Using the Science of Finance for Better Retirement

about for decades when it comes to financial advice. And that includes areas like home ownership, life insurance, cashing at your ira A to pay off your mortgage, and why you might want your daughter's son to grow up to be plumbers rather than head to a pricy private college something, and think about you think about for your own I've I've heard some of this before. Plumber owned so much real estate and retired really early. Yeah, well I just paid up, you know, a lot of money to get

a drain cleared. So I'm rethinking my profession as well. Lawrence Lakoff is professor of economics at Boston University. Larry joins us on the phone from Boston. Larry, how are you great? Thanks to me, Thanks for having you guys. So, what is the biggest thing that we're getting wrong when it comes to conventional wisdom when thinking about retirement. Well, there's so many things we're going wrong. We're not saving it up. We're not we're retiring to earlier. We're taking

street to early. We're we think we should get out of the stock market in old age, when economics actually says you should. As you're going through retirement, you should be putting a larger and larger share of your dwindling retirement assets fungible assets into stocks. Tim and I were just talking about this. Remember when it used to be like your age minus and that would you know, figure out how much should be in fixed income versus the

equity markets? Um? Anyway, please continue? That's yeah, that's another one of the rules of dumb of the financial conventional financial planning the the But we also need to understand that we should be timing the market for risk when things are riskier like they are right now. We don't know what, uh where the economy is going to be able to absorb all the illness from a macron even though you know, any one person may not be as

likely to die. You know, that's more risks. So we should be cutting back on our stock holdings in times of risk. So that's actually what we see happening. Yeah, and we do, right, We've seen a fair amount of money pulled out in a big way. Uh, certainly when we talk about the the trillion dollar route that we've

seen in a lot of those technology names. Just in this first week of UM, when you sat down to write this book, why did you want to do it specifically because you you really talk about when it comes to living standards and that these financial decisions that we can make can really impact our living standards going forward. Yeah. Well, Street is focused on our wealth, and economists are focused

on our welfare. Our welfare connects tour what we get to spend, our living standards, and the economists have been working on personal finance for a hundred years, starting with a worker, Birving Fisher in the n Yale professor um So, I got into grad school of economics because I wanted to help. I thought it could be a field that

could help society. And I realized working a lot on personal financial financial issues, that what was being conveyed to the public as advice was complete, uh right, angles, completely at odds with what economics was recommending on every every in every area, whether how much to save, when to retire, when to take so security, how to think about your longevity risk, just completely across the board. It was all oriented towards product sales when it come from conventional planning economics.

And then you had economists basically never talking to the public because uh they didn't have what you know, a clear idea of what precisely to say, and they didn't think it was their job to actually prescribe solutions. But I've been working in developing personal financial software. We have a tool called maxifi dot com uh m, a x i fi dot com that I've been working on for thirty years, developing the software which does deliver the economics the solution I but no, most people don't want to

run software. So I said, let me take everything I've learned over the years from economists, from the software, from my own research, put it into this book. And that's where I'm coming from to help people. So I'm just at max I'm looking at the planner right now. It's it's it's it's really interesting, Larry. I'm I'm wondering, you know, how how people can put your lessons into practice. I mean, what's what's a practical way to think about the advice

that you've learned over your career? Well, I mean the book you know, if they bought the book. Uh, if they don't want to actually you know, run the software. They buy the book, the lessons from the software are you know, mostly in the book. Uh. So, you know, if we're trying to figure out in economics is how to have a smooth living standard, how to raise your living standard safely, like doing smart things with respect to so security and retirement accounts to lower your lifetime taxes.

How the price decisions. If I'm thinking about buying a a new boat, how much is that going to cost me a big boat? Not a new boat, but a big big boat. How much do you really going to cost me in terms of my ongoing living standards? So I need to understand that trade off in order to decide whether it's worth it to me. Uh So, pricing risk, but also when it comes to investment, understanding the range

of my living standard outcomes. Wall Street is focused on, Uh, you're saving what you're currently saving, You're spending some targeted amount that has no connection to what you're actually afford and and they're accumulating this stuff up on the Monte Carla simulation simulating whether or not you run out of money. But Economics says you're going to adjust. You're spending all the time, and so therefore we have to look at

the trajectory of your living standard path. Larry, you've just got about a minute and a half and then we'll come back and continue with you. But you go through so many conventional you know, with so much conventional wisdom when it comes to financial planning. Give us one thing that you think might just shock people, that they're told to do but we shouldn't be doing, or that they

should do that we shouldn't be doing. Well, I cash out your IRA that might be in the stock market right now, and use it to pay off your student loans, your credit card bills, or uh your debts or your mortgage. That's unusual advice, but that can make a middle coast household a hundred thousand dollars in lifetime present value increased spending. There's just one chakra after the next in this book, because so much of conventional wisdom is so far from

um appropriate. But if you catch out your IRA A you face penalties, right, you face stuff penalties, not just in taxes. But yeah, so I'm talking about Yeah, so there's an issue. It's not not for everybody, and I talked about that. But if you're in a maybe even furloughed maybe over fifty nine and there's no penalty, but uh, yeah you are. You know you're gonna have to pay

taxes on it. But the advantage of uh uh once you risk adjust the stock markets return, it's just the bond market return, and therefore there's a clear arbitrage opportunity. You said that the long term treasury was like to one seven percent, right, Well, it's a mortgage rate is three and a half percent. There's a differential there. You can make pick up with no problem, uh with complete so one you risk just the stock market, it's really

