I Believe in What Works

In the words of the great Benjamin Graham, an “investor’s chief problem – and even his worst enemy – is likely to be himself.” We all like to think that we make decisions based upon a careful weighing of the evidence.  But that is rarely what happens, as the behavioral research now establishes beyond doubt. 

Our overriding tendency is to concoct belief systems based upon incomplete evidence or even out of whole cloth and then to set out looking for evidence to confirm what we have already decided.  Moreover, we are not anything like objective.  We interpret the evidence we do examine in ways that tend to be supportive of our prior commitments.  We are ideologues through and through.   

For example, the March, 2012 issue of Money magazine rightly honors Jack Bogle as a hero on account of his having preached the benefits of low-cost and indexed investing and for making those objectives widely available as the founder of The Vanguard Group. Money follows that up with a puff piece on the “Bogleheads,” devotees of Bogle with a variety of publishing ventures including a popular website (www.bogleheads.org) that – by-and-large – offers pertinent and helpful information for individual do-it-yourselfers from experts (such as the excellent Larry Swedroe of The Buckingham Family of Financial Services) and from interested amateurs. 

However, even a few random visits to the Bogleheads forum reveals evidence of ideology run amok. Many there suggest that using a financial professional is always wasteful foolishness, no matter an individual’s ability or interest in learning the fundamentals of investment management and behavioral economics as well as the perils they bring, since financial advisors are deemed generally incompetent and caring only about separating you from your money.  Moreover, well-supported and non-controversial research on financial topics other than indexing (such as the judicious use of income annuities to deal with longevity and sequence risk) is often attacked by regulars as part of a conspiracy on the part of big corporations out to exploit investors.  Accordingly, it can be difficult to ascertain where the good and well-supported advice stops and the ideological nonsense begins.

The same issue of Money includes an interesting interview with MIT’s Andrew Lo wherein Prof. Lo (rightly, in my view) criticizes the efficient market hypothesis and advocates for his adaptive market hypothesis, positing that markets adapt over time due to the biases and foibles of investors, bringing about inordinate risks, bubbles and crises.  But he then flatly states that “Buy-and-hold doesn’t work anymore.” That sounds like an ideological commitment to me. 

To be fair, the interview includes Prof. Lo’s admission that our industry has not developed “good alternatives” to that approach and expresses concern less with the long-term returns of a traditional, diversified and rebalanced portfolio than with the behavioral pressures that cause so many to be their own worst enemies on account of maddening volatility. This idea is consistent with research findings such as that by Morningstar showing that volatile funds tend to have the greatest discrepancies between time-weighted and dollar-weighted returns: “Volatile funds may entice investors on the upswing, but spook them into withdrawing during rough patches.” Thus “investors in volatile funds can unwittingly end up buying high and selling low.”      

But Prof. Lo’s bald proclamation can readily be used (and similar statements are being used) by ideologues (and salespeople!) to justify all kinds of nonsense, whether it be hedge fund and related strategies that fail by any reasonable measure (Simon Lack’s recent book, The Hedge Fund Mirage: The Illusion of Big Money and Why It’s Too Good To Be True, shows how Treasury bills have achieved twice the returns of hedge funds overall and hedge fund replication funds have had notoriously poor performance records since their inception), overpriced funds of any sort, or market-timing efforts that are doomed to failure.  

A recent Financial Planning Association survey of its membership revealed that 50% follow a systematic withdrawal strategy for retirement income and a special report on retirement income planning in the December, 2011 issue of The Journal of Financial Planning included an article by Jonathan Guyton showing that the mean initial sustainable withdrawal rate recommended by financial planners is 4.17 percent. These findings are consistent with a common rule of thumb that a 4 percent retirement withdrawal rate, adjusted annually for inflation, ought to be “safe” for traditional portfolios.  As I have noted in this space before, this “rule” is largely based upon research by William Bengen and others showing that the highest sustainable withdrawal rate historically from a standard portfolio to this point has been about 4 percent.

Yet financial services advertising typically includes a disclaimer something like “Past performance is not indicative of future results” for very good reason.  If nothing else, the 2008-2009 financial crisis taught that just because something has not happened or is highly unlikely to happen does not mean it cannot or will not happen. The 4 percent “rule” is based upon far too narrow a swath of data to be normative.  Moreover, as recent research by my friend Wade Pfau has shown (in the Winter, 2011 issue of The Journal of Investing and elsewhere), there is very good reason to think that sustainable withdrawal rates since 2000 have decreased dramatically.  Indeed, for 2008 retirees, Prof. Pfau estimates a maximum sustainable withdrawal rate of only 1.5 percent.  Blind faith in historical return levels going forward for these investors is likely misguided.  Therefore, assuming that something like a 4 percent withdrawal rate is somehow “safe” can only be based upon an ideological commitment rather than a careful weighing of the evidence. 

