Podcast Episode 8 – Why Your Monte Carlo Analysis is Crap and How To Fix It!

You’re thinking of retiring at 60. You wonder what the consequences will be on your Social Security benefits.

By special request from a subscriber I show you EXACTLY what will happen. I even show you some of my very own Social Security numbers. Don’t tell anyone though!

The net result is that if you have a pension, say you are a firefighter, or a governmental employee, and can hang it up at 60. Should you continue to work for the next 6 years or so until your Full Retirement Age?

Well, in my example I show you how by doing so you could net an extra $500 a month at Full Retirement Age.

BUT! I think you should look at it another way. To work an extra 6 years to gain an extra $6,000 a year doesn’t seem like a good trade-off to me. Well, unless you really enjoy your job, or desperately need that extra cash.

Think about it like this. A 40 hour work week is 2080 hours of labor a year. To put in an extra 2080 hours for 6 more years is 12480 hours lost to work.

Say you live until 86, or 20 years after you reach full retirement age of 66. $6000 times 20 years = $120,000. So that 12,480 hours earned you all of $120,000 in extra benefits or $9.61 an hour.

Not a good tradeoff, in my opinion. Especially when there are tons of other things you could be doing to make $9.61 an hour. Youtube videos. Raise chickens out back and sell the eggs. Play weekends in a bluegrass band etc. Stuff you enjoy!

Or donate your labor to help your grandkids. Something.

So, I leave it up to you to figure out the best way to spend your years after 60 years old. But if you have a pension already, it’s just hard for me to see that extra $500 a month is going to make a huge difference in your life.

No pension and lots of debt? A ENTIRELY different story, of course.

But it’s for you to decide.

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
3. Taxes

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.

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