.75 million. I’d be uncomfortable retiring, especially at age 47, on less than that. I think that’s the minimum. Most would say you probably ought to be a little more conservative if you’re retiring that early, although you don’t have to if you really can and are willing to go back to work if SORR shows up in the first decade. So let’s say 33X, or $3.63 million.
Whether someone still worries despite having that much probably has more to do with their disposition toward anxiety than the level of assets though.
I felt that I had won the game at the end of last century. I quit (at 48), divested of essentially all risk, invested in Government TIPS and Savings bonds, and have never looked back. One of the biggest hurdles is getting over the Fear of Missing Out. I personally never let the Jones successes (or failures) bother me.
FOMO is real. Just read the comments here and especially on the WCI forum about this post.
Shawn, you picked a good time to be born. I picked a good time in that I’ve seen BTC for what it is, and it’s one of the funniest things going that people psych themselves out of (yes it’s still early). How about that for FOMO? You’re about to see unreal amounts of it.
Did you have a number you picked for liquid assets at 48?
Your crystal ball seems so clear compared to mine Scuchy.
Yes, we’re about to find out.
Status quo and fear often cloud people’s judgment or critical thinking, I’ve seen that a lot in the last 5 years. It is true that the marginal benefit for some (you’d be in this group), given their approach to life, is less even if it is what I say it is. But that’s mostly just risk aversion, since perceived risk is another interesting topic.