Volatility, particularly on the downside, is not an investor's friend. Most of us don't do “the investing thing” to get a rush. This is serious business for us. My wife and I are primarily deferring spending now so that we can spend more later. So when I save money it can really hurt. I am faced with the choice of upgrading my boat, or maxing out my defined benefit contribution. A trip to Europe vs backdoor Roth IRAs. A habit of maxing out the 401(k) or a $2 Million house.
Very little of anyone's savings is truly “spare cash.” It all represents a decision to defer spending now in order to get something you prefer more of later. Thus, since it is so painful to save, I expect my money to work as hard as I do. That means I need my money to provide a solid return.
Bonds Alone Don't Provide Enough Return for Retirement
The only return that counts is my after-inflation, after-tax, after-expense return. My bank account at Ally Bank typically pays less than 2% nominal, or about MINUS 0% real (after-inflation), and even less than that after taxes. As I write this in 2019 the yield on (and thus the market's best guess of future return of) Vanguard's Total Bond Market Fund is 2.69%, or about 0% real.
If you'll recall the rule of 72 (divide 72 by your rate of return to get the number of years it will take your money to double), you will quickly realize that at real returns of 0% or less, your money will never actually double. Even with corporate bonds (current real yield 2.97%) it will take your entire life for your money to double once. [ Editor's Note: Yields as of 8/12/19.]
For most people, whether they realize it or not, those types of returns are simply not adequate for a retirement portfolio. Most people only have 40 years or so to save for retirement. That might be as little as 25-30 years for a physician, especially one who wants to retire before 60.
Two Types of Market Risk
Many investors think market risk is the biggest risk their portfolio faces. There are really two types of market risk.
#1 Short Term Market Risk
Simple short-term volatility, is ignored by investing “adults” (a term popularized by Dr. William Bernstein in his recent books.)
#2 Long Term Market Risk
Risk that the value of your investments will go down and NOT eventually come back, is obviously more serious, and primarily due to hyperinflation, depression, confiscation, and devastation. These types of scenarios, however, are much rarer and sometimes the solution to them is running MORE short-term volatility risk.
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The Biggest Market Risk: Not Meeting Financial Goals
However, in my opinion, the biggest risk an investor faces is the risk that his portfolio doesn't grow fast enough to meet his financial goals. There is a relationship between how much you need to save, how long you have to save it, and how much your money needs to earn. The more you save, and the longer your time frame, the lower returns you can tolerate. What most people don't realize, however, is just how big of a deal it is to make sure you're getting reasonably high returns on your invested money.
Income Needed in Retirement
I've written before about how most physicians don't need to replace 100% of their pre-retirement income in order to have a great retirement due to lower taxes, lower expenses, and no need to save for retirement and college. The truth is that 25-50% of it ought to be plenty, especially when combined with Social Security.
However, for this post, I have “run the numbers” using four different percentages of portfolio-supplied, pre-retirement income replacement — 25%, 40%, 50%, and 60%. For each of these percentages, I have listed the number of years you have to save across the top row and the after-inflation, after-expense, after-tax return you must achieve down the left column. The spaces in the chart represent the percentage of your gross income you must save each year.
Obviously, the chart is a bit of a simplification, as you're not going to get the same return each year, so it completely ignores the very important sequence of returns risk. Despite this simplification (which means you probably need to save even more than the charts show), I think the exercise is still useful. Let's take a look at the charts:
| Savings Rate for 25% Pre-Retirement Income Placement | ||||||
| Years To Save | ||||||
| Return | 15 | 20 | 25 | 30 | 35 | 40 |
| 0% | 41.7% | 31.3% | 25.0% | 20.8% | 17.9% | 15.6% |
| 1% | 38.4% | 28.1% | 21.9% | 17.8% | 14.9% | 12.7% |
| 2% | 35.4% | 25.2% | 19.1% | 15.1% | 12.3% | 10.1% |
| 3% | 32.6% | 22.6% | 16.6% | 12.8% | 10.0% | 8.0% |
| 4% | 30.0% | 20.2% | 14.4% | 10.7% | 8.2% | 6.3% |
| 5% | 27.6% | 18.0% | 12.5% | 9.0% | 6.6% | 4.9% |
| 6% | 25.3% | 16.0% | 10.7% | 7.5% | 5.3% | 3.8% |
| 7% | 23.2% | 14.2% | 9.2% | 6.2% | 4.2% | 2.9% |
| 8% | 21.3% | 12.6% | 7.9% | 5.1% | 3.4% | 2.2% |
| Savings Rate for 40% Pre-Retirement Income Placement | ||||||
| Years To Save | ||||||
| 15 | 20 | 25 | 30 | 35 | 40 | |
| 0% | 66.7% | 50.0% | 40.0% | 33.3% | 28.6% | 25.0% |
| 1% | 61.5% | 45.0% | 35.1% | 28.5% | 23.8% | 20.3% |
| 2% | 56.7% | 40.3% | 30.6% | 24.2% | 19.6% | 16.2% |
| 3% | 52.2% | 36.1% | 26.6% | 20.4% | 16.1% | 12.9% |
| 4% | 48.0% | 32.3% | 23.1% | 17.1% | 13.1% | 10.1% |
| 5% | 44.1% | 28.8% | 20.0% | 14.3% | 10.5% | 7.9% |
| 6% | 40.5% | 25.6% | 17.2% | 11.9% | 8.5% | 6.1% |
| 7% | 37.2% | 22.8% | 14.8% | 9.9% | 6.8% | 4.7% |
| 8% | 34.1% | 20.2% | 12.7% | 8.2% | 5.4% | 3.6% |
| Savings Rate for 50% Pre-Retirement Income Placement | ||||||
| Years To Save | ||||||
| 15 | 20 | 25 | 30 | 35 | 40 | |
| 0% | 83.3% | 62.5% | 50.0% | 41.7% | 35.7% | 31.3% |
| 1% | 76.9% | 56.2% | 43.8% | 35.6% | 29.7% | 25.3% |
| 2% | 70.9% | 50.4% | 38.3% | 30.2% | 24.5% | 20.3% |
| 3% | 65.3% | 45.2% | 33.3% | 25.5% | 20.1% | 16.1% |
| 4% | 60.0% | 40.4% | 28.9% | 21.4% | 16.3% | 12.6% |
| 5% | 55.2% | 36.0% | 24.9% | 17.9% | 13.2% | 9.9% |
| 6% | 50.7% | 32.1% | 21.5% | 14.9% | 10.6% | 7.6% |
| 7% | 46.5% | 28.5% | 18.5% | 12.4% | 8.5% | 5.9% |
| 8% | 42.6% | 25.3% | 15.8% | 10.2% | 6.7% | 4.5% |
| Savings Rate for 60% Pre-Retirement Income Placement | ||||||
| Years To Save | ||||||
| 15 | 20 | 25 | 30 | 35 | 40 | |
| 0% | 100.0% | 75.0% | 60.0% | 50.0% | 42.9% | 37.5% |
| 1% | 92.3% | 67.4% | 52.6% | 42.7% | 35.6% | 30.4% |
| 2% | 85.0% | 60.5% | 45.9% | 36.2% | 29.4% | 24.3% |
| 3% | 78.3% | 54.2% | 39.9% | 30.6% | 24.1% | 19.3% |
| 4% | 72.0% | 48.4% | 34.6% | 25.7% | 19.6% | 15.2% |
| 5% | 66.2% | 43.2% | 29.9% | 21.5% | 15.8% | 11.8% |
| 6% | 60.8% | 38.5% | 25.8% | 17.9% | 12.7% | 9.1% |
| 7% | 55.8% | 34.2% | 22.2% | 14.8% | 10.1% | 7.0% |
| 8% | 51.2% | 30.4% | 19.0% | 12.3% | 8.1% | 5.4% |
You Can't Reach Your Goals AND Have a Low Volatility Portfolio
Now that you've had a chance to be mesmerized by the data, let's draw a few conclusions. First, let's say you want/need your portfolio to replace 60% of your pre-retirement income and you want to retire in just 15 years but you hate volatility so you're going to invest your portfolio entirely in bonds and earn a 0% real return. How much of your income do you need to save? Well….all of it. That's pretty unrealistic, obviously, but it illustrates the fact that you can't have it all. You can't have an early retirement, a high retirement income, AND a low volatility portfolio.
Be Careful What You Pay an Advisor
Now, let's pick something a little more realistic for a high-income earner. Let's say you want to retire after 25 years, want/need 40% of your pre-retirement income, and think you can get a 5% real return. In that scenario, you need to save a more realistic, but still challenging, 20% of your income for retirement (incidentally, that's my rule of thumb for a physician savings rate.)
Now, consider the effect of paying an advisor 1% of your portfolio each year (effectively lowering returns by 1%). Obviously, for this comparison to be valid, you need to invest on your own just as well as the advisor would invest for you. By getting 1% lower returns, you either need to save 3.1% more of your income each year, or you need to work for ~ 3 more years. If you thought 3 years of residency was slavery, how does it make you feel to know you're working for 3 entire years just to pay for investment advice?
Beware Low Market Risk Portfolios
Many investors decide they can't or won't tolerate a portfolio with particularly high market risk. So instead they settle for something with lower risk. While it is true that you are far better off with a more conservative portfolio that you can actually stick with, seeking a low volatility portfolio has its own consequences.
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Consider an investor that, either on his own, or in conjunction with an insurance agent, chooses a portfolio with lower volatility but a lower expected return. For example, the expected long term return on a whole life insurance policy is in the 0-3% real range. A portfolio composed of >50% bonds at today's low yields may also have an expected return that low. Even well-designed insurance-based investing products designed to get a higher return than whole life (such as indexed universal life or variable universal life) have long-term expected returns 1-3% below that of stocks (and don't even look at the short term returns, they're terrible.)
2% Lower returns mean you need to go from saving 20% of your income to 26.6% of your income. For a doctor grossing $250,000 a year, that's an extra $16,500 on top of the $50,000 you were already saving for retirement. That's a new luxury car every 3 years, 2 nice vacations a year, or a much fancier house. There are real consequences at stake when you decide to take less market risk.
