Podcast Episode 13 – Interview With Larry Kotlikoff

Remember when the IRA used to say to Margaret Thatcher that she had to be successful 100% of the time but they just needed to be lucky once?

If they got lucky just ONE TIME, and were able to assassinate her, the whole world might have been a different place. Or if John Hinckley were a better shot, Reagan may not have lived and what would have happened then?

What’s the point of this, you might be asking? Simple.  If an unlikely incident happens that destroys you, even if the odds against that happening were huge, it’s a FAT TAIL RISK.  The consequences of such an incident happening are so enormous that the risk to you needs to be judged differently than any other types of risk.


Nassim gives us the widely-used fallacy that terrorism is just as risky as falling off a ladder.  In terms of past occurrences, this is correct.  The amount of people falling off ladders and being hurt in terrorism is similar.  But that is not the end of the story.

If a terrorist gets lucky, and is able to detonate a dirty bomb in Chicago, that risk is profoundly greater than the risk of one more person falling off a ladder. Even if a terrorist has previoiusly been unable to detonate a dirty bomb in Chicago, that does not mean the risk has been reduced.

Also, if you are worried about falling off a ladder, the answer to avoid that risk is simple, don’t climb up a ladder.

But to compare the two in terms of risk is absurd. Unfortunately, these things happen all the time.

In this episode, I argue the same can be said for retirement planning. So many retirement projections are based by using previous U.S. market performance and extrapolating that into the future.  Even Monte Carlo analysis is guilty of this.

Yes, the Monte Carlo has a random sequence of events. Meaning, 2008 could be followed by 1974 etc, and that potentially could be devastating to that unlucky person who retired into those back-to-back years.

But, that’s just one scenario out of 10,000 using return numbers that were simply phenomenal in the history of the world.    In fact, the world has never seen investments returns like that of the US over the last 100 years…ever.

So, to use that for future analysis seems to be quite a bit of cherry picking.  Doesn’t mean it won’t happen but let’s think about this.

How much different would your retirement projections look if we used the world average investment returns over the last 100 years as opposed to the US? What would you do differently going forward?

And here is why I harp so much on paying down debt.  That is the ONE thing you can control.  Paying down debt is the safest, most assured way to increase your net worth and reduce your outgoing cash flow.   Nothing else even comes close.

So, pay down your debt in order to eliminate the fat tail risks that could destroy you financially. You’re always going to need a place to live.  Have a home with no mortgage still has risks, don’t get me wrong, but not anything to the extent of the US having an investment scenario like that of Japan over the last 30 years, or China in the 195os.  Or Germany in the 1920s. Or Russia, or Venezuela or….

Pay down debt, my friends.



Visit Nassim Nicholas Taleb’s website here. Directly from Nassim Nicholas Taleb:

Another Pinker statistical fallacy, which can teach students how NOT to look at risks and mix random variables of different (tail) properties, or confuse types of estimators. This afternoon, to kill time on a long flight I decided to look for scientistojournalistic fallacies so I went to Steven Pinker’s twitter account. I immediately found one there. (Heuristic: go to Pinker). He promotes there a WSJ article to the effect that “Terrorism kills far fewer people than falls from ladders”; the article was written by a war correspondant, Ted Koppel and is very similar to his Angels thesis.
Now let’s try a bullshit-detecting probabilistic reasoning.

A- Falls from ladder are thin-tailed, and the estimate based on past observations should hold for the next year with an astonishing accuracy. They are subjected to strong bounds, etc. It is “impossible” to have, say, >1% of a country’s population dying from falls from ladders the same year. The chances are less than 1 in several trillion trillion trillion years. Hence a journalistic statement about risk converges to the scientific statement.

B- Terrorism is fat tailed. Your estimation from past data has monstrous errors. A record of the people who died last few years has very very little predictive powers of how many will die the next year, and is biased downward. One biological event can decimate the population.
May be “reasonable” to claim that terrorism is overhyped, that our liberty is more valuable, etc. I believe so. But the comparison here is a fallacy and sloppy thinking is dangerous. (Worse, Koppel compares terrorism today to terrorism 100 years ago when a terrorist could inflict very limited harm.)

Song of the Day: Ted Nugent and the Amboy Dukes “Great White Buffalo”

I can not even begin to tell you how excited I was to conduct this interview with Larry Kotlikoff, economics expert extraordinaire.

