Going Beyond Money to Find Meaning in Retirement Planning

Going Beyond Money to Find Meaning in Retirement Planning

By Joe In October of 2018, I had the opportunity to attend the annual BAM National Conference, a gathering of like-minded professionals who ascribe to the ethical, evidence-based values of the BAM advisor community. One speaker’s talk about everything beyond money in retirement planning was especially eye-opening. Alan Spector is now retired himself, from his position as Director of Worldwide Quality Assurance for the Procter & Gamble Company. He has also done a lot of consulting on management and quality assurance and has written four books. In his experience, people often ask, “Can I afford to retire?” and stop there. But there is so much more to consider. His talk, “Financial Planning: Beyond the Numbers,” shifted the focus of the conversation to what retirement will actually look like. While financial security is often the first concern, it is also important to consider what you need to do to ensure your retirement is fulfilling. For example, if you have a passion for experiencing the world through travel, you will want your financial plan to make it possible to do it in retirement. You assume that it will be a fulfilling experience. The trouble with assuming is that acting on passion in practice is often different from what we envision. It may turn out that travel actually takes you away from what you are more passionate about in practice. Once you start globetrotting, you may realize there are social organizations close to home you miss being more engaged in. Or there are charitable causes in which you long to take a leadership role. What Spector recommends is a concept he calls...
Riding The Elephant: Mastering Decision-Making In Money And Life

Riding The Elephant: Mastering Decision-Making In Money And Life

By Tim Maurer The most compelling findings regarding financial decision-making are found not in spreadsheets, but in science. A blend of psychology, biology and economics, much of the research on this topic has been around for years. Its application in mainstream personal finance, however, is barely evident. Perhaps a simple analogy will help you begin employing this wisdom in money and life: The Rider and the Elephant. First, a little background. Systems 1 and 2 Daniel Kahneman’s tour de force, Thinking, Fast and Slow, leveraged his decades of research with Amos Tversky into practical insight. Most notably, it introduced the broader world to “System 1” and “System 2,” two processors within our brains that send and receive information quite differently. System 1 is “fast, intuitive, and emotional” while System 2 is “slower, more deliberative, and more logical.” The big punch line is that even though we’d prefer to make important financial decisions with the more rational System 2, System 1 is more often the proverbial decider. Many other authors have built compelling insights on this scientific foundation. They offer alternative angles and analogies, but I believe the most comprehendible comes from Jonathan Haidt. The Rider and the Elephant The author of The Happiness Hypothesis and a professor at New York University’s Stern School of Business, Haidt describes the two systems in a helpfully visual way: The mind is divided in many ways, but the division that really matters is between conscious/reasoned processes and automatic/implicit processes. These two parts are like a rider on the back of an elephant. The rider’s inability to control the elephant by force explains many...
Be Prepared for Losses

Be Prepared for Losses

By Larry Swedroe The stock premium—the annual average return of stocks minus the annual average return of one-month Treasury bills—has been high, attracting investors to the stock market. For the period 1927–2017, it averaged 8.5%. There have also been size (return of small stocks minus return of large stocks) and value (return of value stocks minus return of growth stocks) premiums of 3.24% and 4.82%, respectively. However, the excess returns are generally referred to as risk premiums—they aren’t free lunches. We see evidence of that in the volatility of the premiums. The stock, size and value premiums have come with annual standard deviations of 20.41% (2.4 times the stock premium), 13.78% (4.3 times the size premium) and 14.20% (2.9 times the value premium), respectively. Let’s take a closer look at some of the data that illustrate the riskiness of the premiums. For the period: The stock premium was negative in 27 of the 91 years (30% of the years). There were 17 years (19% of the years) when the premium was worse than -10%, 12 years (13% of the years) when it was worse than -15% and seven years (8% of the years) when it was worse than -20%. As another indicator of the volatility of the stock premium, we see that the gap between the best and worst years was 102.2%, more than 12 times the size of the premium itself. The worst year was 1931, when the premium was -45.11%. Given a premium of 8.5% and a standard deviation of 20.41%, this was more than a 2.5 standard deviation event. The best year was 1933, when the premium was 57.05%, also more than two standard deviations from the mean. In fact, we had six such two-standard-deviation events. We would have had just four if the returns had been normally distributed....
Credit Premium: Fact(or) Fiction

