transcript
Speech-to-text transcription can look a little quirky. Please excuse any grammar or spelling errors.
Episode #560 - Think Smart, Retire Smarter: Second Order Thinking
Roger: The show is a proud member of the Retirement Podcast Network.
"When we try and pick out anything by itself, we find it is hitched to everything else in the universe."
-John Muir.
Welcome to the show dedicated to helping you not just survive retirement, but to have the confidence because you're doing the work to really lean in and rock it.
Welcome to week two of this month-long series on improving our decision-making skills with mental models all to help us better rock retirement. Last week, we talked about inversion this week. We're going to talk about second order thinking.
In addition to that, we're going to share some stories from RRC retirees. I had the opportunity to sit down with a few retirees at our annual conference a few weeks ago and talk about the perspective that they have now that they've made the transition and what. Has changed in terms of what they're excited about, what they're worried about, were their worries overblown when they be prior to retirement? A lot of good wisdom there for those of you that haven't retired yet. In addition, we're going to answer some of your questions.
Before we get to this week's mental model, let's talk about last week's briefly, inversion. Got a few emails replies to our 6-Shot Saturday email which I suggest you sign up for. If you love this show, you're really going to love our weekly recap where we share resources that we've mentioned and a summary of the show. If you hit reply that email comes directly to me as Debbie's did.
Debbie sent me an email reply and said,
"Dear Roger, this inversion thinking process is brilliant.
I've really struggled with trying to figure out where and how to give back. I've intuitively done some of the “what do I want” thinking, but this is very freeing to help me gain greater clarity."
I agree, Debbie, and this is, these mental models have been around for ages. And if we're not aware of them, sometimes just a little shift in how we think can just bring a lot of clarity. I'm so excited, Debbie, that this has helped you on your journey.
Then we also got one from Dennis.
"Hey Roger, I want to thank you for this past week's show about inversion. It was a very useful topic. In fact, I found myself using that concept twice this week. In a conversation with a friend and then one with my wife."
Dennis, I love that you're practicing it, it becomes natural just to start to poke around at things and where it really can become enjoyable is when you hear someone else working through an issue and feeling stuck and you can pull out one of these mental models from your quiver and help someone else gain some perspective. It's a way of being useful, which is just wonderful.
Glad to hear that it's resonating with you. These are not my concepts. These are just things that I study and read that I use in my practice. I'm glad that it helps you.
The next thing I want to do prior to getting to this week's mental model is just give a shout out to Kevin. Kevin and I have had some emails. This is an RRC member and listener. We traded emails off and on and had some chats and Kevin and his wife foster kittens, you know, abandoned kittens. They usually have seven or eight at some time. Kevin is always doing a lot for others. We had a conversation about that and about doing something for himself. Well, randomly I get this email with a picture of a dog and Kevin says he hadn't had a dog for years and he decided that he was going to do something for himself. He saved a dog, a rescue, and named it Happy. Happy is very happy. Kevin is very happy. It's a dog. He's wanted a dog forever. Now this dog has had some second order consequences, Kevin shared, in the tune of some pretty hefty veterinarian bills because it had heartworm and a lot of issues because it was a rescue. But Happy is happy, Kevin is happy and has closed a loop of something that was important to him outside of rescuing kittens. I want to wish Kevin the best, and I want to wish Happy the best. Love seeing you taking action, as we see these things, action’s where it’s at.
With that said, let’s move on to this week’s mental model of second order thinking.
PRACTICAL PLANNING SEGMENT
“Because a little bug went, KACHOO! You may not believe it, but here's how it happened.”
So starts the story of the book Dr. Seuss book, Because a Little Bug Went Kachoo, and it follows the consequences of that little bug sneezing that reverberates all the way around the world in unexpected ways. This is a beautiful book that teaches the concept of second order thinking. Second order thinking is also known as the law of unintended consequences.
So, think of both an action and a consequence, this is relatively easy to see. You do the action and you see the immediate result. I take a step. I move forward. I take a bite of a birthday cake. I get the immediate gratification of the sweetness that I'm chewing. First order consequences tend to be the focus of decisions. I'm feeling very anxious and worried so I have a drink to relieve that. First order consequence of the action of drinking, used as an example.
In retirement planning, thinking beyond the initial consequence of an action is really important. That's long-term thinking, is thinking beyond the initial action, and that is very helpful as we make retirement decisions. So, let's use some practical examples to illustrate the second order thinking.
If I buy a Ferrari, well actually I'll use Roger as an example. If I buy a Bronco, the first order consequence is I get to have this cool Bronco, and it's fun, and I like it, and I needed a new vehicle, and it makes me feel like Colorado. First order consequence. Second order consequence is, I start looking at forums on Broncos, and ooh, I have this Bronco. I need a cool roof rack for my Bronco, so I buy a roof rack. Ooh, I need something to put on the roof rack, so I buy a shovel, or recovery boards, or what have you. This is a very simple example of second, third, fourth order consequences.
When you buy a Bronco, you start to desire living the life of a Bronco. Another second order consequence is if I buy a Bronco, my gas mileage may go down from the car that I had before. It costs me more in gas. There are consequences that compound second, third, fourth order consequences. So that's one example.
Let's use another one. Buy a lake house. Similar first order consequence, I have this great lake house for our family and kids to come and enjoy. Second order consequence is, well, you have to furnish it. That's it. You have to buy a boat, you have to buy lake toys, etc. in order to enjoy it. That's going to cost money.
Third order consequence or second order consequence is going to be, Wow, houses need maintenance and lake houses more than most and if I buy toys, they're going to need maintenance. So that's going to cause friction in my life. It's going to cost money when things break down. Another third order consequence might be now that I have this lake house and these toys and it's costing me money, I feel pretty obligated that my vacations are always at the lake house. I got to use this thing. I'm spending money on it or now that I'm spending all my money on this. I don't have as much financial freedom to go to Bali or go to Maine or go on a cruise because I feel I should use the lake house. That's where I'm spending the money.
Initially, we're thinking about resolving what we want. I buy the lake house, this will give me time or experiences with my family. Second order thinking helps us think “and then what? Then what? Then what?” This helps us fully understand the impacts of decisions we're making.
One that I've dealt with a lot in retirement planning is giving money to children.
Housing is really expensive right now. So, for younger people, because they don't have the income yet, and houses are expensive. Have you looked at rent recently? My daughter is looking at a duplex that is maybe a thousand square feet. It's nothing fancy. Eighteen hundred dollars a month. So, one decision might be, do I help my child buy a house? Or my child wants to buy a house, but they don't have the down payment, do I help give them the money for the down payment? Consequence is they are able to buy the house or they are able to pay the rent, whatever the gift is. But what are the second and third order consequences related to giving money to a child, say, to buy a house?
Well, it could be good and it could be bad. I don't know, right? It could be that They don't appreciate what they have because they didn't have to work for the money to build the down payment to buy the house. You gave it to them. So, it short circuited the problems that had a lot of good life lessons in it. That could be a second order consequence. It could be that now that they're in this house, that they couldn't afford to begin with, they have all the pressures to furnish it and upkeep it, which causes them not to be able to save. or making both spouses work, etc. Those are the other consequences. So, navigating this can be difficult. Understanding in this case, am I enabling, am I empowering, or am I helping them build a cage for themselves to where they're not going to be able to save for retirement or learn the lessons that they need to learn? Thinking in second order consequences helps tease out the impact of a decision beyond the initial consequence of getting the thing or them getting into a house. This is very important.