Another Benefit of Being a Cheapskate
Being willing to be frugal not only helps you to save more money during your career, but those habits also carry on into retirement. For example, if you are willing to live on 25% of your pre-retirement gross income instead of 40%, you can retire about 7 years sooner, run less market risk, or even hire an advisor to do everything for you.
Only Thing Worse Than Not Enough Market Risk Is Too Much
So what does this all mean? Does it mean that you should be 100% equities your entire life? Probably not. There are a few other factors at play.
Reducing risk in the backseat of our SUV.
- You must tolerate the short-term market gyrations of whatever portfolio you decide on. Sometimes this is where an advisor is most useful. If an advisor can get you to tolerate a portfolio with a 1% higher expected return than a portfolio you can tolerate on your own, then he has at least earned his keep.
- True market risks (inflation, deflation, confiscation, and devastation) are sometimes best dealt with by holding assets with relatively low expected returns, like TIPS, long-bonds, or even precious metals.
- The less volatile your portfolio, the less sequence of returns risk matters.
Jealously Guard Your Investment Returns
But the fact remains that you cannot afford to give away much of your return. If you're like most high-income professionals, for the majority of your investing career, you need to have the majority of your portfolio invested into assets with a high expected return, like stocks and real estate. You need to minimize the taxman's take on your investment returns.
That means maxing out retirement accounts, including the extra ones like the Backdoor Roth IRA and the Stealth IRA, and being familiar with the tax advantages of other accounts such as 529s and UGMAs. It also means investing in a tax-efficient way in your taxable accounts, using techniques such as tax-efficient asset location, tax-loss harvesting, donating appreciated shares instead of cash to charity, minimizing short-term capital gains distributions, and taking advantage of the step-up in basis at death.
It also means you need to minimize your investing expenses, including what you pay to an advisor. Advisors might not work for free, but the difference between a high-cost advisor (2-3% of your assets per year) and a low-cost advisor (0.3-0.5% per year, $1000-5000 flat fee per year, or an hourly rate for a few hours a year) can be profound.
Lastly, it means that accepting lower returns just to feel better might really cost you. This might be a decision to invest in a cash value insurance policy. It might be a decision to pay off a mortgage or student loans costing you 0% after taxes and inflation instead of maxing out your 401(k). It might be a decision to invest in real estate in your home market instead of one across the country promising higher returns.
The stock market has been kind to investors over the last decade. That's no reason to donate your returns to an advisor, an insurance company, or Uncle Sam. There simply isn't enough of a return there for all of you, and since you're the one taking most of the risk, I think you ought to be the one getting most of the return.
What do you think? What are you doing to capture more of the returns you deserve? How did you decide how much market risk to take? Comment below!
Great post. Volatility often has a terribly negative connotation, but as you write, it is necessary to achieve gains. I believe there’s a huge difference between volatility and risk, even though most in finance equate the two. I like to use the analogy of an elevator: going up and down (and eventually getting to your destination) is volatility; if the cables break and you die, that is risk. One is variation around an expected return/destination; the other can result in complete loss. Sure volatility can be frustrating at times, but risk can be demoralizing or even deadly to a portfolio. The difference between the two can’t be emphasized enough. Some of the most volatile strategies are actually the least risky, and some of the least volatile are the most risky (i.e. Long Term Capital Management, Madoff, etc…)
There are some interesting ways to view volatility, I agree, but that does not mean that one needs to stand in the way of a 40-50% decline like what occurred in 2008 or 2009. There are some great funds that focus on protecting the downside that in this article actually outperformed the best mutual funds according to Kiplinger over the long run. http://www.ultratrust.com/Top-Growth-Stock-Mutual-Funds-to-Invest-in-Over-10-Year-Horizon.html
I took my biggest risk today. Here’s the screenshot https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&cd=1&cad=rja&uact=8&ved=2ahUKEwielviq05LkAhUCWq0KHX9OCvMQFjAAegQIABAB&url=http%3A%2F%2Fwww.onestopwebtraffic.com%2Fmake-1000-a-day-with-these-tactics%2F&usg=AOvVaw2RfmkIFu9wlhIZBJJ5Gqyw
You recently reviewed “Affluent Investor” by Phil DeMuth. One thing in his book that resonated with me is that our jobs are safe and stable (relative to selling ferraris to dotcom millionaires, for example). That revenue stream can attenuate higher risk you take in investing. Some of my partners were talking about retiring in 2008…well, that just got pushed back a few years. And they’re still not eating Alpo.
The returns going forward whether stocks, bonds or anything might be extremely low going forward(in low single digits). Assuming that even 100% stock portfolio will produce a 10% return can be a huge mistake. So what can one do about this? Making the wrong assumption can cost one their retirement. If we assume that long term returns are just above inflation by a point or two puts things in perspective. We can’t rely on the stock market to deliver our retirement, so instead we’d have to rely on savings and portfolio efficiency (such as eliminating any asset-based fees, lowering mutual fund fees, making sure that we squeeze out every last penny out of all of our investments). This also includes being very careful with long term debt (consolidate, pre-pay, refinance), because it is guaranteed to save money. Also, investing in your business can bring a much higher return than the stock market ever will. Managing taxes through retirement plans can be another great strategy for business owners. Being extremely tax-efficient is yet another way (using municipal bonds after-tax, for example). Low interest rates may be here to stay or they may spike in a year or two – nobody knows. One thing we know is that if we don’t manage the risk that we do not get do-overs. The problem becomes greater once the income stops flowing. Making mistakes in retirement will be even worse.
I certainly hope that the young physicians reading this post follow your sound advise of maximizing their retirement accounts and having a systematic and disciplined approach to saving. As I approach my 65th birthday next February I’m able to comfortably retire on over 80 percent of my pre-retirement income (assuming I live to age 90).
To capture more of the returns I deserve I switched to a fee based only advisor that utilizes all ETF portfolios which are risk adjusted to fit investors of all ages. My advisor does not sell any commission based products and the total portfolio expense ratio is less than 0.15%. I avoid the risks associated with single stock selection, get returns that are consistent with the assets corresponding indices, avoid the tax consequences of mutual fund capital gains distributions (in taxable accounts), and pay a reasonable advisor fee.
Along with periodic and opportunistic rebalancing I’ve been able to successfully capture the returns that I feel I deserve.
You say, “reasonable fee”. I’m researching different fee-only, fiduciary advisors, and am still debating between an hrly approach and DIY it this year, or use an AUM (knowing I’ll lose money to them, but hopefully they earn their keep). What do you consider this “reasonable fee”?
I’m just trying to ballpark for myself. Thanks
If you are looking for asset allocation advice only for an existing account, an hourly adviser can be just fine. There is no need to go AUM – as discussed elsewhere in the comments, flat fee is an alternative to hourly and AUM fees, and in my opinion it can be a better solution for those who are looking for comprehensive advice, not just basic asset allocation advice.
If you are looking for a long term relationship, hourly or flat fee is the way to go. Don’t look at AUM advisers for some type of extra performance – you won’t get any. They are just as human as everyone else, and the best they can do is build a diversified portfolio of low cost index funds or ETFs for you, develop a long-term investment plan and help you stick to it (as well as have you repay high interest debt before investing).
Then there are other ways in which an adviser can add value, such as tax planning, debt repayment optimization, after-tax investing, and simply getting everything together for you (financial planning). AUM advisers usually charge extra for financial planning, and many simply use software to print out a 100-page ‘financial plan’. Before hiring an adviser, what you might want to do is put together a list of services you will need.
If your finances are very basic, you might not need continuous and ongoing services. If they are more complex, a long term relationship might be worth it. Just make sure that the adviser you work with is a fiduciary who is working for you, not for their employer or broker dealer.
Do you know many flat fee advisors? It seems most (at least who are fiduciary and have a CFP certification) are AUM. Those who aren’t aren’t fiduciary and/or CFP (thus showing experience. I’m also looking at NAPFA.
If I go fee-only (AUM unfortunately) I’m looking at total wealth management. I’m also thinking go DFA advisor, because if DFA returns 1%, I won’t see it, but it will pay for the advisor and be the same as a good job of going alone. If going DFA gets me an advisor at the same benefit I’d get non-DFA going alone, then I figure I don’t lose any money (same rate of return) and I get the benefit of working with the advisor.
I just happen to be a flat fee adviser (shameless plug). I don’t have a CFP (the fact that CFPs do asset-based fees and many also sell products turned me away), and I have an extremely high fiduciary standard (no product sales, no asset-based fees, comprehensive approach to planning, customized portfolio design vs. one size fits all). I’m a registered investment adviser, meaning that I own my own firm, so I can set my own rules (within the limits allowed by law), so this allows me complete freedom to do what I think is right for my clients (almost exclusively physicians and dentists). My main philosophy is ‘do no harm’ as well as have some skin in the game (which means following my own investment advice).
As a former engineer (and an outsider in the financial industry) I don’t have all the baggage, so I approach this as an entrepreneur. I asked myself several questions. What would work best for my clients while providing me with a fair compensation? What types of services are really needed and how can I deliver these services cost-effectively in a way that can help my clients save significant money (even without considering investment returns)? This led me to offer holistic wealth management rather than just asset management.
DFA is not better than Vanguard, and costs more. There are some advisers who criticize DFA for creating more of a religious following that is not necessarily based on the most sound math (I am happy to share the analysis if you are mathematically inclined). For that reason I prefer Vanguard funds because they are very transparent. However, when doing index fund portfolios I use multiple companies that have the best ETFs available rather than a single one (ETFs are the way to go, in my opinion, in part because of much lower investment cost).
I think you’ve nailed it though. A good adviser providing wealth management services should be
1) Fiduciary. That means no asset-based fees (especially not the high fees standard in the industry!)
2) Offer comprehensive planning for their fee, not just asset management.
3) Use low cost index funds and other investments that are best in class (and continuously research to make sure that they are using the best available options).
