An enormous gulf separates conventional and economics-based financial planning. I am going to briefly lay out the differences.
In sum, Wall Street's Bucketing Strategy is a bad joke. Its focus on the market's high average cumulative return or the high chance of doing well, on average, is akin to basing your financial plan on dying precisely at your life expectancy -- at the date at which people like you will, on average, die.
Investing these days is really tough. Fortunately, economics-based financial planning offers clear ways to invest at risk while limiting or, indeed, eliminating your living standard downside.
The best way to hedge this risk used to be to purchase not a nominal, but a real annuity — one whose payment would be adjusted upward each year in light of that year's inflation.
The risk premium on stocks has rarely been higher. Yes, there are investors who think that stocks are safe in the long run. If this were the case, no one would be buying bonds guaranteeing negative real returns.
“House poor” is a common expression used to describe people who are wasting too much money on housing, leaving them with too little to spend on everything else. But it can also refer to those who are getting too little housing bang for their buck.
We're in the worst economic downturn in our nation's history. Everyone is being financially impacted. But there are secret ways to survive financially.
You can go from house poor — spending too much or at least more than you'd like on housing — to becoming house rich and you don't necessarily need to downsize your home to extract more value from it. In our case, we upsized our home while still netting a big sum.
These days mortgages are big enough financial and tax losers that you can potentially do better paying them off than contributing to your 401(k)!
Optimizing retirement outcomes means funding the highest standard of living, both before and after retirement, with a smooth transition in between. Planning for that economics-based outcome, known as “consumption smoothing,” is computationally intensive. But a recent technological breakthrough, which does that smoothing using uncertain asset returns, gives advisors a tool that improves portfolio choice.
Expected Utility Maximization figures out how aggressively or cautiously you should spend and invest your money to produce the highest lifetime happiness averaged over all the different living standard paths you may experience.
Target date funds can be far off target. They can be far too risky when young and far too safe when old. The proper fiduciary default investment is TIPS (Treasury Inflation Protected Securities), not a target date fund.
As Kitces suggest, many if not most practitioners interpret the replacement rate rule of thumb as an income replacement rate. Interpreted in that light, this couple's replacement rate is not the vaunted 70%, nor the often higher 85% figure bandied about. Instead, it's zero or essentially zero in seven of the eight cases considered.
Conventional financial planning uses two rules of thumb. One is the 70% replacement-rate, retirement-spending rule. The other is the 4% retirement-asset, spend-down rule.
Over 4,000 people divorce each day in our country. Some do so after many years of marriage and in the context of very unequal spousal incomes. Such divorces often require alimony to achieve a fair settlement. The question is how much alimony should be provided and for how long? Economics and advanced software can help answer these questions.
You can’t rely on Social Security to provide accurate information on your options. In my experience, over half of what Social Security staff tell people is either flat out wrong, incomplete, or misleading. But now I've come to lear that you can't even rely on Social Security's benefit statement to be accurate.
These days mortgages are financial and tax losers. If you have the cash to immediately pay off your mortgage, you can potentially make a bundle with zero risk.
Cashing out your 401(k) and using the proceeds to pay off your mortgage lets you borrow at a low rate and invest at a high rate and do so at no risk.
Two years ago today, the Office of the Inspector General (OIG) released their report A-09-18-50559 which estimates that over 11,000 widows have been cheated out of more than $130,000,000 — an average of over $10,000 each .
Laurence Kotlikoff, author
Our President, Laurence Kotlikoff, is a Professor of Economics at Boston University. He founded Economic Security Planning, Inc. in 1993 to build economics-based financial planning tools for use by households and financial professionals. Kotlikoff is a prolific writer whose financial planning columns, including his Ask Larry blog, have appeared in a long list of leading publications. His co-authored book, "Get What's Yours -- The Secrets to Maxing Out Your Social Security Benefits," was a NY Times Best Seller.