Accordingly, the need for assured income – most efficiently provided by a simple income annuity – is affirmed and remains the best choice for most retirees.  It is the nearly unanimous choice of academics and other unbiased experts even though it is routinely rejected by advisors and consumers. 

In the Bucks blog at The New York Times last summer, the typically outstanding Carl Richards made a plea for investors to “stay the course” in tough times based upon faith. “This act of faith is most evident when it comes to the stock market. …[T]he core question becomes this: do you still believe that stocks will continue to do better than bonds, and bonds will continue to do better than cash, just like they always have?”

I do not necessarily accept the premise of the question in that bonds have outperformed stocks over significant periods of time. Moreover, we do not have anything like enough data to be terribly confident about any alleged trend going forward.  However, to the extent that this question is a valid one, my answer is “probably not” with respect to the intermediate term and “I have no idea” with respect to the longer term. I agree that it is foolish to ignore history.  But history should not be turned into ideology.  I choose to remain skeptical going forward. 

Richards thinks that investing requires faith of a sort – an ideology. But I remain an investing agnostic. I believe only in what can be shown to work.  I also recognize that what works today will not necessarily work tomorrow.  Therefore, all financial plans must be evaluated and constantly re-evaluated in light of these facts.

In the world of investing, I only believe in what works.

UPDATE (2.27.12): To my (pleasant) surprise, this post has received a great deal of positive attention including recommendations from Real Clear Markets, Abnormal Returns and Agnostic Trader.  It also received criticism at the Bogleheads forum.  I have invited and continue to invite any Boglehead to comment here to “set me straight” and have offered Boglehead leadership a platform to respond more comprehensively via a stand-alone post.  Only time will tell if and how they respond.

UPDATE (3.5.12): Sadly, the only responses I have received to date are those posted in the Comments hereof.

UPDATE (2.5.13): Still silence.

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32 thoughts on “I Believe in What Works

  1. Robert, thanks for the excellent article. I agree, any ideology has proved shaky and detrimental to pocketbooks. There are a few things that work. I stick to them.

  2. Thank you for writing this! Both because you’ve done it so eloquently, and because now I don’t have worry about writing something like this myself. I was really bothered by some of the events this week at Bogleheads. A moderator did violate their Forum policy by moderating a thread in which he was an active participant, but I think that person is essentially a good person who let things get too personal and made a mistake. Nonetheless, I wish moderators could behave more objectively in their moderating. But as they say, it is their personal property and they can do as they wish.

    What happened to have worked for a 1982 retiree (such as an almost 8% withdrawal rate) may not really be generalizable to more recent retirees.

  3. Thank you both for reading and commenting. This is a subject I have been thinking a lot about lately. We are ideological creatures — often to our detriment (in all kinds of areas).

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  5. I also believe in, “What Works,” and I’m sure Mr. Seawright will agree that there is more than one school of thought available for reaching one’s investment goals. For me this is the use of low cost, well diversified index funds I purchase through Vanguard.

    I don’t know if Mr. Seawright had a chance to read the article titled, “Here Come the Bogleheads,” written over 10 years ago by Jason Zweig, for the September 2001 issue of, “Money Magazine.”

    If not, here is a link: http://money.cnn.com/magazines/moneymag/moneymag_archive/2001/09/01/308655/index.htm

    This story explains in greater depth what the Bogleheads are all about. It is interesting to note that John C. Bogle, is the only founder of a mutual fund company, where the investors actually know the name of the founder, AND have a group of people dedicated to his investing philosophy, in his namesake, “The Bogleheads.” After reading Mr. Zweig’s article, perhaps there will be a better understanding and appreciation as to why this is the case.

    Mr. Bogle cares about small investors by giving them the tools to make wise investing decisions through his speeches and books. He is a great man of integrity, and we are all very fortunate to have him as our champion.