Now think about an aggressive savings program. Let's say you're saving for retirement. You're not retired yet. First order consequence if you're really aggressive saving is that you're going to have more retirement savings accumulated. Makes sense. Second order consequence is you're going to reduce your enjoyment in the present potentially and increase stress because you're more financially constrained, so your stress level may go up, and that may cause you to go work more, which causes you to miss family time, etc., and then you can do this for someone that is retired and overfunded, denying yourself doing things. Which has always worked in saving for retirement, gives you the immediate response of feeling safe and like you have your assets. But the second order consequence might be you're missing out on experiences for you or you and your friends, or you're missing out impacting the world either with your children or beyond and you die with two money and then go down the string you have, you know, regrets later in life. It's teasing out the order of things.
So how do you actually use this in decision making?
Well, one, how do you use it is you want to be aware of longer-term consequences and not just look at action and consequence. You want to start thinking a little bit farther out. The easiest way to do that is ask yourself a question over and over and over again. Okay, I do this. I buy the lake house. Use that as an example, and then what, and then what, and then what? That will help you tease out downstream consequences so you can see more of the picture of what position you're going to put yourself in, good or bad, after the initial thing is resolved. So just asking yourself, well, and then what? Well, if I buy a lake house and then what? Well, I'm going to need boats. Okay. That's going to cost money. And then what? Ooh, things will break down and I'll have to fix them. Well, then what? Well, then I'm going to feel obligated to stay there more. I mean, I don't have money to go do other things. So just going, and then what? And then what? It's good to go through that exercise. This can be a positive thing, too. So, let's talk about building a retirement plan of record. That has a short-term consequence of maybe, well, I have to spend time in a software program, and then I have to spend time maybe with even a basic Excel spreadsheet, and I'm not comfortable so, it's not a positive short-term consequence of building a retirement plan of record. I have to make decisions about what I want, even though I know it's going to change which causes me to have conversations, all these short-term consequences may cause us not to take the action.
But if you think in second order terms, if I'm willing to go through this short term period of not being super comfortable in doing the work, second, third, fourth order consequence could be If you build your plan of record and you have some clarity of exactly how the plan is going to work, when the markets go bad or when life happens to you, you will not have as big a mess to clean up because you have built some structure around your retirement.
The second order consequence thinking is an important arrow in your quiver.
Next week, we're going to talk about the map versus the territory, but for now, let's go learn some lessons from RRC retirees.
RRC RETIREE INTERVIEWS
All right, so it is lunchtime at the RRC Roundup in Grapevine. We've got about 300 people here, and I'm going to talk to some retirees about their perspective from before and afterwards. We're going to start with Kevin Sebesta, coach in the club who is retired, kind of. Kevin, how are you feeling so far?
KEVIN
Kevin Sebesta: I feel amazed that we have 300 people here, 150 or so retired and 150 are about to progress towards that stage, and it's just energetic and people are talking with everybody and switching to different people and having different conversations. My voice is still working, 12 hours in.
Roger: Yeah, mine too.
Kevin Sebesta: What are you thinking? You created this and you have teared up already.
Roger: Yeah, I've already had my first cry. I'm going to liken it to the, at the hotel, their main hotel, there's a dog convention for service dogs. This is going to be a bad analogy. I think it ports well, but you think of an old dog and a new dog, how do you learn? You learn from the ones ahead of you. That's how dogs learn, right? But that's how people learn too. If we want to do something, one of the best ways to go about it is talking to others that are doing it. And I think we're getting a lot of that connection here.
I don't know why I had to throw dogs in there.
Kevin Sebesta: You know, I saw a lot of service dogs looking up to their handlers. Every move their handler made, they watched so that they could assist. In some ways, this is the opposite, where the handler is helping the learnee.
Roger: Right, and we have so many retired people here that have done it. They want to help others see what they saw. We have a retirement panel this afternoon, so it'll be interesting to get the perspective that they can share with those that aren't retired.
Kevin Sebesta: I have something to add. I've talked to, well, I talked to probably 200 people at the opening happy hours and dozens and dozens of people are in the club that they don't have the camera on, they don't speak up, but they came here and they're visiting with everybody. So, the introverts are abounding here.
Roger: Yes. We don't get to see them live. The point of this is not to really talk to you about the club, but it's about, I think, wherever you're at, if you're struggling with confidence or you're even struggling with something technical, find your swim buddies, find people that you can walk with because you inadvertently make each other better. It can be hard to find those kinds of people locally sometimes when it comes to retirement anyway.
Kevin Sebesta: I was thinking I had people exchanging, I had people iPhone bumping each other's iPhones, transferring their contact information on our walk at 630.
Roger: 56-year-olds knowing how to do that, that's impressive.
Kevin Sebesta: Yeah, we also realized we should show you how to control what you share before you do that. Someone said your fun bucket just jumped into my phone, Kevin.
Roger: So, tell me about your fun bucket, we heard from Jim Solnier today. So, A fund bucket, what is it? Briefly.
Kevin Sebesta: So, briefly, it's where you take a structure of setting aside the funds of your life savings for your base grade life spending, food, utilities, transportation, housing, and health care, and figure out those expenses, inflated adjustments through your end of plan, and making sure those are secure, like safety first type structure and then having a set aside for aging, a set aside for inheritance and a set aside for reserve. Cautionary buffer. Then theoretically what's left is not assigned to those categories and you should use portions of that for enjoying your life, for your deferred spending. It's the freedom to see that in a dollar amount and then target the use of that rather than just knowing it's there. It's the doing and the using of that.
That's changed my life in the past few months, actually.
Roger: So, another way of saying that is for decades, and I've had this question in my practice, we save for retirement, which is this undefined thing and calculating how to fund your base rate life helps you identify essentially the over savings that can truly be spent on whatever you want. It's like the overage that you saved a beyond the finish point.
Kevin Sebesta: I always say it's the icing on the pie cake, which I don't really understand the pie cake, but I understand how we build those, and it's the sprinkles and cherries on top that some of us have had with great market returns for the past 15, whatever years.
Roger: I love that you don't understand the pie cake and you're in the club because we talk about it in different ways and different ways resonate.
So, let's talk about your fun bucket. What are you using this excess savings?
Kevin Sebesta: It ranges in scale of do what I love, my wife and I just signed up with some friends to do things with others, community, social, and we're doing a six-week cruise to Australia and New Zealand with friends. We're flying there at the front of the plane. That was a huge expense. It's the longest we could fly to the planet, probably and so we're doing that. And on the flip side, I'm getting a full Marshall's guitar stack amp. That's obnoxious, but I thought I've always wanted one and the account growth is going to pay for that. There are extreme levels.
Roger: Your neighbors are going to love that.
Kevin Sebesta: Yeah.
Roger: Let's talk about the cruise for a second. It’s for six weeks, and I know some of the people going on it, and you're more comfortable, I think, with this than some. I'm not going to ask how much, but there's got to be some sticker shock there.
Kevin Sebesta: The actual price for the cruise and the airfare is almost what our base grade life spending was through our careers.
Roger: How can you feel comfortable spending that much money?
Kevin Sebesta: That's a great question. You know why? Because that money wasn't there a year ago with the markets.
Roger: Okay. So, if the market hadn't grown, you wouldn't have done it.
Kevin Sebesta: No, that's not true. It's just icing and sprinkles. I would have cut into the pie cake the layer that's designed and assigned for that life enhancement, wants, wishes, fun vision, as other podcasts call it.
You've got to dream, you've got to be intentional, and you have to be agile to know that if you're doing these, you can flow with the river as it goes.
Roger: So, since you had a nice tailwind of excess returns, you actually looked at the amounts of, wow, if I just took this excess amount out of my plan, my plan is still resilient. This is just excess money that helped you connect the dot to feel comfortable in spending it on these two things.