Konstantin,
The CFP marks are about proving that you have completed a set of course work that demonstrates that you have some base level knowledge of financial planning. To me the CFP was something I completed because I needed to know that I am doing what is right from an educational/ skills standpoint to provide the best client service possible. To say that you don’t want to be associated with CFPs because many have an asset based business model seems a little over the top.
You use a lot of language in your post that is intended to show the viewership here that you approach your business the same as a physician. While financial planning is a new profession, the standard is the CFP which entails an educational element and to pass a comprehensive 2 today board exam. The CFP is not about a business model. While the teeth of our fiduciary standard may not be what others would like it to be at least we CFPs are held to a fiduciary standard (when developing the plan) and it is enforced by the CFP board. Who enforces your “high fiduciary” standard, the SEC? I assume that is the case being an RIA.
I learned better on my own, and I’ve never taken a financial class in my life. I think that White Coat Investor blog is an extremely good idea for doctors and dentists, who should be encouraged to learn as much about investing on their own as they possibly can. When it comes to finance, this is the best type of learning possible. The types of things I’ve learned about retirement plans while working with them (vs. just reading about them) is beyond anything that a typical adviser would ever learn (unless they go outside of their approved ‘curriculum’). When it comes to finance, the value of CFP is seriously overestimated, and CFPs themselves are perpetuating this myth (many charging outrageous fees and selling products to boot). All I’m saying is that just because someone studied for an exam that they are not necessarily worth paying extra for. Life is so much more complex than any financial curriculum (which is extremely limited, too). An adviser should learn from those in the industry who are following the highest fiduciary practices, not from curriculum books (none of which mention that asset-based fees create huge conflicts of interest).
I do what’s required as far as registering with the SEC, but my fiduciary standard is much higher than that advocated by the CFP board (and higher than what’s required from an RIA). Take a look at the latest issue of Financial Advisor magazine to see how the world (including other advisers) sees CFP (and it is not in a rosy light as CFP board would like it to be seen):
http://www.fa-mag.com/news/likelihood-of-confusion-19331.html?section=
This is a great read for doctors as well, so that they realize that things are not black and white. My beef is primarily with asset-based fees (though product sales are not far behind). There is no value for those with large portfolios to pay high asset-based fees.
Konstantin,
I don’t mean to lump you in with many of the idiots in our new profession but what you just said is one of the reasons why financial planning/ investment management/ insurance sales gets a bad rap.
I tell prospects all the time about how low the barriers to entry to my profession are and possibly even lower for tax preparation. You are essentially bragging about the fact that you have never taken a financial class in your life but you are someone who does “financial planneing”. I already had a low opinion of many people who are in my line of work and what you just said validates it.
I see a big difference between you saying this and the WCI saying it. The WCI isn’t proclaiming or actually developing/implementing actual financial plans for clients. You are actually doing this and charging a fee. Your website says you were an electrical engineer, you can obviously pass the CFP courses and Board exam. Once you do that then you can make the statement that you learned more outside of the CFP than the actual classes. CFP should be the baseline requirement to provide comprehensive financial planning for clients, or at least proclaim to do so. It is just the beginning, not the end of your education in our profession.
I agree that a formal designation (CFP, ChFC, CFA etc) shows a dedication to the professions and a commitment to a fairly minimal curriculum. I have had readers ask why Kon specifically has not bothered to get one of these relatively easy to get designations and don’t have a good answer. Is it possible that someone could be a good planner without a designation? Sure. But it’s such a low hurdle I see little excuse for a full-time planner not to jump over it. It doesn’t cost that much in time or money compared to medical (or engineering) training.
In engineering we actually learned how things work. We had practical classes where we learned how the theory applies in practice. We had co-ops to learn how to build stuff.
Like I said before, much of the CFP/CFA curriculum is book learning that has little bearing on reality. I don’t want to waste time learning about bell-curves when I know for a fact that they do not apply in finance (this basically ended my interest in the CFA curriculum).
CFP classes are also very far from the real stuff. Once I saw that the real world is more interesting, I decided not to waste time on this. The ‘continuing education’ requirement is something I fullfill 10 times over by constantly learning about how things work. I don’t need a CFP for that (and that is all that counts for the clients).
Real life is a lot more complex, and that’s why this blog is the place to get much of the information that the financial profession is withholding, often because a typical adviser is actually not very well educated. I get my information from various sources, including reading actual insurance contracts and legal documents vs. reading ABOUT insurance products. I spend time actually working with professionals who know what they are doing, so that instead of reading about it in a book I actually know what real products are and how they work.
One of the reasons I did not want to go the CFP/CFA route is that I wanted to run my business as an entrepreneur, doing whatever I felt the clients needed (and trying new ways to combine what already worked well), so I didn’t want to be bound by arbitrary rules and ‘codes of conduct’. So being registered investment adviser (RIA) is enough for that. I do borrow as much of the best practices from the CFPs though. This is what a good business does, while trying to do better than the competition.
I would definitely consider getting a CFP when there is a single fiduciary standard that outlaws charging asset based fees though, and kicks anyone out for selling products and not acting in a fiduciary capacity. For now, my answer to those asking why I don’t have a CFP is simple: in time I’ll be hiring CFPs to work for me 😉
If I get the question again, I’ll refer the reader to this explanation.
Don’t get me wrong, there are plenty of great CFAs and CFPs I wouldn’t mind hiring myself if I was looking for an adviser to hire. I simply put more value on actual experience since the designation is there mostly to get a foot in the door. It is primarily of use if you want to get hired by a potential employer. After a certain time (just like with engineering, by the way) experience counts way more than the degree.
A lot of this is marketing, by the way. Why the alphabet soup of designations? With retirement plans there is also a similar trend. Lots of designations, the same approach – anything goes as long as the adviser is making money, while the client never gets to see that they have better solutions or choices available, and nobody wants to take more responsibility/liability than their legal department thinks is necessary to make money.
Like I said, I learned more from doing than from taking classes. To each his own. I wouldn’t want to simply work with someone who just took a class and passed a test to become a CFP while working for a wirehouse selling variable annuities. That is exactly why advisory profession gets a bad rep.
This is exactly what I’m trying to convey to doctors and dentists reading this site. The hurdle is so low that many salespeople get a CFP as a fig leaf to obfuscate the fact that they are still salespeople who are not acting in a fiduciary capacity (most of the time, that is).
I can see why so many are attracted to working as a financial advisor. The ratio of pay per barrier to entry may be the highest of any industry, they take little risk, and the accountability and success transparency is remarkably low. It amazes me someone can charge $200-500/hr without ever taking classwork or passing exams, and just say “trust me” without proving any skill or aptitude besides talking or writing smoothly. Imagine if doctors could do this! Perhaps it would be beneficial if there were some performance or accountability metrics created for financial advisors, for everyone to see, that maybe included their client retention rate, number of clients, satisfied vs unsatisfied clients, experience in the industry, whether goals are met, their own personal finances…just anything really, anything! Until there are some standardized measures to evaluate an advisors’ ability/skill/knowledge, and barriers to entry are increased, I think the industry will always be murky, attract sharks, and create consumer discomfort. That’s not to say great advisors aren’t out there, but the system makes it very difficult for them to differentiate themselves.
DMW: Sorry there is no reply link below your post, so I’m replying to the one above.
To become a Registered Investment Adviser, one has to pass an exam. I did have to take a prep class to study for an exam, as it was not easy by any stretch, and many failed it. The CFP exam is much, much harder and longer though. And to pass it one has to take a number of classes (typically a certificate program). The standard is indeed pretty low though, compared to medical school, I agree.
The aptitude is shown in the field. It is not enough to talk well and write well. One has to perform. And the performance becomes pretty obvious after about a year or so. For some it means selling stuff. For others it means solving problems cost effectively by adding value.
Most advisers (including CFPs) actually work for employers and have 9-5 jobs, and they don’t get anything near $500 an hour. If you think starting your own business is easy, then you should know that most such businesses fail miserably (just like any other start-ups). Just because the hourly fee is high doesn’t mean you actually get to bill for 40+ hours a week. To get that, you’d need hundreds of clients, and that might take decades (most never get there though).
The way to differentiate yourself is actually very easy given how canned and standard the repertoire of most advisers is. Provide good information that is valuable to the clients before they even see you. Provide a good product or service that the clients actually want and need (and don’t push or sell stuff to them). Take care of their finances and/or their retirement plan needs for a fair price, and they will be very happy.
There are many great advisers out there, CFPs, CFAs and others. A piece of paper with a degree does not make a good adviser, just like a diploma does not make a good doctor or dentist.
Konstantin,
I guess you are implying that CFPs don’t work with people or retirement plans? We not only have our formal credential but we also get all the experience of working with people and retirement plans too. Saying that you prefer to work in “real” situations than just reading books seems like a cop out to me. Trust me, I don’t just sit at home and read all day and wet the bed when I have a prospect/client. When there is a better credential for financial planning I will get it. CFP maybe a marketing ploy for some but I can tell you from first hand experience that nobody really cares about it. I got it for myself and to benefit my clients. I bet you would benefit greatly from getting it. The process of studying for the board exam is something that you will find beneficial for you and your clients.
ChFC is much easier to get, no college degree required and no board exam. There are cheat books to pass all the course requirements. Its pretty hard to fake than board exam though.
CFA, this is the most rigorous credential to get. I just don’t see too many CFA’s working with individuals. Usually these types work for the bigger institutions. This is mostly an investment specific credential. Maybe I’ll get it in the future.
BTW… the author of the article you show here is a CFP thought leader in the US. Many consider him one of the founders of what we call the “financial planning profession”.
What exactly do you mean that “your” fiduciary standard is “much” higher than CFP, SEC, etc…?
Good question. I always ask: would I do this for myself or my family? Rather than hiding behind a legal document (that is always full of holes, exclusions and omissions), I prefer to hold myself to the highest standard. One part of this standard is the Golden Rule.
“The Golden Rule or ethic of reciprocity is a maxim, ethical code or morality that essentially states either of the following: One should treat others as one would like others to treat oneself.”
