The Folly of the Risk Tolerance Discussion

Welcome to another edition of Mr. Stillman's open some water strolled alongside John Stover, the founder and president and the Guru of like the word Guru now like the connotations that it is or something like that little walk like gurus a very would like Eastern kind of term Dalai Lama sort of thing, you're much more of a southern non-Saudi law must work who I like the deacon got a new nickname to the beacon. That's good will destroy your job Stillman talking about today risk tolerance, but the way that this is going to go was John's can actually blow this whole idea up there in the financial world is this term risk tolerance. The financial industry kind of paints that picture paints that conversation in a certain way and I know that you're not a fan of it.

Well I will make it sound like it's not important at all to be part of the discussion, it is important to understand how you feel about volatility and risk your accounts moving up and down. That's certainly something we want to factor into your overall retirement risk tolerance is what how much risk you can emotionally kind of handle me how much volatility you can stand him him an emotional standpoint yes. So if you look at your accounts are right. Well, I could have growth of 10% next year with a 95% statistical probability I could have growth of 10%, but I can have downside of 7% or I could have growth of 40% downside of 28%.

How much upside do I want to try to chase understanding what the downside is right, or if you look back let's say 2008. If one 2008 happen. You saw your account cut in half and you just shrugged her shoulders and said well it'll come back, then you have probably pretty high-risk, right if you sold at the bottom because you panicked, then you probably do not have very high risk that is correct is the problem with the industry.

So the way that this is always framed.

Anytime somebody ask you what your risk tolerances. It's it's really up a planning question has a sales question. Interesting. Okay so they're trying to say say that again it's not a plan.

Questions not really helping them plan your retirement. It's helping them so you sell a product or something yeah and so basically if they can say what we've put together a plan that fits your risk tolerance, then you're more likely to be on board with Wiley, reminds me of the old Bill Cosby routine from like the 70s or 80s where he was talking about, you know people say that you should try drugs because it enhances your personality. Well, what if you're a jackass and you basically his approach the same thing. We put together a plan that reflects your risk tolerance. What if your risk tolerance is illogical.

Yes Italian I could make another Bill Cosby joke here, but I'm going to refrain her baby he not valid on Farrell may give you the greatest person because he was especially talk about drugs, enhancing personality type is old stuff is still funny. In any event, what if you say look, really conservative investor and I put together a plan that reflects your risk tolerance very conservative account.

Once we actually look at your plan and we determine that you don't need any money until your 78 years old and you're currently 6216 years before anybody. It doesn't really make what you mean. I mean he's going to need money between Etowah say he's retiring. He's got a pension and he's got three rental property you have a Social Security.

He loaned some money to his son who's going to be paying it back. His income needs are covered. He doesn't need the money that he has in the market for 16 years.

That led me to cover inflation 16 years from now.

That's when these other sources of income are going to need your chicken exactly exactly. So let's suppose that's the case, and you have a 15 or 16 your time on it doesn't make sense for you to be overly conservative with those dollars because those dollars.

You don't need right.

On the other hand, let's say you know I got pretty high-risk tolerance, lucidly and those to come back, but then we look at your planet. We say are right well your 62 you're retiring in three years and were going to need 250,000 of these dollars to start producing income for you. We don't want all of your money to be all that aggressive track that could get cut in half so I could go either way. It could be that your risk tolerance is too conservative or too aggressive for what you actually need some my job as your advisor should not be to take your risk tolerance and put together a plan that reflects it.

It should be to look at the overall picture to show you how soon or how far off in the future is before you really need this money to become income which then will help dictate to you what your risk tolerance should be that make sense. It does so you're almost saying and if I'm understanding you correctly, that it doesn't matter how I even feel about risk in these situations doesn't matter because it's going to be what you need.

I may hate risk, but I may need it if it's on money that I don't need for 20 years. You have to kind of convince me that look, I know that you don't want to take a much risk and we won't with the short-term money, but with a longer money, hate, you've got to do.

That's a pretty good summary of the issue. So when does it matter. My opinions on risk well in a lot of cases would say we need to get from point A to point B and we could do that in a very conservative fashion or a risky fashion. At the end of the day will go with whatever makes you feel good about whatever you're most comfortable with and getting from point A to point B, but if the conservative route is not going to get you from point A to point B. I can't just say what your conservative investors awarded to invest everything conservatively. It fits your risk tolerance plan doesn't work. By the way, but it fits your emotional feelings so all is well that doesn't work. Basically risk tolerance is important, but it your risk tolerance should be based on an understanding of the bigger picture. Usually, once you understand the big picture that's going to dictate your risk tolerance. Most people approach it that way though. It's just like I don't like risk and I don't want it.

Okay, so here's an annuity where you don't have to take any radiographs. The sales part of it right or you love risk rate. Let's put all your money in than in these mutual funds and in the brokers making you know whatever commissions office manager and that satellite has a sales question that's not a plan that's a sales pitch exactly and so it makes you feel like you've gotten this customized plan that's been tailored around your needs and your once because it has been well tailored around your your wants, not your needs exactly yes so you can see why I get frustrated by this whole risk tolerance conversation it just the way that it's very this is a drops Mike and walks away. Kind of podcast is it yeah this was enlightening while it's on one hand I'm glad the conversation is being had the right will that we are most people I would say that walking to my office understand the concept of risk tolerance, but it itches really hasn't been thought through thoroughly enough Sherman's case and if I'm going to somebody else's officers kind of teaching me this is the right way to view it all yeah whatever you feel. That's what will match that would make sense in my mind if I was uneducated, but this is a different kind of education where you can learn a little bit different when look at.

I give you a great example in real life, of what this looks like I'm so had somebody who was in there within their 401(k) they had you how a lot of companies will have. Financial engines are one of those companies committed to help you manage your 401(k) spring pay a small fee to essay financial engines rebalance within your 401(k) for you to keep on track with your risk tolerance. Right. So in this case we said what are you have about $2 million and Ronald 750,000 of it is in your 401(k) you got 400,000 in this IRA a couple hundred thousand of this Roth over here so were looking at the entire plan & this is what we need the money in your 401(k) to do this is what we need the money in your IRA to do this but we need the Melina Ross to do a law at all these pieces are fitting together when he goes back based on the allocations I've given him for his 401(k) because basically he had his 401(k) to aggressively invested relative to what we needed to do based on all these other pieces of this plan instantly goes to the financial engines and says all right what I want to reallocate this, they said the that's way too conservative.

It doesn't fit your risk, they're not looking at his IRA exactly as other things they're looking at $750,000 out of his $2 million portfolio did not see the big picture and are telling them that's too conservative. Well it's not hot when you consider that were going more aggressive assembly 76.

While I'm left speechless. This is been. This is been one of your better and more educational enlightening podcasts. Not sure if I'm excited to hear that. I feel like we've been accomplishing nothing for the previous month when you told me we were talking about risk tolerance honestly was going to be bored and proper checking my phone the whole time we were having this discussion, but I haven't even looked at it. Once this is this is been really engaging planes what you have been returning the text messages to last 10 minutes.

Also, just a select text that's really helpful. Thank you Jim averaging always a pleasure risk tolerance really good, behind-the-scenes look at how that discussion should go and way too many times it doesn't go that way very very enlightened.

Thanks as always John, thanks for turning in will talk you next time. Mr. Stillman's another masterpiece