Kevin Sebesta: That's exactly it. That's a good point. When I do the financial calculators. We subtracted the brokerage entry in the calculators, the amount of our fund bucket from that number and re-ran the numbers like that money didn't exist, like it was already spent on fund, and they came out okay using multiple calculators because I'm the king of the spreadsheet geeks in the club.
Not the best, but just the king.
Roger: Kevin, thanks for sharing your perspective.
Kevin Sebesta: Thanks for all of this and your podcast. You change lives.
BOB
Roger: How are you doing, Bob?
Bob: Doing fine, thank you.
Roger: So, you have been retired for how long?
Bob: It will be two years, October 1st of 24.
Roger: You did what industry?
Bob: I was in the food processing industry, focusing on engineering. Did that for about 32 years, traveling around the world, supporting our manufacturing plants.
Roger: Then you're here at the Rock Retirement Club. How long have you been a member?
Bob: We joined in spring of 2019.
Roger: So, you're an OG.
Bob: We're an OG. Attended the first round up when there were 28, 30 of us in the WeWork.
Roger: So, we have 10 times this year.
You're two years into retirement. What were you worried about the two years prior to retirement? What are the things that you were concerned about or not sure about?
Bob: Definitely the risk of running out of money. We had always planned on retiring at, I would say, less than average age. We wanted to retire in our mid-fifties. That was kind of our goal. So, with that long runway after retirement. You have to make that money spread a little bit.
Roger: So, the financial concern was the big one.
Bob: Definitely financial. We had ideas of what we wanted to do. We just wanted to make sure we could afford it.
Roger: Okay.
Let's talk about what you were most excited about prior to retirement. What did you think it was going to be?
Bob: It was going to be the freedom to be able to do whatever we wanted to, to get off the road from traveling, and not do business travel, but do recreational travel. Spend more time with family and friends and reconnect with them.
Roger: Okay, and then, in your case, did you have concerns about who I was going to be and identity and things like that? Was that anything that was on your radar?
Bob: Not really. I put together a list of all the things that I wanted to do, and as it's turning out now, I've barely dented the list of all the things, because if I had to put myself as a dog breed, I would say I'm probably like a border collie. I need to stay busy. I want to be active. So, I wanted to have a list of all these things that I was going to do. Like I said, I've barely scratched the list. In fact, new things have come on the list after retirement, things that I hadn't even put on there. I'm now doing them on a regular basis because I've discovered them post-retirement.
Roger: Okay. So now we're two years in, when you look back to that Bob essentially four years ago, should he have been as worried about money as he was?
Bob: He should not have been.
Roger: Why do you say that?
Bob: Being the analytical person that I am, I have now listened to a few of the podcasts that talk about if you have like the 95 or 96 or 98 or even 80 percent chance of success, there was a podcast that said, flip that around and say, if your number is 85, that really means there's an 85 percent chance you may have to make an adjustment to be agile. So, if I embrace that and said, 85 percent chance we may have to make an adjustment, and you make a tiny one along the way, you could adapt to whatever, you know, life throws at you. We could certainly adapt. 85, and if you make a small adjustment, we could move that number up if we wanted to. It didn't have to be 99 percent in order to move forward with the retirement plans.
Roger: I always laugh when I get the questions, is 99 percent as high as it goes? You're sort of one of those, right?
Bob: Yes. How do we do better than 95 or 99%?
But it's like 85 or 80 or whatever the thing is. You have to learn to say we could make that change, and certainly with our younger age, we're going to have to make changes. We'll have to be agile and make those changes, and that's something we're willing to do.
Roger: I've had the pleasure of getting to know you as a friend and observe you in the club through this entire journey, which has been awesome.
So how do you do it now? Where is your stress level or engineering level on planning now that you're two years in and doing, you know, a lot of fun stuff?
Bob: I would say that we still struggle moving from the accumulation to decumulation phase. We have not really refined our spending plan. We haven't gone to that level of detail to replace the paycheck. What we have done is surround ourselves with friends that are giving us that tough love. Encouraging us to spend on the things that we want to spend. Spend on the experiences. Feel free in that you don't have to get the best deal. It doesn't have to be optimal on this thing. Just go out and do it. Enjoy the experience.
Roger: We had Kevin Sebesta on here, who I think is one of those people.
Bob: Guilty as charged.
Roger: I affectionately call him Crazy Kevin. We were talking about the cruise, I don't know if your guys are going on that cruise or not, they're going to Australia and New Zealand and all that.
Bob: We are doing a version of that, yes. But we'll be on the cruise, a portion of the cruise with them.
Roger: We didn't talk numbers, but I can imagine that long of a cruise or that kind of trip is a big, big deal. He seems totally cool with it. How did you approach the price tag of something that seems indulgent to, you know, to maybe Bob prior to retirement?
Bob: It was definitely easier to make that decision based on our experience last summer on the Alaska cruise. We had never done a cruise before.
Roger: He's talking about, we did an RRC cruise, a club cruise to Alaska last year, okay.
Bob: Yes. So having never done a cruise before, we said, let's do the Alaska cruise because we're going to do the cruise, let's do it with a whole bunch of friends. That's going to make it more enjoyable. So, once we did that like, okay, we can do this cruise thing. Then, when the Australia one came up, said, you have to do it, and we looked at our numbers and said, we, we have to do this. Let's front end load that spending, while we still have the desire and ability to do it. So, it was actually a fairly easy decision. We're flying down there. Here's the other one in the indulgent part, not only is it the cruise, but we will be flying in first class, on the way down there.
Roger: That's awesome.
It's a long trip. That is a worthwhile trip.
Bob: With my international travel in the past, I've done it. I've been in all parts of the plane on international travel. It's certainly nicer up front.
Roger: It's different when you pay for it, though.
Bob: It is different, but you know, we're going to sit up front, and that's going to be part of the indulgent part.
Roger: One last question. Yeah. Is Without your swim buddies, your, your group helping you get perspective, do you think you two would have gone on this trip the way you're doing it?
Bob: Probably not. I don't think we would have. Like I said, the tough love, where they're saying, you have to do this with us. You can afford to do this. Front end load it, someone's going to spend your money. You want to get the experiences in while we can.
I don't know if we would have done an Australia cruise without, without their push.
Roger: I lied, Bob. I have one more question.
Bob: All right, sir. Go ahead.
Roger: I know you as having an engineering mindset.
In fact, you told the story once where you told me you fell on your mountain bike and I sent you a bubble wrap full body suit, which is sort of how I think from a planning perspective, you have approached it at times. What would you do differently four years ago in terms of when you knew it was the right time?
Bob: If I had to give my younger self advice or coaching, I would have said to retire even sooner.
Roger: What does even sooner mean?
Bob: I retired at 55 and with the company that I worked for, at age 55, there are certain carrots, certain benefits that kick in. So, like, oh, let's at least go to 55. But in looking back and now looking at the numbers, those extra little benefits and those extra little carrots really don't move the dial in the overall portfolio. In the scheme of things, they aren't going to make that big of a difference. But the time that we didn't have, we're not going to get that time back.
So, the story I'll go into is this has been something that's been very influential in my life was, I lost my dad to cancer when he was 57 and he had retired at 55 and had plans made with my mom that they were going to do all this traveling and go around the country But then another company called him and asked him to come back for a consulting gig. He said, sure, I'll come back for a little bit. We'll just push those plans off to the next year. We'll do that trip next year and then he got sick. So, that next year never came in the fashion that they were expecting it. That's been something that has been very close to me is that I don't want to wait too long. I want to do this early while we still can. Front load that spending. Get the experiences with friends and family and then not wait until the year after.