one point seven percent you're earning in the market. Uh. So that's that's why we need to do an Apple's apples comparison when we're thinking about these kinds of things. I'm gonna toss it over to Tim because we've been having a conversation about what you just said, um for some of our audience, and let's remind Yeah, so, so

remind you. Carrol asked you about something that was provocative that's in the book, and you certainly delivered, and you talked about cashing out your IRA to pay off a mortgage, and I guess I'm having trouble making the math work because if I if I'm understanding the logic here, you're, you know, taking money from UH, your IRA, You're taking it out of the stock market or asset allocation that includes a stocks and fixed income, and you're putting it

into a different asset that you're paying off a small portion of each and every month at an interest rate that is really really low by historical standards. I don't understand, really really high. It's really really high compared to the say, rate of return you can earn in the market right now, which you said just on the show is one point seven percent, because on a tenures and or thirty years

I forget what you said thirty year bonds. So if you've got a thirty year mortgage and you're comparing that, you know, maybe bart at three dur and a half percent versus you can invest at one point seven percent. There's an arbite rge opportunity here. So why should why am I focused on one point seven Becuase you can risk you have to risk adjust the stock market return. The stock market historically is yield about you know, eight

eight or so percent above inflation. Uh and uh, yeah, that's a long way away from what you can earn on. But that's just an average. There's a huge standard deviation of the stock markets, huge fluctuations. So people are saying this thing is too If it was perfectly safe to be in the stock market, nobody would be investing in the bond market at this ridiculously low rate. So that's why you need a risk adjust so we can do

apples apples. So tell us about some of the other thinkings, um, that you get into your book and you talk about specifically, you know, get into social security, you talk about you know something that Tim and I have talked a lot about. I just sent a daughter off to college. Um, and you know, higher education, especially from private institutions, it's really expensive. You're talking seventy eight dollars a year. Yeah. Yeah, And I say, you know, I have a chapter entitled don't

Borrow for college. Uh. There's a chapter on you know, married for money. There's a chapter title about divorce, like and I basically you know how a divorce without going to divorce war. So the book really covers the entire gamut of personal financial decisions. As for college, you know, there's evidence that going to Harvard relative to some other university is uh not gonna matter much to your career earnings because it's how hard, how well you you work,

and how diligently and how creative you are. I mean, Harvard collects really uh you know, special people who are very good at working very hard and also you know, talented in other ways. But it doesn't necessarily add any value to them. So why should you pay for you know, seventy thousand dollars a year when you can you know, have the same career if you go to Wake Forest that will make much lower price. I'm not sure to Wake Forest is cheaper actually, so I'm just throwing thatamp.

But that's the idea. Let's chop around for a school that's affordable. The kids that go to college never end, never finished. So if you borrow for the luxury of dropping out of college, this is crazy. Who invests? Who bars money to invest in something where they know right at the tecko chance of getting nothing. That's why there's a chapter called don't Borrow for College. It's very strong,

uh strong language worrying people off from this. You know somee thing that I've been thinking a lot about is what the present environment means for people who are early in their careers right now, people in their twenties and thirties, because we have seen really historically high returns in the s and P five hundred in the last three years, and how people should be thinking about retirement. So so, what advice would you have for people who are in

the earlier part of their careers. Maybe they don't own homes yet, maybe they are still at the beginning of of of saving for retirement and and planning their financial futures. What should they be doing that Conventional wisdom says they shouldn't be doing. Okay, so the stock market is has done fantastically of late, but it's also done fantastically poorly over the you know, in the Great Depression with went down to the percent or more and Great Depression and

a Great recession. You know, it's had bad times. And uh so I would say, look, if you're starting out, make sure you put enough in her four one kay

to the kids, the employer's match. That's free money. After that, pay off any student loans, any credit card, carry roun large credit card bills, uh and uh and then by uh my house with as much cash as possible, because you know, engage in safety first behavior and then beyond that, uh, invest in the in the stock market in a diversified way as well as other things like reads and bonds.

Would be very careful about inflation. I think I think this government is so broke beyond belief that we're going to have inflation at the wazoo through time to pay off the governments. You know, for the government is going to print money to cover spending the quotes. This is what governments that are broke to in our country is as broke as any country in the world that's developed. We're not Zimbabwe but or Veezuela at this point, but we're in very bad long term shape as we're speaking.

It's this is I'm so interested in your book. One of the other things you find out and and here's a line everyone that will make you probably want to just read the whole book. Um, you can't count on dying on time. Longevity is likely your greatest financial risk. I mean, we really need to think about this. Larry. I have a brother who was like, how do I know enough is enough? Like when do I know enough is enough? Because he had an advised he said, you're good, um,

but it's tough. It is tough. I mean, let me just give you. It's one of the things I talked about in my books, buying an annuity from my mom, which was eight. So my mom was you know, my brother and sister. My brothers uh, my my sister around a bunch of major companies, and my my brother is the progress at Cornell. Both of them thought buying an annuity from my mom at eighty eight was crazy. I went to the Principal Life insurance company said they've never

sold an annuity to anybody that's old. So I got an inflation index annuity for her, and they said, she's not to make me on four years, and she did. She made it. It was great that we that she made it, and I was great that we we had the annuity to help with that. Well, we could talk and forgive me. I were running out of time, and I wish, you know, hopefully you can come back at another time, because I think this is really provocative and

and any time. Larry, good luck with the books. Larry Lakoff, he's professor of economics at Boston University's Your book is Money Magic