Credit Premium: Fact(or) Fiction

By Jared Kizer The above title may well end up being my most significant marketing achievement. Yet, it is a good descriptor of a research topic I’ve tackled, and I continue to be surprised by how little attention has been paid to whether there’s any historical justification that the credit premium — the difference in return between corporate bonds and comparable maturity government bonds — is additive to portfolios that already own stocks and government bonds. Based upon work I’ve previously done and the working paper I posted in March, I’m convinced that it isn’t, at least in the form it takes in most investment-grade corporate bond indexes and many investment-grade corporate bond funds. Here, in the spirit of AQR’s pieces on various premia, I’ll detail what I believe are some facts and fiction related to the investment-grade credit premium that investors should understand. Fiction: Early 20th century data on the credit premium is reliable and good quality. I’m as much of a fan as anyone of using the longest-run data possible for research purposes. However, a close inspection of the primary series typically used for long-run analysis of the credit premium — Ibbotson and Sinquefield’s default premium series — reveals that its early history is highly suspect. In the piece I first linked to above, I find that the series had a Sharpe Ratio in excess of 1.30 (!?!?!?) during the 1930s and that the credit premium’s annual returns exhibited positive correlation with Moody’s annual measure of corporate bond defaults. This directional correlation relationship, of course, makes no sense since one would expect to see years with larger numbers...
The Short Stories We Tell Ourselves About Everyday Spending

The Short Stories We Tell Ourselves About Everyday Spending

By Carl Richards I love a good story. In fact, I used to tell myself at least one new story every time I opened my credit card statement. “Oh,” I’d say to myself, “I was so busy last month, it makes perfect sense that I ate out a dozen times. I’ll just eat out less next month.” Other months, I’d invent a fantastic story about why I thought it was a good idea to spend so much on new bike gear. “Man, I really needed a new jersey,” I’d say. “The other 10 were in the laundry, and I had a ride the next morning.” Whatever story I told, they all had one thing in common: They were fiction. All by themselves, numbers tell a simple, straightforward story. We spent X on Y. Our credit card statements are a work of nonfiction. But we have a habit of spinning them into wonderfully complex short stories. We can’t help ourselves. For some reason, we feel the urge to embellish. We didn’t just spend $28.32 on lunch one day. We were helping out a friend who was having a bad week. That’s a great story, but it doesn’t change the numbers. We still spent $28.32 on a single lunch. The big purchases often come with the biggest stories. Imagine the story we tell ourselves (and our spouses) about the $4,274 charge for a motorcycle. Of course, we really needed it. Besides, a motorcycle is far cheaper than the sports car our neighbor bought for his mid-life crisis. So why all the storytelling? Our narratives provide a comforting counterweight to a hard...
An Integrated Investment Plan Is Key

An Integrated Investment Plan Is Key

By Larry Swedroe Earlier this week, we looked at the importance of incorporating different types of risk—specifically, human capital risk—into an overall financial plan. Today I will focus on mortality and longevity risk, and using “tax alpha” strategies to improve the odds of achieving your financial goals. Mortality Risk For those families whose human capital makes up a substantial portion of their total assets, protecting that capital via the purchase of life insurance should be part of the overall financial plan. Life insurance is the perfect hedge for mortality risk because its return is 100% negatively correlated with the human capital asset. The younger the investor (the higher the human capital), the greater the need for life insurance. The amount of insurance required can be determined through what’s called a “needs analysis.” It can also be related to bequeathal motivations. It’s important to note that life insurance can be used for purposes other than to hedge mortality risk. For example, it may be the most effective way to pay estate taxes. It can also be useful in terms of business continuity risks. Thus, while the individual’s need for insurance to hedge the risks of human capital falls as he or she ages, the need for life insurance might actually increase. Longevity Risk Longevity risk is the risk that you will outlive the ability of your portfolio to support your desired lifestyle. This risk has increased for much of the population with the decline of defined benefit plans (which, like social security, pay out for a lifetime) in favor of defined contribution plans. Also, advances in medical science continue to expand...
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