I would go sooner.
Roger: I never knew that story before. Yeah. I've never heard that.
Bob: It’s a reminder that I tell myself all the time, is to listen to what my father told me when he was on his deathbed.
Roger: Yeah, and it's one of those things where it's not like, just go YOLO. You're doing it in a thoughtful way, you're not being rash about it, but right. You know you're going to be okay.
Bob: Yes. If we have to make an adjustment, we will but we're going to have fun in the meantime
BECKY
Roger: Becky, how long have you been retired?
Becky: Five and a half years.
Roger: Five and a half years I was going to ask you how old you are, but that's a horrible question.
Becky: It's okay. I don't mind. I'm 68.
Roger: Okay, you're 68, have been retired for five and a half years, and how long have you been a club member?
Becky: I believe it's either three or four years.
Roger: I want you to go back in time to Becky two years before retiring. What did you do?
Becky: My job was not a W2 job, I was a caregiver. Before my service children grew up and left home, we moved my parents in with me. I went from being a stay-at-home mom to a stay-at-home daughter. My dad passed in 07, my mom passed in 2020 at the age of 99.
Roger: Wow.
Becky: So, I was a caregiver for a very long time.
Roger: When you and your husband were looking to retire, what were you most concerned about? Well, actually, full disclosure here. You helped launch a podcast, what is it called?
Becky: Catching up to FI.
Roger: Catching up to FI, which implies that you weren't way overfunded going into this.
Becky: Absolutely not. Our story in a nutshell is that we looked like every other American. We weren't deep in debt, but we weren't making good choices with our money and when we woke up and realized that retirement was on the horizon and we needed to do something. We were net worth zero at 50 years old and turned it around with Dave Ramsey and then learned even more with the FI community. We just got super educated and super focused on what we were going to do.
Roger: So, when you guys were looking at not working anymore, what were your biggest concerns?
Becky: Like everybody else the biggest concern was do we have enough money to retire? Can we make this last until as we call it in our friend group, "end of plan". Can we make this last for the rest of our lives? That was the biggest problem. I mean we didn't retire with our eyes shut and not doing any kind of planning, but at that point, you really don't know what the future's going to bring. Is this amount of money enough? Jim Sonier says it's going to freak you out when you start withdrawing, I described it as stabbing myself in the heart.
It is the hardest thing to do to go from a paycheck to withdrawing.
Roger: When you retired, would you say that the two of you were overfunded? You had way more than enough? Or very constrained? Or where were you on that spectrum?
Becky: We definitely were not overfunded.
We were somewhat constrained, I would say. If you don't mind me doing this, I am totally open to talking about our numbers because I think it's helpful to people.
Roger: Okay, well how many financial assets did you have when you were here?
Becky: Not including the house and the cars, we retired with 1. 3 million, which for some people, they're like, mama, gosh, I wish I had 1. 3 million. But in our community, we were probably a little on the lower end. Because of the good markets and the wind in our back, we have been able to spend and do what we want to do and we're pretty much sitting in the same place today. Our net worth right now is 1.4. No pension.
Roger: What was the plan if when you retired, we didn't have this headwind of a good market. How did you foresee navigating that possible outcome?
Becky: It would have been to cut back on our spending. We're actually spending more than we thought we could. Our original plan was that we weren't going to spend that much to try to be conservative with our funds and that if things went bad, we would just have to cut back.
Honestly, going back to work. I mean, all of us, yes, if we had to, we could go back to work, but for us, that really wasn't an option. Steven retired from a very stressful job, and he didn't want to have anything to do with work anymore.
Roger: So, you went into it knowing that, hey, we're not quite sure how this is going to work out, but we know that we're willing to adjust.
Becky: Be agile. Exactly. There are a lot of ways that we need to be agile.
Roger: Well, knowing that it could be these somewhat extreme outcomes depending on, you know, because you could, we had amazing markets, but it could have been the exact opposite. How comfortable were you with that unknowing?
Becky: One thing that we did, which isn't the right thing for everyone but it was for us, is we went into retirement with a paid for house. So, we have no mortgage, we have no car loans, we have no debt whatsoever. I tell people on my podcast that debt is the thief of your joy, and the thief of your funds. So, we did that. We are agile in our travel. Our plan doesn't look like what we planned. I mean, our life doesn't look like what we planned. I would suggest to everyone that they go into retirement with a plan, but they know it's going to change. It's going to look different. We're spending a lot more money on travel than we thought we would. But that's totally something we can back off of.
We have expensive hobbies. We drive race cars. We could totally back off that if we needed to. We could be happy hanging out with our family and taking road trips, if it came down to that.
Roger: You have a cohort of friends that are similar. We've talked to a few of them. Kevin Sebesta is on here and Bob. How important was having this, all these foxhole buddies that are on a similar journey?
Was it, oh, this is a nice extra to have or was it critical? Where does it fall on that spectrum?
Becky: It has become critical. They are like family to us. It didn't start out that way. We were on Zoom calls talking about Roth conversions and our money and how we were going to handle it. They were from all over the country. They are from the RRC. We all connected initially through the RRC. We are spread all across the country. We started with Zoom calls once every two weeks. Now it's once a month. We have had the opportunity to meet in person. So, we make a point now to meet several times in person if we can. After this event, we're staying here in Grapevine for three more days at an Airbnb so that we can all hang out together.
We are similar in many ways in our financial goals, we are all so different. We have singles, we have couples with no children. We have couples with children.
Roger: You have thoughtful people. You have crazy people.
Becky: We have crazy people. Stephen and I are the oldest in our late sixties. We've got several people that are still in their fifties. We laugh and tell them that one of these days they're going to be taking care of us.
Roger: They're your long-term care plan. Having that cohort, why has it been so powerful?
Becky: Well, we did not have it at the beginning of our retirement. We did not start with this. We also moved at the beginning of retirement. We left all of our friends and went to a new place and had to make new friends. Our neighbors and friends are great. These folks have, over time, literally become like family. We have leaned on each other for circumstances in our life that were completely outside of our money. Just, you know, family issues, accidents, heavy, heavy stuff. We are all there for each other, and we know we can depend on each other, like you would do with any other close friends that you have. There's, I don't know, 10 or 12 of us. If all the spouses are there, I think there's 12, and we just desire each other's company
Roger: Do you think this is like a unicorn type of thing, or do you think people could proactively create this?
Becky: I think people could proactively create it. Ours formed organically. One thing led to another and we've ended up with these dozen people that do life together now.
I would encourage everybody to reach out if you don't have a group like that. Then see if you can form one. There are folks here at the RRC that I know are having conversations about, hey, we live near each other or we have these similar interests that maybe would make an organic group work.
Roger: I remember when I started the podcast, I was at a conference, Social Media Marketing World, I think it was, and I met a lady and a gentleman, Lou Mangiello, who's a big Disney podcaster, and we just happened to meet over cocktails and the three of us just said, well, why don't we just hop on a call? We had never met each other and this was like within an hour, it's like, we're rocking in the same direction. They seem pretty cool. Let's just have a call.
The hard part is that first push, we started with the three of us and then organically Lou might say, well, I know this person and they seem to fit our vibe. Then it would build from there. It's that first step that's the hard one.
Becky: That's the way our group grew. If you desire that kind of group, don't expect it to happen overnight. It does have to grow. You sort of have to find your tribe within the tribe.
Roger: Like dating, you're going to get some frogs, right? Some flavors that aren't quite your flavor.