Larry is an economics professor at Boston University and is probably most famous for warning anyone who will listen that Social Security, Medicare and Medicaid are doomed in their current state. We can only continue to rob from the future to pay for today for so long. At some point, there will be a reckoning and when that happens, what then?

Do we become like Argentina? In this interview Larry talks about how in the early 20th century Argentina was one of the wealthiest countries in the world.  But look what government policy has done over the last 100 years.

The people haven’t changed. The natural resources haven’t changed.  Yet, Argentina is forever a “developing” country today.  Why?

Think that can’t happen here? Think again my friends, think again.

Government policy is probably the single, most important issue when it comes to analyzing a country’s financial well-being.  Just compare various countries and city-states.  Cuba vs. Hong Kong.

Singapore vs. Venezuela. Taiwan vs. most of China. Ironically, it’s the Guandong district of China that for years lead the way in economic development.  Why is that? I’ll let you figure that one out.

Larry’s work has been an integral part of my life, both as a consumer AND as a professional financial planner.

Whenever I am asked “What’s a good book to read on financial planning”, my recommendation is Larry’s book with Scott Burns’, “Spend Till The End”, bar none.

I can not recommend this book enough.

On top of that, if you are a professional financial planner or just a consumer wanting to understand your own personal financial planning and/or Social Security,  you really should get the software from Larry’s company, Economic Security Planning.

This is the only software I’m familiar with that actually runs consumption-smoothing models as opposed to simple “you need 80% of your pre-retirement income, Mrs Smith.”  See my complaints about that here.

The software at Economic Security Planning actually takes into consideration pre-retirement CONSUMPTION and then extrapolates into what you’re going to actually consume in retirement.

Let me give you an example.

My wife and I have  4 kids and live on 1 income.  The bills for kids come at us fast and furious. In fact, many say it costs $200k to raise 1 child.  We have four!

Now, when the kids are grown and out of the house are we going to have similar household expenses? Heck no…well, I hope not!

Why doesn’t modern financial planning software reflect this simple reality? Larry and I both have thoughts on that, which we discuss.

Other topics we cover are the insanity of this two party political system we have, especially given that neither party has any will to tackle what is coming down the pike, massive, massive budget shortfalls.  At some point, the credit card MUST be paid.  When, where, how? Who knows? But it’s going to have to be dealt with, by someone.

Maybe a third party will be an option?  I frankly doubt it.  But in case you’re interested, Larry had a couple options he highlighted which I link below.

The Inform Act. 
Modern Whig Party
Serve American Movement

I’ll add the Libertarians because I believe in freedom.   Will the Libertarians make any more headway than what we’ve seen? Doubtful and Larry explains why that is.

If you want Larry’s most recent posts, just click the links below.  He writes a LOT.  And, again, it’s not rocket science stuff, like you come to expect from most modern economists, to their shame, in my opinion.  Is the modern economics industry simply writing in order to appeal solely to themselves? It certainly seems so.  Which is why guys like Larry are so refreshing.

Larry also talked about an upcoming Supreme Court decision which could have HUGE ramifications on small business selling products inter-state. This could be huge, folks.  So stay tuned!

I could have had Larry on for 2 more hours, easily, but hey,  I’m not going to ask a guy to spend his entire Sunday evening talking to me.  But some of the other questions I’d have liked to have his opinion on are:

What’s his thoughts on Universal Basic Income?

What’s Larry’s take on Universal Health Insurance?

While I am NOT a fan of Nancy Pelosi, not the in the least, I felt her argument in favor of Universal Health Care was the best made; if people don’t need to worry about how to pay for health care that will open their creative juices.    (In fact, I’d argue we’d have more people self-employed and enjoying their work as opposed to staying in the grind for jobs they hate just so they can have health care.  Definitely don’t believe the solution is a government take over but vouchers make a ton of sense to me.)

And just a myriad other questions.  But there is this thing called time constraints.  So, maybe one time I’ll get Larry back on and we can discuss this other stuff.

So, if you feel I missed some stuff, by all means let me know.  Or just read Larry’s stuff. I guarantee you’ll find it as informing as I do.

Larry’s personal website.

His new post on Seeking Alpha.

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