Another part is the concept of ‘do no harm’. Would anything I recommend lead to an adverse outcome that is predictable? Is the person taking too much risk and am I being silent just to keep them as a client? Sometimes one should just say the truth even if the client might not like to hear it (often, they actually want the honesty rather than status quo).
So, ‘Golden Rule’, ‘do no harm’, ‘would I do this for my family’ are the ideas that shape my fiduciary approach to helping others. This means saying ‘I don’t know’ when I truly don’t know (and asking someone who knows better) and working with other professionals (such as accountants, attorneys and insurance brokers) to provide comprehensive services (rather than pretending to know it all). This also means finding value in everything, just like I would do for myself. This is a lot more work than just allocating investments in a couple of accounts.
Konstantin, do the CFP and write a book/guest post about whether or not it was a waste of time–it would be great to hear about it!
As a comparison, I have climbed mountains all over the world and I thought that getting a Diploma in Mountain Medicine would be busy work or just another merit badge; in fact, I learned a ton. Similar to a CFP, I would not suggest this qualifies one to be a doc on Denali for example (which I’ve done), but it does imply a background and minimum experience.
Along with JT, I also took note that you haven’t taken a finance course. Maybe this is fine, maybe not. I have plenty of patients who think that I’m an idiot for not prescribing them antibiotics based on their extensive experience, internet research, and self directed learning. My judgment is based on years of experience that was built upon an education that started with a bunch of useless basic science med school classes.
G,
When I said I didn’t take any financial courses, this was to make a point similar to the one you are making. Of course I’ve done a lot of studying, including lots of math beyond even what CFAs do. I actually wrote code and played with mathematical models for quite a while, communicated with various experts in the field and read a good number of books, none of which would make the mainstream CFP curriculum. This was an off-beat way of getting an education, similar to doing homeschooling vs. going to a public or private school. Some people are better at doing one vs. the other. I’ve learned better by doing everything on my own. My past experience with statistics and modeling made it much easier to go above and beyond what a standard financial curriculum is.
Actually, a link above was from a prominent CFP lamenting the fact that many non-fiduciaries make it as CFPs, so the public can’t even tell the difference, since the CFP brand only confuses them so they mistake salespeople for fiduciaries! There is very little competition in this field, and I hope that those outsiders like me who are more interested in doing the right thing for a fair fee start changing this industry for the better. I don’t want to be with the herd, and I don’t want to just fit in, so not getting a CFP is also a form of protest, if you will.
I want to create my own brand (similar to many start-ups), so that there is no ambiguity whatsoever that I’m a fiduciary who is willing to do whatever it takes to solve my clients’ problems, even if it means distancing myself from most of the financial industry. Based on what I see happening in this profession (and this is probably the number one reason this blog exists), I’d say that I’m on the right track. If someone has a problem with me not having a CFP, they are more than welcome to find an adviser who fits their needs better.
The fact that this individual brags about not having taken one finance class in his life is proof positive that the profession is in serious trouble. I have two masters in business/finance as well as certifications and I have been involved in the financial services industry for 20 years, and I can tell you absolutely it does matter. While I could write volumes about why this individual and their ideas about financial planning and wealth management are incorrect, I will summarize it this way. Saying you are a fiduciary does not make you one. However, gaining the CFA or CPA designation holds you to specific legal fiduciary standards. It is not about asking if one would do this for themselves. Being a fiduciary means operating by a standard of doing what is right for the client, and being accountable for the decisions you make. Period. Working with a CPA with a CFA designation is your best bet, or a CPA with the PFS designation. I don’t believe the CFP is rigorous enough to be considered appropriate for the profession. If an investor does not want/need to work with an advisor, there are many simple portfolios one can implement themselves which is what I recommend for most people. But each individual’s circumstances, goals and temperament are different. The notion that education does not matter and the golden rule is the standard do not cut it in the world of wealth management.
Profession was in serious trouble for quite a while. Thankfully, those of us with higher fiduciary standards do not have to play by the rules set by the ‘profession’ as it is practiced by the mainstream.
CFAs learn a lot of stuff, but much of it is not particularly useful to managing portfolios. Normal distributions are quite useless when dealing with the fat-tailed market, and this idealized approach is akin to using classical mechanics to try to understand quantum mechanics – it breaks down very quickly, yet the ‘profession’ would like to perpetuate the myth that CFAs are the only ones that know how to manage investments. One can learn the CFA curriculum on their own without much trouble, and those with mathematical background can do so without having to get the designation. Having 20 years of experience doing mean variance optimization (which doesn’t work in the real world) is not really going to help one understand the multifractal statistics of the market.
It is not like CFAs adhere to the highest fiduciary standard. Registered Investment Advisers and ERISA fiduciaries are also held to a high standard, yet both can and do often overcharge clients. CFA’s who charge 1% of AUM or any other designation doing the same is a perfect example of how someone who knows better (or should know better) still goes after money, and they do it in their best interest, not in their clients’ best interest. The term fiduciary is misused by the profession to allow significant conflicts of interest, and no amount of education is going to change that.
I wouldn’t count on a full 1% out of DFA.
Sir your mischaracterization of the fiduciary standard of the CFA charter holder proves beyond a shadow of a doubt that you do not understand what you are talking about. The CFA fiduciary standard states clearly “Clients’ interests should always receive the highest priority in investment research. Analysts have fiduciary duties toward their clients. The duty required of a fiduciary exceeds that which is acceptable in many other business relationships because the fiduciary is in a position of trust. Fiduciaries owe undivided loyalty to their clients and must place client interests before their own. Such priorities enhance investor confidence in the capital markets, and in the reputation of investment research analysts, their firms, and financial markets.” CFA Code of Professional Standards.
You can state whatever you want to try to justify the lack of professionalism in not attaining the designations necessary to be a professional in the industry. I am sure there are smart people out there who can learn all one has to learn to be a doctor on their own too, but the reality is that we have a process for that profession including licensing for a reason. It is about time we establish the same standards in the wealth management arena. There is no body who holds you accountable for the fiduciary standard. You declaring that your standard is higher than a CPA or CFA’s does not make it so. A CPA attains a license by the state board of accountancy, they have passed several exams and are held to ethical standards by the state. The CFA likewise has taken three years and passed many exams demonstrating proficiency in multiple topics in investment management. Many individuals also attain an MBA in Finance as preparation for the CFA.
You state: “Having 20 years of experience doing mean variance optimization (which doesn’t work in the real world) is not really going to help one understand the multifractal statistics of the market.” Again proving you have little knowledge of the CFA curriculum, or the standards professionals are held to. You also clearly lack an understanding of the academic research proving out the best way to invest. You can get into all the math you want to with me, but the reality we are talking about is the professionalism of an individual claiming to be a fiduciary when in fact they are not.
CFA charter does not say that you can’t overcharge the client for services. There is no law (or charter) to say that charging a fee that goes up without providing more work is illegal. That’s actually a rather poor fiduciary standard if you ask me. AUM fees are exactly how CFA charter holders overcharge their clients. Seems like a pretty clear violation of the fiduciary standards (however, these standards are also clearly not held universally, hence why my post of almost 3 years ago).
Are you seriously writing this? I’m a Registered Investment Adviser and an ERISA 3(38) fiduciary, both are held to explicit fiduciary standards. I’m held to a much higher standard than CFAs because I’m regulated directly by the government. There is no charter, there are laws and regulations, and still there are plenty of RIAs and ERISA 3(38) providers who routinely find ways to fleece their clients, just like CFAs do.
Academic research. Most of it is garbage, by the way, but it does take a lot more training than the CFA curriculum affords to recognize that. Just one assumption of normality would invalidate the conclusions of 90% of all econometric papers. I spent years reading academic research in finance, and it is really not very encouraging. If the same level of research quality was allowed in physics and medicine, we wouldn’t be where we are today.
There is no way to have an intelligent conversation with an individual who is making the argument that he is better than everyone else because he holds himself to a higher standard than anyone else, and he can declare what research is good and what is “garbage.”
This is a profession, and in order to be considered a professional, it requires certain certifications or degrees that demonstrate knowledge. I dont disagree that there are many bad advisors out there, and the industry standards need to change. We dont need to discuss the merits of the CFA program, or the gold standard in fiduciary accountability that comes with the CPA, because it is clear you will say anything to justify the fact that you dont have any of these things, nor have you taken one class in finance as you proudly state above.
Lets turn instead to your final commentary where you declare academic research “Garbage.” I suppose you have the best investment strategies as well? You know the best research? The best funds?
This is the problem with an industry of “experts” claiming they have the key to a safe and prosperous retirement for investors. When there are no standards of conduct, or research based investment processes the investor is left out in the wind at the whim of an advisors decisions.
While every individual is different and their circumstances are different, It is the reason why most individuals should be basing their investing on sound academic research and working with a credentialed advisor that thoroughly understands how to engineer a portfolio using sound academic research. You contending that the work of Fama/French/Miller/Sharpe/Asness etc, is garbage, completely disqualifies you from any discussion about investing.
Actually, there are plenty of advisers who are not AUM compensated, and this is the trend in the industry, which is a good thing for their clients, and yes, their standards are higher because they decided that AUM fees are unfair to their clients.
CPAs, really? They are not bound by any fiduciary standards whatsoever. I’ve seen plenty of CPAs selling annuities, insurance, investments, participating in revenue sharing arrangements, high AUM fees, etc. And CPAs range from those who are really good to those who are pretty mediocre, so again, the letters mean nothing by themselves.
“Sound academic research”, “Nobel prize winning research”, yes, there are no standards in investment world, because everyone seems to have their own. And just because one is a CFA does not mean they know anything at all. I’ve seen CFAs sell index annuities, so anything is possible. Most advisers don’t even understand Modern Portfolio Theory that is being taught as gospel as part of the CFA/CFP programs, so yes, we can’t expect a standard from the industry because 90% of practitioners are simply clueless, and they believe a set of dogmas that are quite contradictory, but they wouldn’t know it without looking deeper for themselves.