Becky: Exactly. I do, in a way, still think of this as a mastermind type group, because like I said, we started out talking about money and our, our path and our strategies and our optimization and we still have those conversations on our once a month zoom, but it is grown into so much more than that. We just do life together.
It's going to be possibly even painful at first to find your tribe. I call us a tribe within a tribe because we all came from the RRC.
Roger: Thanks for sharing your journey here.
Becky: Absolutely.
Roger: Definitely rocking it.
Becky: Absolutely. Thank you so much.
Kevin Sebesta: Go, Becky! Go, Becky!
Roger: That's the crazy one we were referring to.
Becky: Thanks, Roger.
JACK
Roger: Well, hey, Jack.
Jack: Actually, I think Kevin needs a haircut.
Roger: Okay. Kevin needs a haircut. We're here with Jack, now we're cutting up here at lunch.
Jack, how long have you been retired?
Jack: Just over four years.
Roger: How old are you?
Jack: 68.
Roger: 68. Okay. So, let's go to Jack two years prior to retirement, what was he most confused about or concerned about?
Jack: Two years prior to retirement I hadn't even thought about it at all really.
One year, I said to myself, I need to start thinking about this.
Roger: Yeah, you were 64 at the time, right?
Jack: I started on the podcasts and the books and just researching it like crazy. Then I tried to actually retire that year, but my boss, we were in a big transition where the whole sales force was old, white guys, and the company realized they had a big problem, that all these guys were going to retire.
Roger: You are one of those old white guys.
Jack: Exactly, so they were going to start transitioning to a much more diverse workforce. Oh, by the way, maybe we ought to have some women that work here too.
Roger: Maybe a good idea, yeah.
Jack: They were in the middle of that, and so we had a team where I worked that was very inexperienced and not really very good at it. They were like, please don't retire, and I said, all right, I'll go for another six months. Then they said, six months, six more months. I'm like, all right, but that's it. That's the end.
Roger: This is the whole time while you were researching retirement.
Jack: Then COVID hit. My job was to sell packaging. I sold more packaging, that was the best year of my entire career.
Roger: Thank goodness you were working financially anyway, right?
Jack: So, at the end of that year, my boss again says, one more year. I said, “Do you know who Peyton Manning is? They go, yeah. I said, “What happened to him?” Well, he hurt his neck, and they traded him to Denver, and he won the Super Bowl.” I said, “and then what?” Then he retired. He retired. I said, “I just had the Super Bowl win. I'll never beat this year. I quit.”
Roger: So, all this time you were doing the planning to feel comfortable with it.
Jack: I was listening to many podcasts and reading 20, 25 books, and I felt like I was in pretty good shape with the financials part, but I wasn't necessarily so convinced that I was ready for the non-financial part because I had a couple friends that were just like crazy bored playing golf or pickleball every day and I knew that wasn't going to work for me. I had all these big lists of who I was going to volunteer for. I've been a volunteer my whole life so anyhow, that's how I got to it.
Roger: So here we are four years in, are you bored?
Jack: No, I love doing what I'm doing. I do volunteer at a number of places, but primarily it's people that are down on food. I work at food pantries, and food banks, and in fact, today is our biggest day of the month. We usually feed about 500 families today.
Roger: It's like here locally in, in Texas, I don't know if it's a national organization, Meals on Wheels type of thing.
Jack: No, that's different. That's mostly for elderly people. I serve families, for the most part, but can’t make ends meet, so they will drive in their car, or walk, and then they will get approximately a hundred pounds of food. Canned goods, produce, whatever we're handing out. So, in Louisville today, there's this gigantic hurricane passing through. We're supposed to get five inches of rain this weekend. The way you work with that, you can't have volunteers standing in the rain for three hours. So, you put two box trucks together, and then you make the boxes that you're going to put in the client's car and hand it out to somebody who has a rain suit on. I was supposed to be in charge of one of those.
Roger: Oh boy.
Jack: When I told Teresa yesterday, she goes, well, I'll see you tomorrow. You're the boss of this truck one. I'm like, well, actually, I'm not going to be there tomorrow. I thought she was going to punch me.
Roger: You do that, and I know you mentioned before we were talking that you read books. You dictate books.
Jack: Well, basically its weekly service of about half an hour and you read so that blind people can listen on the phone, on the radio. It's called Radio Eye. So, every week you have a deadline that you have to have your reading done by a certain time so that they can put it out. Usually, I read on Sundays because it's going out on Tuesday.
Roger: Let me ask you a question. You're four years in, you're not bored, and you volunteered so you had that experience. What are you doing differently than the people that you talked to that retired and were bored?
Jack: I think many men have a hard time with the ego, they don't like being a volunteer because they used to be a senior vice president or some job like that, so this role is demeaning. Many of the people I volunteer with are women.
Actually, I just think it's a lot of fun because the people you meet are just so diverse like you'll have a mailman here, PhD there You know, but it's all in the past. Nobody cares what you were before.
Roger: You think a lot of men in particular just don't even think of it as an option.
Jack: You say volunteer and they're like, what, like, what is that? I'm not doing that.
Roger: Yeah. I remember for a while I was on some boards. I did that a little bit and I didn't like it at all. I like volunteering and doing sort of what you're doing right is like passing the thing out.
Jack: I don't want anything to do with boards. You have got to go to a meeting, you got to sit there and talk, It's just not me. I can't take it.
Roger: Last question here. What would you tell yourself? What would you have done differently when it comes to transitioning to retirement? Are you happy how you did it? Do you think you wish you would have done it earlier?
Jack: I actually think I did it at a perfect time because like I said, the last ten years of my career were extremely successful and I was very happy with how that went. If I had retired at, say, 54, I would have missed all that. I really think I hit it right on the nose. If I had gone longer, like the one-year syndrome, I think I would have been extremely angry because my job at the time was pure commission and the day after I retired, they changed the pay plan. I would have done nothing but complain about the next year as I compared the two, because of course they don't change it so you get more.
Roger: Yeah, exactly.
Jack: Yeah, so no, I think I hit it right on the nose there.
CHIP
Roger: All right, Chip, how are you doing?
Chip: I'm doing great today.
Roger: All right, so have you been retired for how long?
Chip: I've been retired for five years now, a little bit more, five and a half.
Roger: All right, and how old are you?
Chip: I am now 60.
Roger: You're 60. What kind of work did you do before retirement?
Chip: I was a technology manager, so I ran technology teams that built software and managed software. So, product owner, product manager, team manager.
Roger: Just to give you a visual, so Chip, for those of you listening, I've seen this journey that he's been on, where his LinkedIn had this middle aged, generic, white executive photo, which, is that a good description of it?
Chip: That would be, with the button-down shirt and the whole set up, yeah.
Roger: It was like the glamour shots of corporate profile photos. If someone were to click on your LinkedIn today, what would they see as your profile photo?
Chip: It is definitely not corporate anymore. Let's put it that way. Matter of fact, a little while after I retired, I had to put up a side-by-side photo because people would get on Zoom calls with me and they would be like, who is that? This is not who I thought I was going to be talking to. I had to put up a side-by-side photo to be able to say, this is my post-retirement versus my pre-retirement.
Roger: No, within five years and I got to see the whole transformation. Every time you hop on a column, like, dude, you're really going for it. I love it. I'll describe real briefly. You know, you have a good full beard. You're a little Santa Claus-ish. Right. You have a ponytail. Was this the inner Chip that was dying to get out, or how did this come about?
