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Risking it All

Mike's Perspectives 

Risking it All

By Mike Lynch CFP®

Financial Planner

Some experiences are hard to shake. That’s the case with my meeting of Joe, an eighty-year-old retiree donning a fedora and a splendid smile. Our paths crossed at a Christmas party hosted by my client and his friend. “You’re a financial advisor,” he asked, as I confirmed with a nod and a sip from my glass of red wine. “I’m running out of money” he continued, “and I don’t know what to do.”

Now there are a least three things people are not supposed to discuss when meeting in polite society, money being chief among them. That said, as a financial planner I am as comfortable discussing dough as a baker is doughnuts and I often find myself conversing about cash.

“That’s not good,” I replied. My new acquaintance went on to tell me that he and his wife had $500,000 invested and were withdrawing $75,000 a year to support their lifestyle. Quick mental math confirmed he was on track to be broke in under 7 years. I’m sure my face belied my concern.

He went on to tell me that he retired 20 years back and had $1 million portfolio, an energetic wife, a home, a love for travel and a hobby of working with metal and wood. The couple had Social Security but no pensions. Based on then current conditions, they were set and their financial advisor at the time counseled a conservative route of exchanging stocks for bonds, as the income would more than meet their needs and the principle would be backed by either large corporations or the United States Government. Why take the risk of losing money it the stock market, he reasoned?

Not being in the room, I know not if my new-friend questioned this logic two decades back. I do know that today he wishes he had. Here’s what happened.

Back in January of 1995, interest rates on the 10-year treasury was 7.78. The million would produce just under $78,000 in income, no “risk” no trouble. He needed only $40,000, so even after taxes, he had more than he needed. Since then, inflation has averaged 2.25 percent a year, not high, but enough to increase his $40,000 annual need to more than $60,000. Remember this is pre-tax. Bond interest has dropped steadily from the near 8 percent to the 2 percent range it was hovering in at the time we talked.  

This was a 78 percent collapse in rates. Yet his cost of living had increased by more than 50 percent!

He got caught in the perfect storm. His advisor and by extension he had been inflicted with “Principle Myopia,” a common disease that infects Americans as they approach retirement. This disease causes investors and some advisors to exclusively focus on the risk of seeing the paper value of principle drop, if only for a month, quarter or year. The reaction is to transfer to “safe” investments, anything with fixed in them: cds, government bonds, bond-based mutual funds, fixed annuities. The result is real financial pain, as my acquaintance so terribly illustrated, if one lives long enough.

Sentient people understand that life offers numerous risks, and that these risks trade off against each other and can never be fully eliminated. With investing, there is a risk of loss of principle but there’s also the risk of loss of purchasing power. There’s a human risk of dying early in retirement or even before. But there’s also a risk of living well into the 90s or even past the century mark. Strategies that reduce one of these risks will, almost always, exacerbate another.

A person who is terrified of flying can eliminate the risk of having a last day spent on an airplane. But if they plan to travel, they have simply increased the risk of dying in another vehicle. So too can a person avoid the risk of a stock market decline by avoiding the stock market. But in so doing they radically increase their risk to interest rates and inflation.

By focusing on only one risk, my new friend’s advisor foisted upon him tough choices in his 80s. He could reduce his lifestyle now, plan to die in seven years, or radically reduce his lifestyle when his money ran out. There was no way to “invest” his way out of this problem or these choices. There were no innovative financial products to cure his illness. It was too late. Too much damage had been done.

That wasn’t the case 20 years back. A balanced approach—for example, say 50 percent bonds to help preserve principle and 50 percent shares in America’s great companies—would have appeared more “risky” in the short term, but would have proven far safer for the long run.

Using the S&P 500* and the Bloomberg Barclays US Aggregate Bond Index** as proxies, his yield—interest and dividends—would have been reduced from $78,000 to just under $50,000 at the start of retirement, a reflection of the lower starting dividends on the stock. Yet as the bond interest declined the income from the stock would have increased. This, combined with the capital appreciation, would mean that both his income and portfolio value would have been greater when we met than when he retired. In fact, it would have been 1.7 times higher at $1.7 million. He might still want to discuss financial issues, but it would be about surplus—how to give money away he and his aging wife didn’t need--not scarcity.

Of course, he would have had to tolerate four years of decline—one in five—the largest being a 2008 drop of 16 percent. To be successful he would have had to endure these temporary declines in financial markets without making the big mistake of selling low. But that’s how us good financial advisors earn our keep—reminding clients of the need to hue to long-term plans. He would have had to avoid fads, such as the dotcom and real estate manias—and simply remain broadly diversified. It would have been scary at times, but unlike the guaranteed depreciation route he took, inflation adjusted income would have kept coming, and he could always sell shares to make up any shortfalls. And since we live on the income, the psychological pain would have been worth taking for the financial gain.

*S&P 500 is an unmanaged market capitalization-weighted index of 500 large-cap U.S. companies listed on the NYSE or NASDAQ stock exchange. You cannot invest directly in an index.

**Bloomberg Barclays US Aggregate Bond Index is a market capitalization-weighted index. The index represents most of the U.S. traded investment grade bonds. You cannot invest directly in an index.

Michael Lynch CFP® is a registered representative of and offers securities, investment advisory, and financial planning services through MML Investors Services, LLC. Member SIPC. 6 Corporate Drive, Shelton, CT 06484, Tel: 203-513-6000. He can be reached at or (203) 513-6032.

This article is not intended to provide tax or legal advice. That the example provided is for illustrative purposes and clients need to review their situation with an expert in that field.  These are the views of Mike Lynch and not those of MML Investors Services, LLC or its affiliated companies, and should not be construed as investment advice. Neither the named Representative nor MML Investors Services, LLC gives tax or legal advice. All information is believed to be from reliable sources; however, MML Investors Services, LLC makes no representation as to its completeness or accuracy. The author is not engaged in rendering legal, accounting or other professional services. If other expert assistance is needed, the reader is advised to engage the services of a competent professional. Please consult your Financial Advisor for further information.