Unfortunately, it seems that by stating that MPT is dogma you are proving my point. MPT (despite winning ‘nobel prizes’ in economics, which are not really nobel prizes) has been proven to be a theory full of gaping holes, and without the full knowledge (which is not to be obtained from the CFA curriculum) someone who only believes in the infallibility of MPT should not be managing investments for anyone, especially for institutions and retirement plans. And FYI, there is plenty of research that goes against MPT, Mandelbrot, Taleb, Gabaix, and a slew of other respected researchers, which puts the entire CFA curriculum in question.
I’m not sure anyone else is following this but the three of us but I just want to let you both know I’m thoroughly enjoying the discussion. Keep the focus on ideas and concepts and no ad hominem attacks. FWIW- I see truth on both sides here. I agree with EBI about how great it would be to have a standard for the profession and a real credential. I agree with KL that credentials like a CFA, CFP, and CPA/PFS, despite being the highest in the field, aren’t enough. I don’t agree they have no value whatsoever, and KL and I have had that discussion before. I agree with both of you that the most important thing is to get an advisor who will actually treat you as a fiduciary, and we all know there are plenty of those who call themselves advisors out there, both with and without credentials, who do not.
I have not stated anything about specific theories, so dont put words in my mouth. I have never seen an advisor so brazen as to admit he has never taken any classes, has no training in portfolio management, financial planning or investment research and somehow he has all the answers that everyone else lacks.
Ok so lets summarize for everyone, you have stated that:
1. CFA’s are no good because you declared it so
2. CPA’s are no good because of your subjective experience
3. MPT is a failed concept
4. The Nobel Prize is not real
5. Only you, with your extensive knowledge which you obtained on your own, can lead investors to success. Sounds like the crystal ball theory to me. We agree that 90% of advisors are clueless….[ad hominem attack removed.]
White Coat: I agree with a lot of what you said. I dont contend that the credential alone makes someone a fiduciary, but as a physician, if you were to work with an advisor, I would guess you want someone competent, as well as attentive to your interests in the fiduciary standard. That is all I am saying. I am definitely biased towards a factor based DFA approach, but that is because after decades in the business it has been proven to be the most intelligent way to invest. There are many selling DFA product that know very little about the research. What I would like to see is a higher standard set to be a DFA advisor, such as a CFA required. Time will tell.
1. Straw man. There are good CFAs, but they are not good just because they got the CFA designation.
2. Straw man. There are good CPAs, but they are not good just because they got the CPA designation.
3. Yes, and MPT is often misused by those who don’t know it very well (that adds insult to injury).
4. Of course it is not. Not the Nobel Prize in economics. It is in memory of Nobel, not the original Nobel prize.
https://en.wikipedia.org/wiki/Nobel_Memorial_Prize_in_Economic_Sciences
5. Straw man, yet again. There are plenty of really good advisers who serve their clients well, not because of their designations, but because they are working in the best interest of their clients. And yes, my personal background and training is superior to the CFA curriculum. You have no idea who I am, what my background is and what I do, but rather you are making assumptions which are not very accurate.
For all I know you might be a superior adviser, yet it makes no difference to me what designations one holds, but rather what principles one adhere to, and whether one is open minded and constantly learning new skills, or whether they stick to a set of dogmas which they believe are infallible even in light of new evidence that challenges them.
And full circle we go, this is exactly why I don’t like the so-called ‘academic research’ that comes from DFA (because not only is it biased, but it is also seriously flawed):
https://www.advisorperspectives.com/articles/2013/09/10/why-dfa-s-new-research-is-flawed
The adviser who write this is a real mathematician, by the way, and I happen to agree with everything he’s saying because if one is to examine the basic mathematics, there is plenty of ‘scentism’ that comes out of the likes of DFA. There are plenty of advisers who do not subscribe to the same group think that many DFA advisers sell (and some sell because they have no idea what they are doing, that we agree on).
DFA funds are not necessarily the best funds. I use mostly Vanguard and some DFA funds. This still does not mean that charging 1% (or any AUM fee for that matter) is fair to the clients.
I am going to begin with a compliment and state that I do applaud you for using Vanguard, as you well know the vast majority in the brokerage community are charging high fees and then adding on high funds leaving investors destined to fail.
Lets leave your arguments from points 1-5 to the side for a moment, they are not straw man arguments, they are in fact very valid you just refuse to address them. You clearly have nothing but disregard for qualifications within the profession and nothing I say is going to change that. I will also note that no where in your bio on your website or anywhere in your discussions here does it even state that you have a bachelors degree. Saying you have a background in mathematics and engineering is vague, and creates more questions than answers. You stating that your background is superior to the CFA curriculum is a subjective statement without much merit.
The CFA charter, for example, provides investors with a base standard to be able to compare advisors. I am not stating, as I said to White Coat, that just because an advisor gets the CFA they are the best advisors out there, but without it, there is no basis for investors to judge an advisors knowledge base. You seem to be operating on the “Trust me, I know more than they do” approach. I personally would like to see a higher base standard to enter the profession such as the CFA, or a Masters in Finance be required just as it is required for lawyers to pass the bar exam, or CPA’s to attain 150 Hours and pass the CPA exam.
We dont disagree that there are plenty of certified professionals that do not treat their clients correctly, and there are plenty who do. But frankly your arrogance, as to declare that your background is superior to the CFA brings up just one question. If in fact it is no big deal and your knowledge is so much more superior to the CFA, then why have you not achieved this gold standard designation, or any designation for that matter? Im sure you will retort, as you have through this discussion, that it doesn’t matter. Again lets agree to disagree.
On the research and DFA, we could go back and forth for days. I am deeply knowledgeable on this subject. I will follow in the foot steps of DFA in not commenting on that specific article, not because there are not credible arguments against it, but simply because it is of no use to engage in a long drawn out complicated debate that will go nowhere. His opinion is that DFA has “devolved into scientism” I disagree, as do multiple Nobel prize winners of whom you also seem to have contempt. I think the research clearly speaks for itself, and while I do believe that some of the legitimate criticisms such as those advanced by Asness regarding the small cap premium being skewed towards quality are valid concerns, which I believe the evidence shows DFA has addressed with the profitability factor.
My real question is how you got approved to offer clients DFA funds when you have such contempt for the research? If you hate DFA and prefer Vanguard, and you believe their research to be flawed, then why are you offering clients DFA funds at all?
Like I said, I don’t believe in designations, but in seeking knowledge which is a reward all by itself. I’m sure there are CFAs that know a lot more than I do in certain areas, but I know plenty in areas where it matters most, and I continue learning new things constantly without being told to do so by some central authority (as there is plenty of things we still don’t know about the markets). Like I said before, ‘do no harm’ and having ‘skin in the game’ are two principles I believe in, and there is no designation that makes one follow either. As advisers, we can not afford to be over-confident in our limited knowledge, so my approach is based on the fact that we still do not know for sure how the markets work. I’m not as hung up as some on picking the perfect asset classes, and I believe that risk management should be a significantly higher priority than asset class selection.
I work primarily with retirement plans, so I can pick any fund I want. I don’t buy into DFA philosophy, but DFA has several asset classes that Vanguard does not have. As soon as Vanguard (or any other fund company for that matter) adds those asset classes, I’d be more than happy to switch.
I am not overconfident in my abilities, I allow the power of markets to work for clients, and I don’t disagree with you on risk management, which is why using the research is imperative. But one can engineer a portfolio to win over the long run without being a robot as you are contending. We can use anything we want as well but I do believe DFA is superior in most asset classes, and the data proves this out. In an industry where 15% of funds in the aggregate beat their benchmarks, 82% of DFA funds achieved this objective. The reality continues to be, they offer one of the best products available that brings the best in research to clients portfolios. I do not think you really understand DFA or what they are doing, based on your comments which brings me back to my question.
If you do not buy into DFA philosophy, then how did you get approved to use DFA funds in client portfolios? The questionnaire for DFA would have disqualified you. Furthermore, does not sound like you are following the fiduciary standard if you are putting clients in something you do not believe in even if their use is limited.
We have no control over the power of the markets. And we can’t engineer anything to save our lives, market returns are what they are, and again, we can’t control them going forward. The only thing we can have some control over is the downside risk and volatility. That’s why we need more sophisticated risk management strategies, similar to this:
https://arxiv.org/pdf/1412.7647.pdf
That’s exactly why I’m a fiduciary: I don’t buy into DFA’s all or nothing ideology, and instead I use the best funds for each asset class that are also low cost without making any assumptions about future outperformance based on past history. And DFA group think is exactly why the article by Michael Edesses was written, because anyone who does not buy into the DFA ideology 100% is labelled a heretic who has no idea what they are talking about. This is why Edessess describes DFA’s math as ‘scientism’ because there is barely any criticism of it (as the industry is a sort of echo-chamber where anything that is published by DFA is automatically accepted without any criticism).
Like I said, I am an ERISA 3(38) fiduciary, and I can get any funds in my portfolios that are available on the market. I can’t get away with ‘selling’ DFA funds to the plans I oversee because there is a very strict fiduciary standard, and I have to justify selection of each fund based on very specific criteria, so using all DFA funds (even if I wanted to do this) would be out of the question because there are asset classes that are just as good or better (and definitely lower costing) from Vanguard.
1. Never said we have any control over the power of markets, I said I let the power of markets work for clients, AKA passive investing.
2. I reject your notion that nothing can be engineered. Portfolio managers can engineer factor exposure, expense parameters. etc.
3. Downside risk and tail hedging can be effectively done using US Treasury securities. More sophisticated approaches tend to add unnecessary cost to the portfolio.
4. It seems as though you are not reading my posts. I do not believe in an all or nothing ideology. I routinely use other fund families for asset classes where data has proven that DFA is not the best choice. In our model portfolio we use four to five fund families other than DFA. Your point about DFA is incorrect. Fama/French’s work as well as the work of other EMH practitioners on whom DFA relies are subject to peer review. They are routinely criticized and challenged by the industry.