Chip: That's a good question. When you go through the corporate chain, it's like, this is the way things need to be, which is totally fine with me. I totally love my job. I really loved work. I totally loved, you know, this is the executive appearance, the whole setup. Worked with people. I loved it. But then when I stopped that, all of a sudden, I had to figure out what I wanted. Some things you don't know until you try it. COVID happened and I was like, I'm not shaving. I'm not cutting my hair. I'm stopping that. So, I did, and I just haven't ever gone back.
Roger: It just sort of evolved over time. So, when you retired, let's think of Chip a year or two before retirement, what were your biggest concerns? Whether it was financial or non-financial.
Chip: I had no concerns about retirement because I was in the corporate world and I loved my job. I was doing corporate work. I got laid off.
Roger: Oh, so it was thrust upon you.
Chip: Right, so I got laid off and my first reaction was, okay, I have to find another job, and then I started looking at it, I was like, wait a minute, I don't have to find another job. Then it was the question of, do I want to find another job and go back to work or, or not? I talked with my wife and we talked about it, I was like, If I don't have to go back to work, I'm not going back to work. There are other things I can do with my time. So, it was the best thing that ever happened to me, getting laid off, because otherwise I'd probably still be working, thinking, I'm going to have to figure out retirement one of these days.
Roger: That's not a bad way to look at things with fresh eyes. How did you feel comfortable enough practically from a financial standpoint?
Chip: At first, so, Initially, I had indirectly gotten tied into the FIRE community, totally tangentially, but just enough.
Roger: Because you were older than FIRE.
Chip: I was older than FIRE, yeah. I was 55 at the time, but through a side hustle that I was kind of working on, it got me tied to the FIRE community because I was doing work for podcasters and bloggers in that community. The four percent rule and stuff like that. I understood about it of okay well, that's what I need to shoot for but I didn't think about it until I got laid off and then it was like Oh, wait a minute. I'm at four percent right now. So that got me to the wait I can seriously consider this.
Roger: The conceptual standpoint the four percent rule helped in I'm in that ballpark.
Chip: Right, that got me to the ballpark. Then the question is, okay, how can I get comfortable with this? Because it's a whole different game of, wait a minute, I'm not going to have any income coming in, how do I actually make this work so that I'm not going to run out of money? Theoretically the 4 percent rule works. But we don't live in theory. We don't. When you start not getting income coming in and you start cashing out some of your money, especially before normal retirement age, it's like, wait a minute, I have got to figure this out. Not just, it should work.
I met you indirectly at a conference a long time ago. I got part of your podcast and then heard about the RRC and it was like, okay, I have to get this really figured out. Joined the RRC, got some of the tools there and that was enough to say, okay, wait a minute. I can really make this happen. I don't have to find another job if I don't want to.
Roger: When people leave work, they worry about not being needed. They worry about being bored. Did you have any of those concerns about what you are going to do?
Chip: I didn't because of how retired. Getting unemployed was thrust upon me and I had a social community outside of my job. My job was a was a job, which I really liked and I loved working with the people at work, but I had a community outside of that with my church, local community that I was tied into. I had that already and I had this side hustle that I've been working on which gave me the, okay, here's what I can do. I had all those things already there. It's been a journey after retirement to go, okay, how do I want to manage my time? Which is a whole different problem of, wait a minute, I don't have anybody telling me these are the things that I need to do, what's important and stuff like that. That's been a journey for the last five years. I can do anything and when I choose one thing, it's not just I'm choosing that, but I'm choosing not to do other things. So how to balance that out.
Roger: I was reading a book recently that I haven't finished yet, the paradox of choice. We all struggle with it but never express it. I can do everything, which seems awesome, right? But it can paralyze you and you end up not making a choice at all.
Chip: The converse of that, I'm choosing this. Sometimes you choose a default without thinking about what you're not choosing.
Roger: Do you have an example of that in your life?
Chip: Yeah, absolutely.
Once I first retired, the side hustle was super cool. I spent all my time and I was like spending 60, 70 hours a week doing this side hustle, which was like a job again, it was worse than a job. I was having fun with it. Then it slowly dawned on me, wait a minute, I'm spending all my time doing this, which means that I'm not doing other things, but these other things were valuable to me, like hiking and lots of different things that I love doing. But I wasn't doing them because I was doing the side hustle and so, then it was like, okay, wait a minute, how do I balance out what I'm doing? Do what's important to me. More things than just this one thing that I chose.
By choosing this, I'm choosing not to do other things, so how do you get that balance right?
Roger: The phrase is like, when you say yes to something, you're also saying no to something else, right?
Chip: Exactly, exactly. Sometimes it sneaks up on you and you don't even realize it until later, you go, oh wait a minute, what am I doing?
Roger: I had Becky on just a second ago, and I'm not sure when she'll be in the order that we share these, but she started a podcast with someone, Catching Up With FI, with a partner, and she, after a year or so, left. It was really well received, and it took up too much time. She said, wait a second, I'm supposed to be retiring and now I've got this thing that feels good and I get positive feedback from people. But she was able to remember what she was saying no to by doing it, so she left, which takes some courage.
Anything that you look back on that you might have done differently?
Chip: I was fortunate that fate or whatever you want to call it happened this way. Would I do anything differently? I don't think I would do anything differently. I'm just really glad that it happened the way it happened. Let's put it this way. If I didn't get laid off, I would still be working right now thinking I'll worry about retirement later. At this point, my parents are getting older, they require a little bit more help, and I would be pushing that off because I got a job. I got to take care of my job. I can't do that because I'm doing this. I wouldn't have done the side hustle that I love doing because I got this job. I got to do this job. The fact that retirement got thrown at me, made it so that I had to jump in and make it work. That would be my suggestion. If you think you're even close, jump in and make it work because you can make it work. If you're in the ballpark, you can make it work and you're choosing some level of security that never happens, without actually jumping in and actually doing it.
Roger: You figure it out once you've committed.
Chip: You totally figure it out once you've committed. It's really easy to say, okay, I'll wait one more year before I figure it out and I'll wait one more year before I commit. My only suggestion is to commit, and figure it out.
MIKE
Roger: Mike, you came up to me here at lunch and have a question. What is your question?
Mike: So, my question is, is that I understand that if I wait to 70 to take Social Security, I know it's more money. That's not a question. I get that. But what I struggle with is taking it at full retirement age or later, obviously gives me more money up front than it does later. If all of my base great life is taken care of until I die, with Social Security and annuities, why do I care if I have more money when I'm 87 because I waited to 70 to take Social Security?
Roger: Yeah, so I think we can get caught up in the when do I take it, because the mantra is always wait as long as you can. Statistically, if you live to life expectancy, it doesn't matter because the math will work out either way. A lot of the reasons to wait in this situation might not be for you, but if you're married, it's a higher benefit for your survivor later in life, right?
I think the way to decide it is having your plan of record at full retirement age, and then make a what if scenario at age 70 and see if it moves the dial at all from a feasibility standpoint. But it sounds like with the facts that you gave me, it might not matter, right? If you're fine both ways. It could be whatever one you feel most comfortable with.
What doesn't get calculated in some of that is if you take your social security early, yes, the breakeven is whatever that math is, but then you have more money working for you. Right? If you delay, you have to take more money out. It may not matter.
Mike: Yeah, and my wife's social security is within a couple hundred dollars of mine.
Roger: So, it doesn't matter from that perspective?
Mike: No, it doesn't matter from that perspective.
Roger: Okay. You might delay a little bit so you can do more Roth conversions. That might be a thing. Another reason you might delay, even if It doesn't matter is, so you can start to draw more money from your IRAs so you lower your RMDs later on. I mean you can do some of these tactical things. But at the end of the day, for a lot, in this situation it sounds that way, it's not going to make a material difference in your life.
