In this episode, I share how a recently widowed friend of mine was told by a large investment firm that her money would last until she was 93 years old. She’s 61 now.
How did they figure that? Well, they ran a Monte Carlo analysis of course! And if the Monte Carlos says you are good to go, well, who’s going to argue with that?
I do! The three things that must be looked at when it comes to the Monte Carlo are:
1. Rates of returns the software is using
2. Investment fees
I go into detail of all three in the podcast. But, if the software from which the Monte Carlo is based is saying cash will return you 3% and a conservative portfolio (20% stocks / 80% bonds) 6.2%, that is way overly optimistic in a world today when the 10 yr Treasury bond is paying all of 2.80%.
How about investment fees? Investment fees that run say 1% will eat approximately 25% of your total returns on a more conservative portfolio. That needs to be addressed in your Monte Carlo analysis too.
Oh, you don’t pay a money manager but instead have mutual funds? Are there NO fees on your funds?
Ever hear of taxes? Well, if you have the bulk of your assets in qualified accounts like an IRA or 401k, every penny you take out from those accounts is taxed at Ordinary Income.
My widowed friend only needs to generate $37k or so of income before she is in the 22% tax bracket!
Monte Carlo doesn’t take that into consideration either.
What am I getting at? Simple. If a call center employee at a big firm says you’re fine with your retirement projections because he or she ran a Monte Carlo and it says you have an 85% success probability, the first thing you need to do is ask “huh. interesting. What are you using for rates of returns? Are you adjusting for the investment fees you want me to pay? Are you adjusting for the taxes I will pay?”
If the answer is no, which undoubtedly it will be, you need a second opinion.
If you are not looking at the NET, you could be in big trouble.