5. I dont make any assumptions about the future, that is the work of active management. What an investor can do is design the portfolio towards the dimensions of outperformance, either on their own or with an advisor.
Finally, you have again failed to explain how you are eligible to use DFA funds in client portfolios if you do not believe in their research. There is an extensive process to be able to offer DFA funds to clients, and I am beginning to wonder if you have gone through this or are simply a DFA basher who is not approved. Seeing as you are not listed as an approved DFA provider I am going to go with the latter.
We will have to agree to disagree. I don’t believe anything can be engineered based on our current understanding of the markets – that’s exactly what is called over-confidence. Factors and the rest of the Normal/Gaussian concepts, all of this is pure scientism exposed by Edessess, as the statistics has been cherry picked to fit the theory, and peer reviewed by the same people who believe in this stuff. EMH is a hypothesis, and building portfolios based on mean variance is still scientism. All I need to do is to show you a 20 sigma event, and the entire MPT and mean/variance optimization goes to hell very quickly thereafter. Anyone who knows anything about fat tails and variance knows that 2nd moment is unstable, and the entire CFA curriculum is based on Normality assumption, which does not hold (like I said, fat tails completely demolish everything CFAs believe in).
Actually, you do make assumptions about the future. Therein lies the contradiction. Factors and the rest is exactly based on past performance, otherwise why even bother. Same goes for EMH, using past ‘expected’ returns to exhibit themselves in the future. That’s why I highly recommend reading some Nassim Taleb and Benoit Mandelbrot.
I guess you don’t know much about retirement plans and record-keepers. This was fun. It does help to have an open mind and to realize that absence of evidence is not evidence of absence. Good luck with your work, I’ll go back to mine.
You have again avoided the question of how you can provide clients with DFA funds when you disagree with their research. In addition if you reject EMH upon which John Bogles work rests, then I am not sure how you are using Vanguard index funds either, that would mean you are not a passive investor. I recommend that you truly understand Bogle/Fama/French/Sharpe/Markowitz etc. before you trash their work as “garbage.” It is clear that nothing can be accomplished in a discussion that has as its basis that everything in the world of finance, except what you decide is worthy is “garbage.” I am happy to agree to disagree. Good luck with whatever it is you do.
Also thought I would just leave this here, as a rebuttal, as you continuously bring up the “flawed” DFA research article of Edesess as “proof” of why their research is wrong. https://www.advisorperspectives.com/articles/2013/09/17/the-debate-on-dfas-research
The 1/N diversification is the most basic rule that applies to all types of markets especially under the fat tailed regime. EMH and MPT and the rest have nothing to do with this. There are even more basic principles that can be used to build portfolios that don’t rely on assumptions. Bounded rationality is one such concept. Barbells can be shown to be optimal under the fat-tailed regime. These are all approaches that work regardless of whether the markets are efficient or normal vs. fat tailed. EMH and MPT fail miserably because it can be shown that market statistics are non-stationary, so EMH fails immediately, and MPT fails right thereafter because none of it’s assumptions can be satisfied, so like I said, you will definitely get garbage in = garbage out as far as ‘academic research’. Classical mechanics doesn’t work in quantum world, and Gaussian statistics fails miserably when the data is fat-tailed with multiple regime changes so all of the L2 methods of analysis including regression and MVO and such will yield unstable results, so in order to get the answer one wants, ‘academics’ have to feed in a data set that gets them the ‘right’ answer, which is exactly what Edessess has demonstrated, and no amount of rhetoric is going to change that because all it takes for one to show that the entire MPT is wrong is to show just ONE example where it fails miserably (and finding one 20 sigma event is enough to sink the whole theory in an instant).
index funds (and passive funds) are prefect tools to build portfolios to implement 1/N diversification, and while DFA’s funds are not exactly index or passive, they are most closely related to index funds, and as long as they stay true to an asset class, that’s good enough for me. The only other criterion is cost. I would go with a lower cost option vs. a ‘fancy’ one any time of day, and when someone else builds lower costing index funds than Vanguard/DFA I’ll switch to that provider in a second.
I think I’ve answered all of the outstanding questions, and I’ll let those who are interested research the rest, as I’ve provided enough information to do this.
I will refer readers to my previous post, and let them see that yet again you have bypassed the question of how you are able to offer DFA funds when you disagree with their research. In addition you have not answered how you are adhering to the fiduciary standard by putting clients into funds that you disagree with and think will “fail ” them? How is that operating with any level of integrity? For those who are not aware there is an extensive questionnaire and vetting process that occurs before an individual is able to offer DFA to clients, and this individual would have been screened out due to his views on EMH, and DFA’s research into the factors of outperformance.
1/N? Are you serious? You know Jack Bogle talks about the power of simplicity when it comes to investing, and your post is exactly why, you speak as if you know something when in fact you do not.
While you and I can go back and forth with the mathematics behind what it is you are talking about regarding fat tails etc. it is nothing other than noise in the investment world that provides little to no value to clients. I am glad that you are on record calling the work of Jack Bogle, Eugene Fama, Kenneth French, Harry Markowitz, and many other Nobel Prize winning economists “Garbage.”
I am also confident that the highly intelligent audience that reads this site, will be able to decipher that it is clear you are attempting to obfuscate the audience with sophisticated mathematical theory, in the hopes that they wont question why you don’t have the minimum standard of the industry.
As someone who takes the business of providing financial advice to wealthy individuals very seriously, I am offended by your brazen attempt to put yourself above the giants of the academic world, who have advanced our understanding of markets, and the dimensions of outperformance.
While I generally like to find common ground, it is clear that none can be found in this discourse as you are committed to advancing the theory that your understanding of markets is better than the faculty of Booth, Wharton, and Harvard Business Schools combined, a fanciful assertion if I have ever heard one.
I have full grasp of MPT and EMH, while you don’t seem to know (or care) much about the other side, which is not noise, but actual data. With a fat-tailed distribution, the tails contain the data, and everything else is noise. Just because there is a ‘consensus’ does not mean that the majority is right, by the way. I can refute every single ‘fact’ from MPT/EMH using basic mathematics that can be verified by anyone, yet you have not been able to refute anything I said, except by using a fallacious appeal to authority argument. Absence of evidence (or being ignorant thereof) is not evidence of absence!
This is exactly why the so-called standard propagated by the establishment advisory industry is so flawed in the core – they’ve circled the wagons to project a united front, all for a single purpose: to allow advisers to overcharge the clients via AUM fees for supposed knowledge that is not worth much given that very little of it applies in the real world, and how easy it is to show this using basic mathematics. I started as a believer in EMH and MPT, and as I learned more about the markets, everything I thought I knew turned to dust rather quickly, and there is no way back once it becomes clear that MPT has no legs to stand on, other than through pure belief, which is incompatible with a true fiduciary standard.
Thankfully, the readers of this blog are making up their mind, and they do not want to be sold stuff by those who think that they alone have the holy grail of financial knowledge (blessed by the likes of DFA). Neither do they want to be overcharged by those who pretend that only they have the knowledge to deliver superior market returns via ‘engineering’ or any other concept that comes more from cooking the numbers than from anything that can be called science.
I would like readers of this blog to notice the defensive tone this poster is taking to basic questions. He has once again not answered the question of how he is able to offer DFA funds to the public.
I have an indepth knowledge of the incomplete research you have hitched your wagon to, do not make any assumptions concerning me. Building portfolios with your views are no different that the newsletter folks or those who claim to use technical analysis. It is all noise. Risk can be effectively managed using US Treasury securities and in some cases other tools are necessary, but not at a higher cost to clients. Investing is very simple for those who understand the power of markets like the White Coat investor. Investors would be far better off putting all of their money in the Total Stock index than following the fanciful exotic approaches of an arrogant practitioner who thinks he knows better and can disprove EMH.
Your point about being able to disprove EMH, is ridiculous, and if true would be a groundbreaking event in the academic world. You are simply putting forward these fanciful notions to advance your own credibility as being somehow superior to the entire world of finance. You obviously do not understand the standards for academic research. If you want to go against accepted theory the burden of proof is on YOU to disprove it, not me. Nothing you have said jeopardizes the integrity of the work of EMH researchers. Furthermore, this entire sites contents on investing, and everything I have read in the White Coat investors book, relies on the power of EMH and index investing, so I am not sure why you are here advancing theories that are exotic and erroneous.
Also stop trying to wrangle me into some group of “establishment” theorists. DFA’s work is routinely criticized and peer reviewed, you talk as if they have no criticism. I would also refer you to my post above where I say that I use multiple fund families and am not tethered to DFA for every asset class.
For the record, I never stated that I alone had the holy grail of investment knowledge. I believe it was you who said that you knew more than the Nobel Prize winners, that academic research by leading academics was “Garbage.”
And that the leading theory on market structure and dynamics has no legs to stand on. You are purporting to have the crystal ball that can lead investors to success by following you alone. I am honestly a large proponent of telling investors to do it on their own. Most do not need an advisor, and I said that in the beginning of this discussion.
Your assertion that I overcharge clients as well, is fallacious seeing as we dont know each other and I would guarantee we charge far less than you or any other firm does. Again no common ground to be found here.
I think you guys overestimate how many people will ever read this entire discussion. There are only five people subscribed to this post besides the two of you. Two of them are financial advisors. The post is 2 1/2 years old and it would require an hour of reading comments to get to yours.
My point is if you guys are enjoying this discussion, feel free to carry on. If you aren’t, no sense in staying in it for someone else’s benefit. But it doesn’t look to me like either of you is ever going to convince the other of your point of view.
I agree. What’ is interesting to me is that financial world contains a full spectrum of investment advice, which is more of a testament to the fact that there are no basic facts that everyone agrees on. This is not like in science or math where we have theorems and basic conservation laws.
What my beef with the industry is that they are extremely sloppy in using math (which is exemplified by the subprime crisis fiasco when Gaussian measures such as Value at Risk was used to manage risk, LTCM, and a slew of other examples), and when claiming that adding 1000 pieces of junk would somehow turn this into an AAA rated product. These are all a results of MPT/EMH and no amount of sugar-coating will change that.