I had a client, similar situation, and he's here actually, where he came up in a meeting that he was really motivated. He was like 68, and he wanted to take a social security, and we were delighted. The plan of record was to wait till 70. We talked through it and looked at it the way we're talking about it and at the end of it, it's like, John, I don't really care. It might not matter.
Mike: Yeah, and that's kind of what I thought. I looked at taking it at 68 and a half or 67 and a half versus 66 and a half. I waited a year that it's about 128, 000 more between now and 70, then if I waited to 70, I would give up that 128, 000. I'd get it later, but over a longer period of time. I look at my father-in-law sitting in his chair at 87, and I wonder, does he wish he had more money to spend today? No, because he can't do much anymore, so having more Social Security wouldn't matter to him today.
Roger: Yeah, and you bring up a really good point, because Jim Solnier was talking about that confidence in his keynote. Perhaps starting the Social Security now gives you more confidence to go spend money, right? You have this guaranteed income already coming in. Right.
Mike: Makes sense. All right, buddy. Thank you.
Roger: Appreciate it.
LISTENER QUESTIONS
I want to make sure we get to some of your questions.
If you have a question for the show, you can go to askroger.me and leave an audio question or type in a question.
MIKE AND BONNIE ASK ABOUT USING DEBT FOR TAX MANAGEMENT PURPOSES
Our first question comes from Mike and Bonnie from the RRC club and it's about using debt for tax management purposes. Let's just walk through a basic example to talk about how we might want to optimize using debt in certain circumstances.
When you're building a plan of record, you typically are assuming you're going to pay cash for everything. Let's use an example of next year, you need 200, 000 to purchase an RV, could be a lake house, it could be anything. You need $200,000 to purchase an RV next year, and let's assume you have $200,000 in just bank accounts and $2 million in tax deferred IRAs.
Well, next year, when you need to fund that 200, 000 debt for whatever goal it is, you could either take your money or take it from your after-tax assets, which would totally deplete your cash. That doesn't feel good. Or you could take the extra 200, 000 from the goal from your IRA. But if you take it from your IRA in addition to funding your other life goals that have to come from that account, what have you just done? You've just increased your taxable income in that year by 200, 000 because you're taking it from a pretax account and in the default retirement plan, generally we're assuming we're just paying cash for every goal. You need a car; it's coming out as cash. You need an extra something, you're just going to pay cash for it. But that, from an optimization standpoint, could be problematic. Maybe that's going to throw you up into IRMAA threshold. Maybe it's going to bump you up a couple tax brackets because of everything else going on. There are some second and third order consequences in just simply taking the 200, 000 out of an IRA to pay for a goal, because you're going to have the tax liability on it.
This is where utilizing debt can come into play from an optimization standpoint.
Let's say there's a paid for home. Well, in this case, Mike and Bonnie could use a home equity line of credit, which is essentially a line of credit using the home as collateral in order to fund the hundred or the two hundred thousand dollar goal and then work through how they take money out of their IRA to do it in a more tax efficient way that doesn't increase their IRMAA or it doesn't increase their tax bracket materially.
As an example, here we are in the fourth quarter of the year, maybe they know they have this goal coming up next year. Maybe they take a third of it out this year after they do their tax estimates, because it will keep them below the IRMAA threshold, or whatever threshold tax wise they're looking at.
Next year when the goal is coming, maybe they will take another third out of their IRA. and then use their home equity line of credit to pay the other third so they can fund the two hundred-thousand-dollar goal and then maybe go around another year into the next tax year. They take out the remainder from their IRA pay off the home equity line of credit. We’re able to avoid IRMAA or accomplish whatever they want to accomplish from a tax management standpoint.
The debt essentially is bridge financing. So, it's not just simply, I need 200, 000. I'm taking it all out at once and whatever the taxes are and IRMAA surcharges, I'm just going to eat it. That is a good use of debt, and a home equity line of credit is one tool in order to do that.
Another example might be there's a big outflow for a goal in the last year of employment.
Well, if you just take money out of an IRA or sell appreciated assets in the year that you already have high earnings, well, that can be problematic from a tax standpoint. Why not use a loan in the high-income year to bridge and fund the goal, and then when you are retired and your income has gone away, then sell something or take money out of an IRA, et cetera, to pay off the loan and from a complete tax standpoint, you're in a much better position.
I think that is totally an appropriate strategy for debt. We're going to assume you're going to pay cash in the plan, but in reality, you may not. You may use short-term financing like we're talking about. Another example of this is a car, if we assume you pay cash for a car, but when the car comes up to being purchased, you may finance it for 60 months because it's 2 percent interest or 0 percent interest. That allows us to have optionality to be able to pay the car off if we want to, but not being forced to do it just simply because we want a car.
Outside of the car scenario, there are two tools that we use in lending that I think are appropriate.
One is the home equity line of credit because generally there's a lot of equity built up in the house. There's a good system for that.
Another tool that you could use if you have a substantial after-tax account, not an IRA or a Roth, but an after-tax account. Many times, usually it's the purchase of a new home and they haven't sold the old home yet, or the purchase of a second home, is you can also use a line of credit attached to your after-tax portfolio. As an example, let's say you have a three or four million dollars after tax portfolio, a lot of highly appreciated stock that you don't necessarily want to sell. You can use an outside bank to do a line of credit against that portfolio, which works a little bit differently than a margin loan. Then they'll lend you roughly up to half of the value of the portfolio, depending on the securities that you have and you can just tap that anytime you want and pay it back anytime you want.
This is good interim financing from an optimization standpoint and totally legit, assuming that it doesn't impair the resilience of your plan, etc.
A lot of times, I want to point this out, and for Mike and Bonnie, yeah, these are totally appropriate uses within the context of it not putting your plan at risk, it's just optimization to be smart about taxes and interest and capital gains, etc.
DIRK ASKS ABOUT PRINCIPAL PROTECTED STRUCTURED ETFS
Our next question comes from Dirk.
Dirk asks,
"What are your thoughts on principle protected structured ETFs and using them in part of my more liquid section of the pie cake?
Thanks."
It's a great question, Dirk. We discussed these on other episodes, and I had a good discussion with Jim Solnier from the Retirement IRA podcast.
This was his second year in a row as a speaker at our conference, and he and I had a chance to go out to dinner a couple times, which was a blast. He is a hoot. Dude's crazy, man.
He uses these types of products in their practice. I do not. We had a good healthy discussion about whether they are appropriate for the pie cake or liquidity section or cash management, we'll call it.
Let's talk briefly about what they are. We'll find a link, Nichole, hopefully we'll find a link to where I actually walk through the fact sheet of one on another show, and we'll put a link to that on 6-Shot Saturday, if we can find it.
What is a principal protected, structured, ETF?
For those of you that aren't familiar with it, it's a new breed of product Calamos and some other firms have come out with whereas if you buy it at the offer, let's say that's at ten dollars a share, so they issue these periodically throughout the year, If you buy it at ten dollars a share it will act bond like in that at the end of a period, these are ETFs that are designed to mature similar to a bond, that you will get no worse than ten dollars a share when it matures. A year from now, two years from now. They have different types of "maturities". Its principal protected. I put in my ten dollars; I get my ten dollars when it matures assuming that I bought it when it was issued. That's straightforward. You're not going to lose money assuming that they are true to their promise on that principal protection. The feature that these principal protection notes have in addition to that protection part is they're tied to some equity index. Let's assume it's the S&P 500.
It says we're telling you we're going to pay you back your 10, in a year, but we're going to tie the performance of this principal protected note to the S&P 500 index stocks, but you're not going to participate a hundred percent in the upside. You won't have any downside. We're going to make that promise to you. But if the stocks do well, We're going to let you participate in making money, and so what they do is they'll put a cap on the performance that you'll receive related to the index it's attached to.