    Kathleen L. Ryan

      • Dear Mr. Seawright,

        Thank you for your reply. Please see my entire reply to you at the Bogleheads site:

        http://www.bogleheads.org/forum/viewtopic.php?f=10&t=91346

        (I did not want to take up too much of your reply space here at, “Above the Market.”) Please rest assured that I was not criticizing you, nor do I believe I, “misread.” Please let me know if you want me post my reply in its entirety here.

        With best wishes to you,
        Kathleen L. Ryan

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  7. Thank you for your reply, Ms. Ryan. I would be pleased to address it in detail. However, would you be kind enough to post the entire reply here? I don’t want to be accused of pushing the Bogleheads thread off-topic. Thanks again.

  8. Ms. Ryan – Since you have not been able to re-post your comments yet, I have quoted the pertinent portions below along with my replies.

    “I took, ‘puff piece’ to mean, lacking in substance? (If not please explain.)”

    I took “puff piece” to mean an article “whose purpose is to praise or flatter.”

    http://dictionary.reference.com/browse/puff+piece

    “(And many, “non-amateurs”).”

    My intent was to reference both amateurs as well as professionals (such as Larry Swedroe, who I specifically noted and praised), who are “non-amateurs” by definition.

    “I included a link to the the article,”Here Come the Bogleheads,” by Jason Zweig for clarification as to what the Bogleheads ideology consists of. Perhaps you can give examples of what you meant went you wrote, ‘ideology run amok.’”

    In my view, having an investment ideology (which suggests being fixed and unalterable) is a mistake. That doesn’t mean that I don’t think you should have a point of view, that you should not act based upon that point of view, or even that your point of view may not remain intact over long periods of time. But each point of view should be tentatively held and subject to change due to new or better evidence. Moreover, ideological thinking takes good ideas and makes too much of them (for example, turning “has worked and still works” into “will always work”) or adds more to the conclusion(s) than the evidence supports. I’ll deal with examples below.

    “The Bogleheads ideology is stated clearly in the Wiki pages, and and numerous other places here, at the Bogleheads site. People post their opinions at the Bogleheads site, and as you well know, people are free to disagree with each other. But I don’t see how you can make the leap of, ‘disagreements,’ with, an ‘ideology run amok.’”

    Disagreements are inevitable and, in my view, conducive to better understanding. By examining and testing all points of view, we can gain a better understanding of what’s “real” and make such adjustments to our conclusions as the evidence demands.

    “Perhaps you misinterpreted, ‘often’ with, ‘always.’ There are many stories of investment advisors/brokers who do not have the fiduciary responsibility of their clients best interest in mind when advising their clients. This, I believe, is at the heart of many investors nightmares….being taken advantage of by people in the investment world.”

    Those fears are legitimate and I don’t doubt that altogether too many advisors do a poor job with their clients’ money. But the fact that many advisors do a poor job does not mean that no advisors do a good job and add value for their clients. Ideological thinking also leads to overconfidence and what Daniel Kahneman calls the “planning fallacy” – expecting things to turn out better than the probabilities suggest and thinking that we can have more impact on the future than is really possible. Just as many advisors are overconfident about what they think they know, many Bogleheads are overconfident too. As the ads say, past performance is not indicative of future results.

    “That was my point. When people take the time to read and educate themselves with Mr. Bogle’s books, I would venture to say, most people can do better without an advisor. He provides voluminous citations regarding study after study about the most efficient ways to invest, that it is beyond the scope of my reply to you.”

    I admire Jack Bogle and value his work highly. But I suspect that even a well-versed Boglehead would benefit from the services that a Larry Swedroe or an excellent financial planner can provide – keeping up with and applying the latest research; managing behavioral biases and foibles; making sure one’s goals, plans and return expectations are realistic; monitoring performance; offering comprehensive tax and estate planning assistance, etc.

    “In my humble opinion, there is no better place for, “learning the fundamentals of investment management”, than from Mr. Bogle, and the other distinguished contributing members of the Bogleheads site.”

    For a do-it-yourselfer, those are excellent resources.

    “Again, this is only the opinion of people who have had less than favorable experiences with their advisors. I believe we run into problems when we deal in absolutes such as always, or never rather than often, sometimes, etc.”

    That is precisely the point. For example, there are a significant number of Bogleheads whose bad experiences with advisors cause them to conclude or assume that all (or nearly all) advisors are bad. I don’t think that view can be supported.

    “Again, many times this has been the experience of clients. And this is what people tend to write about; their experiences, both positive and negative.”