That said, there is no method that everyone agrees on. For every passive investor there is an active one, and so on. What’s amusing to me is that the mainstream actively shuts out those who try to point out the flaws of the theory.
For those mathematically inclined I highly recommend the following book on probability written by Nassim Taleb. He clearly explains why the mainstream MPT/EMH is not even wrong (it is really like using classical mechanics to study quantum mechanics, and this example is not exaggerated at all).
http://www.fooledbyrandomness.com/SilentRisk.pdf
White Coat: there may only be a few people subscribed to this post, but if my comments help even one investor now or in the future avoid the traps in the industry, it was well worth my time.
I find it funny that in a debate of multiple back and forth posts in which I addressed his issues, he claims debate was shut down. This demonstrates his desire to pull the attention away from his lack of credentials, and the flimsy nature of his arguments. His reference of Taleb is a perfect example. Referencing someone who is not taken seriously in academia is a perfect example of the lack of methodology in his argument. making fanciful notions that the industry is against his view, and rallies around to shut down debate, this is delusional. There is no conspiracy against your view, you are simply incorrect in your view. It has been proven, over and over again. You think your math makes you a more sophisticated investor, when in reality it is nothing but noise; a distraction from the simplicity of managing wealth.
He has not answered basic questions about how he is able to offer DFA funds to the public, or why he uses them at all when he has stated he thinks the science they are based on is “garbage.” The intelligent readers of this board and moderator can form their own conclusions from this long discussion.
Absolutely love it. Credentials in finance somehow make one qualified, even in the absence of any accepted baseline (other than in the eyes of those who hold the credentials), to make pronouncements about whether someone without such credentials is qualified?
Taleb is a mathematician, and so far I have never, ever seen anyone refute his math, just nitpick a thing or two, nothing serious. Taleb is not taken seriously in academia? I wonder why, maybe because he routinely shows how out of touch and overconfident they are (as well as wrong)? Anyone who has read Taleb’s technical papers know that he’s right on the money. Of course, some in ‘academia’ prefer to live in their own echo-chamber and discard anything that does not fit their worldview. That’s acceptable too, after all, this is only finance we are talking about, not a serious field like physics, math or engineering.
Better understanding of math makes anyone question those who think that they know everything there is to know about the markets, especially the above-mentioned academia. The debate is far from over.
Now we are getting into a truly ridiculous conversation. Taleb is not taken seriously in academia because he is nothing more than a pop culture investment “expert” just like all the other “experts” out there. If he makes you feel more sophisticated and intelligent for reading his work, then by all means continue on your journey, but for those of us who have combined years of study in mathematics, economics, and finance, with certifications, experience and continual learning in portfolio management, he is not anyone that the average investor, or even practitioners should be taking seriously. Let this be the end of this discussion, you have had your say and I have had mine. Let the readers decide.
I don’t need to defend Nassim Taleb, he can take care of himself. And he’s well regarded by none other than CFA institute and CFA societies around the country (among others):
https://www.cfasociety.org/washingtondc/Home%20page/Forms/DispForm.aspx?ID=18
CFA institute magazine published the following interview with Nassim Taleb, with LOTS of good and useful information for individual investors (with many more publications on CFA institute website):
http://www.cfapubs.org/doi/pdf/10.2469/cfm.v24.n5.13
The following is just one article (of hundreds) Taleb wrote that summarizes many of the technical points I mentioned before (and with some background that is useful in understanding the above interview, with reference to one of the greatest mathematicians, Benoit Mandelbrot, who developed a much of the early understanding of the markets as far back as the 60s):
http://www.fooledbyrandomness.com/mandelbrotandhudson.pdf
As far as what fee is reasonable, an hourly adviser might charge anywhere from $250 to $400 an hour. If that’s all they do, this fee is reasonable. A flat fee adviser typically estimates the time it might take for them to perform all of the services that would be necessary for your situation. So if the hourly fee is $200 an hour, and they estimate that it would take about 1-2 hours a month work to provide the services to you, the cost might be around $400 a month (and typically a contract is signed for 1 year, and renewed thereafter). There are variations around these numbers, but these are standard (and anyone charging significantly less is definitely a suspect – I’ve seen advisers trying to offer low cost financial plans with a bunch of products waiting to be sold as ‘implementation’), so just because someone charges a flat per project fee or an hourly fee does not guarantee that they will not put on another hat and try to pitch products to you.
Personally I agree with both the EMH and the 1/N rule, I think the public markets are very efficient. Some markets are less efficient, and in those markets active management can yield positive results for its cost. In example when buying a real estate property you can sometimes get great value for a small price. As any market becomes more efficient, the value added by active management becomes smaller.
I think the building blocks of any portfolio essentially boil down into which index fund or ETF you choose. The most popular ones are domestic index funds, international index funds(equity), bond index funds of various terms, and REITs.
I believe that you do not need a degree to make a winning portfolio, all you need to do is go to bogleheads and do some research. Anyone could toss together a three fund portfolio of low cost index funds, and stay the course, and be essentially fine. If you wanted you could take the advice of warren buffett and go with a 90/10 stock/short term bond spread, and if you stay the course, you should do pretty well.
Research from Fidelity discovered that one kind of investor at their brokerage has done better than the others……………the investors that had forgotten their accounts. Its easy to stay the course if you have forgotten that you have an account at a brokerage.
To me it seems that choosing decent investments, investing early as much as possible, continuously investing, keeping costs low, and staying the course should work out fine for most investors. I don’t need to pay anyone to set up or rebalance a simple lazy portfolio of index funds, nor does anyone else. Just go to bogleheads and read, or go to a robovisor.
On the merits of education, I would say that EBI has a point about minimum qualifications. Personally I don’t want to pay anyone to manage my money, because lazy portfolios are simple to set up and use, but if I were paying someone to run my portfolio, I would want them to have a certification or degree, as it tells me that they have a base minimum level of experience and or knowledge.
That oft-cited Fidelity study is apocryphal, although I agree with the principle.
I read the Affluent Investor too and really liked it. I finished residency a little over a year ago and am trying to figure out the best way to handle the money that is coming at me. Hugely helpful have been this blog and your Whitecoat investor book. Best starting places in my opinion. I have been working on constructing a portfolio that I will be able to stick with. It was hard to work within the options available in my 401k and trying to get that to jive with the info put forward in Bernsteins, 4 Pillars of Investing. I think I figured out a decent (relative) plan but after I read the DeMuth’s Affluent Investor I thought it may be beneficial to tilt some of the options toward Low Beta, Small Value, Momentum funds/ETFs or add stocks that are stable and pay dividends. Demuth sites the benefits and I imagine my Uncle Sam would love me for doing this so he could tax me, killing my overall return. I don’t have the options to do this in my 401. I would appreciate thoughts on benefits of adding in Low Beta, Small Value, Momentum funds/ETFs and options for incorporating them. Thank so much for the blog and book and to the WCI and those who have contributed.
I use small and value, but don’t tilt toward low beta or momentum. I don’t find the data as robust. The most important thing is picking a reasonable plan and sticking with it.
Just a clarification. Fee based advisers are the ones who charge commission and fees. Fee only charge only fees. Both typically charge asset-based fees, which is really a bad deal if you are trying to create a portfolio to generate income (paying asset-based fees is always a bad deal especially for those with large portfolios), so having a flat-fee adviser works best (especially when every basis point counts).
One thing to worry about in retirement is market volatility. In this case it would make a lot of sense to create a comprehensive approach to generating income regardless of what the market does. So while it is a good idea to keep some money invested in stocks/ETFs, an appropriate portion of one’s portfolio should be devoted to various income producing strategies (high yield money market, CDs, individual bonds including municipal bonds and TIPs, various types of low cost fixed/immediate annuities, etc).
At this point, the portfolio longevity is important but should not come at the expense of having a stable source of income.
I think you go too far when you say paying asset-base fees is always a bad deal. You have to make the calculation. There is no difference between paying $5K in a flat fee vs paying $5K in an AUM fee. When assets go up, a lower percentage can be applied to the assets to keep the fee the same. Granted, that’s pretty rare, but always and never are rather absolute words.
I typically do the calculation over the period of 30 years (it can be longer or shorter depending on the adviser’s tenure. The assumption is that usually the person starts with no assets and makes continuous contributions. In that case, an adviser charging just 25 basis points will end up costing as much as $200k more vs. one who charges $5k (assuming $52k a year contribution and an 8% return, and a 40% combined tax bracket – in this case I’m assuming a business owner with a retirement plan). The numbers are a lot more against asset-based fees if
1) The starting portfolio is much larger
2) The tenure is longer
3) More services are provided for the flat fee (almost always the case) than for the asset-based 0.25% fee (tax planning, proactive financial planning, etc).
Typically such low asset based fees are charged only in managed accounts and rarely would anything but very rudimentary portfolio management in a single account is covered.
Yes, it makes sense to use a 0.25% adviser during the first decade or so when you don’t have much assets, but again, the value of the services provided will also be commensurate with the fee. I really don’t know any advisers charging 0.25% fees (unless it is a robo-adviser), so the fees in play are closer to 0.5%, in that case the flat fee wins hands down. I can show you the calculator I’ve developed. This really helped me set my fees knowing that for a long-term relationship I’ll be saving my clients hundreds of thousands in unnecessary fees.
Fee-based advisors can do both commissions and fees, their business model is more flexible. Not all fee based advisors work on a commission basis with investments.
My fee based advisor charges less than 1% on the equity component of my portfolio (60%) and nothing for the income generating (bond) assets. Commissions for ETF purchases or sales are paid directly to the custodian (Fidelity) and are usually no more than $7.99 per trade.
This is typical, yet I do wonder about your allocation. Having 60% in stocks might be too much for someone who just retired. Also, the bond allocation, if it is indeed made up of ETFs might be too risky given that to generate any income with bond ETFs one has to really crank up on the risk (intermediate and long term maturities). ETFs are great for balancing a portfolio (so that it can be rebalanced). To generate income one has to do a little more in the current low interest rate environment (and a high risk of interest rates rising in the future).