Here's an example, and I'm just making this up. I put in my 10. I know in a year's time I'm going to get my 10 back, worst case, but if stocks do really well, let's say stocks go up 24%, I know that I won't get all of that 24% performance in that year, but I'll get up to the cap and each ETF structured this way has their own cap. You have got to look at this on an individual basis. But let's assume the cap is about 8%. So best case, a year from now, I'll get 8 percent because the S&P 500 did awesome. I hit the cap and I got my 8 percent return. Worst case is I get 0 percent return, and just get my money back. That's essentially how they work or what the promise is related to them. If it's attached to the S&P 500 and the S&P 500 goes up by 4% from the start date, which is when they issue it to the end date, which is when they give everybody their money back, you're going to get whatever the performance is, so if it's 4%, you get 4%. If it's 24%, you get 8% in this example, but in theory, you'll never lose money.
I like the idea in theory. Now, how do they do this? How do they promise you you're not going to lose money? Why do they cap it? Essentially, what they're doing in the background is a hedging strategy using options. It's an option strategy behind it. So, options are a promise to do something in the future. We don't need to get into the details of options, but what happens in the background with these principal protected notes is they're using an option strategy to "guarantee" the result that the thing is promising.
Dirk's question, I wanted to give some background to the structure of it, is this appropriate? If you buy it on the offer, which is important and you hold it to maturity, it should work exactly like it says. I don't have any issues there. The risk that you're taking with these are what's called third party risk. The first party is whatever Investment firm is issuing it, you're taking the risk that they execute it well. In addition, you're taking the risk that the option contracts are going to play out exactly like designed, and if they don't, then the investment firm is going to make you whole. Those are the risks related to it, because you're investing in an option strategy, essentially, with the promise of this investment firm.
I feel relatively comfortable with that. So, in that sense, Dirk, yes, they are appropriate because the point of cash management in the pie cake, let's say in building out your five-year income floor is you want return of your money. This accomplishes that with some caveats on execution risk. Then the second priority of this category, first I want return of my money, then I want return on my money and this gives you a range of the return on your money from 0 to 8 percent in my example. You just don't know what it's going to be in the future.
This is something that Jim uses at least he's communicated to me actively in his practice. Cool. I do not as of now. Again, making these numbers up because markets are moving every day. The question is, do I want a guarantee of 5% for a one-year treasury or four and a half percent or the potential for 8 percent or 0%? My judgment as of now is I'd rather just get the 5 percent guaranteed and not worry about the ups and downs and what it's actually going to be, but either works in this scenario.
I don't think Jim is wrong and I'm right or vice versa. It's just a judgment call. I think they're appropriate, just understanding some of the nuances. It's not organic. It's a little twinkie-ish in terms of manufactured, but it seems to be relatively straightforward in terms of what the worst-case scenario is and what the best-case scenario is.
TIM ASKS ABOUT INVESTING BASED ON NEWSLETTERS
Okay, let's get one more question from Tim related to investing based on newsletters.
Tim said,
"I've been listening to your podcast for the past year and so playing a little bit of catch up.
My question is, what are your thoughts and opinions on newsletters? My retired golfing buddies turned me on to a newsletter in 2016, and I have had very consistent strong returns. I don't have to understand all the mutual funds and ETFs on their list. I just use their newsletter algorithm to apply my monthly updates to my portfolio. What are your thoughts on these types of investment guidance vehicles?
By the way, I love the agile approach. I'm a certified project manager that focuses on scrum agile processes, and it really makes sense to me.
Thanks for everything you do."
Roger: What do I think about newsletters? What we're talking about here for those of you that aren't familiar, and this has been a business that has been around for ages of investment newsletters, and they can have all different types of flavors from individual stock picking to market timing, to investment selection to economic forecasting, etc.
I'm not necessarily opposed to it, Tim, but I don't use them and I don't pay attention to them.
The question when it comes to predictive newsletters is all you care about is repeatability in terms of the performance. You care about repeatability because it's easy to be right, a lot, for a very long period of time and still not have a sound process because you just happen to be preaching a strategy that the winds of the markets are supporting for a very long period of time.
A good book to read that touches on this topic is a book called Fooled by Randomness: The Hidden Role of Chance in Life and in the Markets. It's a little bit of a heavy read but it talks about the fact that There's a lot more randomness going on, even in something that has had great results. You can't create a causation link directly. That's a good book to read as you're thinking about this, Tim.
The second part of it, Tim, is some second or third order consequences to following a newsletter that is, in this case, it sounds like you're doing monthly updates to your portfolio based on tweak this, tweak that, move here, move that. That's going to have some second or third order consequences.
Number one is that there could be frictional transactions or tax causation.
Number two is if you're going to be true to a process, now you've committed yourself to a journey of updating your portfolio on a monthly basis, assuming that's what this newsletter is recommending, which creates work, it creates spreadsheets, it creates mental work, it creates actual doing it.
If you're on vacation and you miss it, are you being true to your process? It creates a lot of friction that you have to deal with on an ongoing basis, and it's important to understand that.
The other thing I would consider here, Tim, is by doing all of this in working towards the excess return, that essentially is what you're trying to do here with the newsletter is I'm doing this because it's giving me excess return over whatever, how much is that excess return? What utility is that excess return actually going to have in your plan or in your life?
Most often, in my experience, a lot of the extra work pales in comparison to the consequence that of execution risk or the newsletter being wrong or the predictions being wrong, so it's asymmetric to the downside in terms of the potential payoff. These are all things that you need to evaluate for yourself. As a rule, I don't use them, because it's trying to predict the future, nobody has a clue on the future, I focus on what exactly it is, build a very focused portfolio, and move on. That frees up time to either go play, or frees time to focus on the future, which is what I view as higher value uses of my time, such as Roth conversions, tax management, productive giving, etc.
I'm not saying they're good or bad. I don't see a value in them personally. There are many ways to do this, and if it's working for you, and you feel confident in your ability to execute it and pay attention if it starts to deviate from what the process really is, then go for it.
Now it's time to go set a smart sprint.
TODAY'S SMART SPRINT SEGMENT
On your marks, get set,
and we're off to set a little baby step you can take in the next seven days to not just rock retirement, but rock life. You know what it's going to be.
In the next seven days, I want you to practice using second order thinking. It doesn’t have to be a big decision. It could be, do I have the chicken or the steak? Just use it as a mental exercise on some low-stakes decision that you're making to put in some reps to start to figure out how to use it. When you get to those higher stake decisions, you'll have a better appreciation to flesh out the picture of what the downstream consequences might be.
After our conference a week or so ago, we had our team retreat and I was reminded of a story where the manager of Iron Maiden, I think I heard this on Cal Newport's podcast, the manager of Iron Maiden, which I've never listened to Iron Maiden, but they're a heavy metal band, they're not really heard on the radio.
The manager was asked in an interview, You know, what makes you such a great manager in the music business? The gentleman answered, “I’m not in the music business. I'm in the Iron Maiden business.”
I love that. I actually use that on my team. I do believe this. I'm not in the retirement planning business. I'm in the rock retirement business about the outcome of creating a great life. We are committed more than ever before to empowering you not just to retire, but to really rock retirement and create a great life.
The opinions voiced in this podcast are for general information only and not intended to provide specific advice or recommendations for any individual. All performance references are historical and do not guarantee future results. All indices are unmanaged and cannot be invested in directly. Make sure you consult your legal, tax, or financial advisor before making any decisions.