    I am not referring just to experience. There are excellent financial advisors across the country that would help the vast majority of investors. Moreover, there is uncontroversial and well-supported academic research that some Bogleheads reject out-of-hand for ideological reasons (e.g., the value of income/immediate annuities to provide assured retirement income or the risks of the so-called “4 percent rule”).

    “No, not really. The, ‘well-supported advice,’ is cited in all of John C. Bogle’s books. All one needs to do is research this as far at they want to take it. Believe me, it is all there!”

    As much as I admire Mr. Bogle’s work, it isn’t all there. For example, he doesn’t deal with the latest research on the so-called “4 percent rule” for retirement income. His books do provide an excellent start, however. Moreover, not every reader of the Bogleheads forum is going to read all those books or check that everything posted by a regular is well-supported. And I have seen too many cases of unsupported nonsense being presented as gospel without challenge (so long as the nonsense is outside the usual scope of the Bogleheads approach).

  9. Thank you Mr. Seawright, for your reply. I recently got home from work, so I was unable to post sooner.

    You wrote, (at your site)
    “Ms. Ryan — Thank you for reading and commenting. You seem to be criticizing me but I have no quarrel with your comment whatsoever. Perhaps you misread?” —->Please rest assured that I’m not criticizing you, and no I don’t believe I, “misread.”

    Please let me elaborate further.

    In your article, “I Believe in What Works,” you wrote:

    “Money follows that up with a puff piece—->
    I took, “puff piece” to mean, lacking in substance?(If not please explain.)

    on the “Bogleheads,” devotees of Bogle with a variety of publishing ventures including a popular website (http://www.bogleheads.org) that – by-and-large – offers pertinent and helpful information for individual do-it-yourselfers from experts (such as the excellent Larry Swedroe of The Buckingham Family of Financial Services) and from interested amateurs. —>(And many, “non-amateurs”)

    “However, even a few random visits to the Bogleheads forum reveals evidence of ideology run amok.”—>
    I included a link to the the article,”Here Come the Bogleheads,” by Jason Zweig for clarification as to what the Bogleheads ideology consists of. Perhaps you can give examples of what you meant went your wrote, “ideology run amok.” —>

    The Bogleheads ideology is stated clearly in the Wiki pages, and and numerous other places here, at the Bogleheads site. People post their opinions at the Bogleheads site, and as you well know, people are free to disagree with each other. But I don’t see how you can make the leap of, “disagreements,” with, an “ideology run amok.” Again please give examples.

    You continued with,

    “Many there suggest that using a financial professional is always —->Perhaps you misinterpreted, “often” with, “always.” There are many stories of investment advisors/brokers who do not have the fiduciary responsibility of their clients best interest in mind when advising their clients. This, I believe, is at the heart of many investors nightmares….being taken advantage of by people in the investment world. Again, Mr. Bogle offers an alternative to this scenario. That was my point. When people take the time to read and educate themselves with Mr. Bogle’s books, I would venture to say, most people can do better without an advisor. He provides voluminous citations regarding study after study about the most efficient ways to invest, that it is beyond the scope of my reply to you.

    You went on to write, “wasteful foolishness, no matter an individual’s ability or interest in learning the fundamentals of investment management and behavioral economics” —->In my humble opinion, there is no better place for, “learning the fundamentals of investment management”, than from Mr. Bogle, and the other distinguished contributing members of the Bogleheads site.

    “and behavioral economics as well as the perils they bring, since financial advisors are deemed generally incompetent and caring only about separating you from your money.” —>Again, this is only the opinion of people who have had less than favorable experiences with their advisors. I believe we run into problems when we deal in absolutes such as always, or never rather than often, sometimes, etc.

    “Moreover, well-supported and non-controversial research on financial topics other than indexing (such as the judicious use of income annuities to deal with longevity and sequence risk) is often attacked by regulars as part of a conspiracy on the part of big corporations out to exploit investors.” –>Again, many times this has been the experience of clients. And this is what people tend to write about; their experiences, both positive and negative.

    “Accordingly, it can be difficult to ascertain where the good and well-supported advice stops and the ideological nonsense begins” —>
    No, not really. The, “well-supported advice,” is cited in all of John C. Bogle’s books. All one needs to do is research this as far at they want to take it. Believe me, it is all there!

  10. Dear Mr. Seawright,

    Yes, Thank you, I saw this. I just wanted to post my reply to your initial reply in its entirety. I also didn’t want you think I had overlooked getting back to you. :)

    Thank you again.

    Kathleen L. Ryan

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