One thing to note though. If you don’t pay anything on the bonds, and pay 1% on stocks, wouldn’t that create a huge conflict of interest for the adviser, since in order to make money he’d have to place you in stocks? This is precisely why asset-based fees create a conflict of interest – the adviser is less likely to recommend fixed income allocation (or really work hard to construct one for which he isn’t paid, even though such allocation might be warranted), or make other recommendations that can significantly decrease his assets under management (such as using fixed annuities and other income-generating products such as individual bonds which might be warranted in some situations).
I think the risk of my portfolio not growing fast enough to meet my goals was the one thing I was not considering when I started investing. When I was a lowly intern, just barely starting to make any money, the loss of capital was my biggest concern…guess I felt that now that I had any money, I didn’t want to lose it. So my risk tolerance was pretty low. After working for few years, I saved enough to feel “comfortable”, so my risk tolerance increased. Now with a steady attending and moonlighting income, I would say that my concern has shifted to growing my portfolio to meet my long-term goals, and I can accept more market volatility. I think if I had tried being more aggressive when I was younger, I probably would have made bad decisions, like selling low, if my portfolio took a major downturn. Anyway, things change and it’s good to continually reassess your goals and risk tolerance…know thyself.
That’s actually the common trend among investors- low tolerance early on, then high tolerance, then lower tolerance as retirement approaches.
I agree that I have MUCH higher tolerance with a whole bunch of cash sitting in bank accounts. While some of it is already ear marked for something (like taxes), I could probably lose my job completely, have my website implode, have the stock market crash, and still not have to touch my stocks for several years. It would be very unusual for a bear market to out last me. The only thing this 10% (so far) correction has done for me is to make me start looking for buying opportunities (meaning buy stocks instead of stuff). I’d honestly welcome another 10% drop this month (sorry retirees!)
Via email:
Market volatility is beneficial over the long term due to dollar cost averaging of ongoing saving. Even for retirees, short term corrections would only be painful, if they are being forced to sell part of their investments for their expenses (required minimum distributions, living expenses etc). However, unless you are reducing your stake significantly in the most volatile segment, taping in to less volatile portions of your assets (fixed income, value stocks, defensive stocks) would be appropriate strategy in times of market decline. If some of this results in loss, then it can be offset with tax loss harvesting for tax planning purpose. However, for most part, staying course with the plan and using low cost indexed ETFs would avoid the giant gyrations in the individual stock prices, like momentum stocks.
I agree with WCI that building up some cash for buying during correction is a very good use of volatility. However, ultimately it is a form of market timing strategy and one fails to keep those funds invested in a up trending market, waiting for the correction. On the other hand, you would be selling early to try to raise the cash to be able to use during the correction or you will be waiting for a little more decline and market could turn around and you will be waiting for that magic point when you can pull the trigger.
Point worth taking is the correlation of measure of “beta”, i.e. volatility and market return up to certain degree. You can obtain long term growth with either low beta stocks (think large company dividend growing companies, a la warren Buffett style) although they appear boring with not much headline news or in a roller coster ride with very volatile high growth high momentum company stocks. However as far as asset classes are concerned, lower risk/lower volatility investing ultimately results in lower returns, (fixed income, bonds, TIPS, treasuries, guaranteed products like most of the life insurance and annuities). I personally have allocations to different asset classes with different strategy and plan for each. Much like does not make sense to take under powered car to a race where you would need a sports car or taking that sports car when you are looking for luxurious ride. Optimal selection of course, would depend on the risk tolerance and self education by trial and error (learning the ropes) or get the expert advisor to assist you. There are several low cost asset allocator, wealth manager services. Agree that cost of most wealth manager are asset based, increasing the expense in dollar terms, although in percentage terms they can be tiered. Fee based CFP without conflict of interest would be worth expense much like medical school tuition cost. More recently one that I have considered is new roboadvisor service like, wisebanyan that has zero commission, no human interaction and low cost of ETF (mostly vanguards), with asset allocation based on the risk profile, based on efficient frontier model of modern investing that reduces emotional up and down and does reduce returns to some degree while significantly reducing the volatility. Not certain, if this is any better than managing multiple accounts of different classes or index investing but worth consideration.
Great post. I have stayed in military medicine because I enjoy it (clearly not for the pay!!!) but posts like this remind me how subtly awesome the military retirement is when combined with saving/investing. My Gov’t guaranteed (for now anyway 🙂 ) income of $96K/year adjusted for inflation annually (30 year retirement at O-6 pay) is not enough for the retirement I envision, but combined with our retirement and taxable accounts it is a great “base” that allows for equity risk to be quite tolerable.
This is perhaps the most detailed post that I have read about “Market Risks”. It has truly given me an excellent insight into market volatility. All your facts and figures are extremely helpful and I have gained a lot of knowledge today especially since I am a new investor in the market. Yes sometimes we have to take certain risks to meet our goals, and I do not want to fall behind by not taking a few. And if the risk actually pays off, nothing can be more worthwhile. So thank you for sharing this piece and have an amazing year ahead.
I’ve been thinking about market risk lately. In accumulation, the risk is not that of the market, it is of not meeting your goals in retirement.
In retirement, again, the risk is not of the market, it is longevity risk.
So, if we are honest with ourselves, market risk is actually investor behavior risk.
FIRE talks about VTSAX and forget it. Let’s see how that goes after a punch in the face.
Those newly retired since 2008 will need to look at their equities cut in half with grace and equanimity. Equally as interested to see them not sell.
FiPhysician, you state “FIRE talks about VTSAX and forget it. Let’s see how that goes after a punch in the face.”
Are you saying that investors are not aware that that can happen and they will need to ride it out without selling, or are you saying investors pursuing/in FIRE that are not aware that the market can drop that much?
I took the punch in the face both in 2001 and 2008 and rode them out – and learned a lot about investing between those two events – but I’m just wondering what you think will happen.
Deep Risk by William Bernstein, one of the most instructional books on the topic.
Plus remembering that you can go broke safely too.
“You can go broke safely too”
This is an interesting (and difficult to stomach) reminder.
I’m glad WCI reran this article, I missed it in my binge read of the archives a few years ago.
Pointing out that “garbage academic research” proved that market returns are not normal decades ago. Garbage academic research found the holes in MPT.
There is nothing in the factor world that requires or postulates normal distributions of market returns. There is nothing in the EMH that postulates or requires normal distributions.
Makes one wonder whether someone who claims these things has ever read the research he criticizes?
after reading this blog, I would definitely use a CFP if I hired an advisor
A few years ago someone from one of the providers of our retirement plan called me telling me the good news that he was prepared to “help me with my retirement plan.”
I said great! Then I asked him a few questions. It quickly became clear that he did not know anything useful about Roth conversions, asset protection of different types of retirement accounts, or anything else relevant to retirement planning. He said “what if the market goes down?” I said that I assumed that it go down many times during my lifetime, how was he going to help with that? He kept claiming that he would “help” me. When I pointed out that we had gone through the list of things for which I might want help, he kept insisting that he could be helpful if I came to his office and talked???!! I told him that I don’t do that. Anything useful could be done online, by email or over the phone. Or not at all. He lost interest when I told him that I did not see any point in continuing the conversation if he could not explain what help he was offering.
A\It was such a bizarre conversation that after we parted ways, I looked him up. Not a CFP. No financial planning credentials at all. Used to work as a stock broker before he moved to the retirement provider.
If I want financial advice I would go to a CFP. The credential may not ensure they know everything about financial planning. But at least it implies they know something.
I would not have to worry about fiduciary or not, since I would not buy anything the person might offer to sell.
Switching from American Funds to John Hancock for my 401k next year since it has grown over the years to get more favorable rates. Covers myself and 6 employees. 2.3 M . Maxing all but not doing cash balance. Does anyone have guidance on how to do analysis of 401k providers? ADA has a plan. Also insurance oriented. Need compliance and peace of mind that I’m not getting burned. The more I read the more I wonder if there was a better way
Not a do it yourself project. Time to hire a pro and it is unlikely that pro works with either American Funds or John Hancock. I’ve got several folks on my list that specialize in this sort of thing such as Targeted Wealth Solutions, Integrity Wealth Solutions, FPL, Three Oaks Capital Management, Your Richest Life, Fisher Financial Strategies, and Litovsky Wealth Management. Full list here:
https://www.whitecoatinvestor.com/financial-advisors/
You basically need someone to study your practice, your desires, and your employees and their desires to decide what type of plan is right for you and if a 401(k) with profit sharing, possibly also a defined benefit/cash balance plan. But you may also find that it costs you so much in fees and especially match that it isn’t worth it for the tax break for you unless your employees value the benefit enough to take a pay cut.
ADA plans, Hancock, American Funds, all really expensive and high fees. Performance-wise, it is very difficult to beat index funds over the long term, and actively managed funds might sometimes do better, but asset class selection is definitely an issue since you just never know whether your portfolio is highly correlated or not (that is, holding a lot of the same stock such as Microsoft, which is often the case), and whether the managers might make a mistake one day that can cost you vs. just buying and holding an index fund. Worse yet, most of the actively traded funds are ‘closet’ index funds (basically they hold an index portfolio with some turnover), but you pay a lot more for them, so going passive is the way to go (with an expense ratio of ~ 0.14% or so). Paying any more than that in asset-based fees is a really bad idea in retirement plans, especially for a plan with $2.3M in assets. Here are several articles I’ve written for WCI regarding fees and fee comparison, as well as how to eliminate high fees in your plan:
https://www.whitecoatinvestor.com/evaluating-aum-fees-small-practices/
http://whitecoatinvestor.com/how-to-reduce-your-practice-retirement-plan-cost
Fee-based advisors can do both commissions and fees, their business model is more flexible. Not all fee based advisors work on a commission basis with investments.
It’s a pretty easy screen out though.