(beeping) (upbeat music) - Welcome back to Portfolio Rescue, where we take questions straight from you, the viewers. Email us, askthecompoundshow@gmail.com. Thanks to the live viewers, as always, on YouTube. We had to change our time. We used to do it at, what, 11 in the morning? Eastern time, now we're doing it at 1.30.

The only reason we changed is 'cause Duncan is such a diva and he made me change the time. I didn't want to. I'm just kidding. It just worked out easier for everyone's schedule. This was, it made things easier, so thanks for sticking with us. Duncan, one of the themes I've been writing about on my blog for years now, I think 2014 was the first post I did in this.

I've been writing my blog since 2013. I think I'm coming up with my 10-year anniversary here. It's kind of crazy. Is the fact that market cycles are getting faster. There's a number of reasons for this. The markets are more mature, they're more global in nature. Technology makes things more efficient.

The free flow of information just makes things travel faster and move faster. And we also have central banks that just have their tentacles just into the market now and it's hard to get them out of there. I think 2008 got this started and 2020 made this a permanent feature, potentially.

I actually listened to Jay Powell's press conference yesterday, the Fed chairman. - Every bit of it? - I listened to all the questions. It's a little dry, but for people like me, I didn't mind. And he basically took a soft landing off the table and he said, "Listen, we're going to "tighten financial conditions to the point of "basically a recession, but if we go into a recession, "don't worry, we'll be there to save the day "on the other side." And I think this massaging of cycles at the extremes to we're gonna provide tons of ammo when things are bad and then we're gonna slam on the brakes and pull the parking brake when things get on the other side and things get really good, I think that's just gonna continue to potentially speed up cycles, right?

So we're gonna go from a recession in 2020 to a boom, to a recession, to potentially another boom, who knows? And I mean, it feels like we've had 11 cycles in the last three years. We started out with like 1918 because of pandemic and then we had like 1929 'cause we felt like we were in a depression for two months and then we had the roaring 20s, which lasted for like a month.

We had the 1999 cycle in 2020 and 2021. I guess the last year has been like the 70s kind of, and now it's gonna be like the early 80s, which is the last time the Fed threw us into recession. And I think the fact that these faster cycles, I think it makes it harder for investors to have a long-term mindset because you're constantly thinking like, "I should be doing something.

"I should be hedging, I should be making changes. "I should be going all in, no wait, "I should be going all out." All these things where I think it makes it harder for investors to just stick to a long-term plan because these cycles feel like they're moving faster. In the past, you had these cycles that would take 24, 18, 36 months.

It would be a long-term cycle. Now cycles last like three to six months and then they're over. And I think it's not gonna be easy, but I think the solution to faster cycles is like slower decision-making process. And I think people need to actually slow themselves down when they're making a decision and not try to make it so haphazardly.

But I think everything with the market structure and the way things are moving, and I'm not trying to blame everything on the Fed here, but that's part of it, is just that I think it's harder for people to slow down and pump the brakes on their own decision-making process and be like, "Everything's moving faster.

"I should probably be slowing down." And that's hard to do these days. - Do you think, would it have a meaningful impact if everyone just kind of unionized and said, "We're not gonna pay more than $12 for a Chipotle burrito"? Would that have an impact on inflation? - Is that before or after the guac?

Because that's a big, maybe guac should just be free. - You know what, that's with guac. It's with guac. - Right. All right, we're blaming it all on Chipotle? All right, I don't know if that's gonna happen. All right, I still think it's a good deal. - No, it's ridiculous.

It's ridiculously priced. But also, yeah, I mean, the serious part of that question is like, yeah, it seems like people just aren't willing to, and myself included, to adjust when we see the writing on the wall. It's kind of like it has to happen. It has to be like a big moment.

- The other thing is, for your portfolio, you should be building in this stuff that things are gonna be cyclical, there's gonna be good times, there's gonna be bad times. I think that's the hard thing for people to do is just to realize that you shouldn't try to optimize your strategy for every single market cycle, and I'm gonna have this kind of portfolio for this cycle, and this portfolio for this cycle.

You should think more of having a portfolio that's durable enough to handle all these cycles, as opposed to trying to make changes all the time, because half the time you make changes that leave you flat-footed, and then when you have the pivot and you miss it, then you think, oh, crap, my portfolio looks great for what would happen six months ago.

And then you're kinda screwed. - Yeah. - All right. Let's do a question. - Okay, up first we have a question from Ben. How should your asset allocation strategy change with your net worth? For example, should someone of the same age with $10 million in net worth have the same allocation as someone with one million?

- All right, is this a not to brag? Does this guy have $10 million? This is not me, by the way. - Yeah, I'm not sure. - So the bulk of my career before coming to Ritholtz was spent in the institutional space. That's like foundations, endowments, nonprofits, and these huge pools of capital like to call themselves sophisticated, right?

Because they had a lot of money. They had hundreds of millions or maybe billions of dollars in some cases. And don't get me wrong, some of these funds are very sophisticated. They have these huge teams, and some of the teams would focus on hedge funds and private equity and venture capital, and they were very good at this.

But far too many of these funds managed money with the assumption that the financial markets present a complex solution or complex problem, and we have to present a complex solution. And I think people with more money sometimes assume that just has to be the case, right? I have more money.

And what I came to realize after a while was it's just a few more zeros. Like managing a pool of capital that's a billion dollars, sure, it's a lot of money, but I don't think just because you have more money means you have to all of a sudden complicate things.

There's this old saying that you don't go to church to learn the 11th commandment, right? It's like you shouldn't try to reinvent the wheel just because things are bigger. So I think regardless of your net worth, the things that matter most when creating an investment plan are your risk profile.

So that's your willingness, need, and ability to take risk. I've talked about this before. Your time horizon, when are you actually gonna have to spend the money, your current circumstances, where you are financially, and then your goals, where you're going to be. Those things are the only thing that's gonna matter.

So for a big pool of capital that's hundreds of millions or billions of dollars, you still have to match up your portfolio with your risk profile and time horizon, understand how much are we spending? When are we gonna spend it? What kind of risk tolerance do we have? That's the kind of thing.

And so I think that's the main building block, whether you're managing $10,000 for yourself or $10 million. Now, if you do have a high net worth and you are one of these not to brag people and you're in a good position, it can kind of change. The risk profile thing is kind of, it's kind of murky because let's say you're lucky enough to have a high net worth and then millions of dollars, right?

Your ability to take risk is high 'cause you have a lot of money. And if your spending level is reasonable, then you have the ability to take more risk 'cause you have a higher net worth. But you don't have the need to take more risk 'cause you already have money, right?

And so you're kind of balancing between I wanna continue to grow my wealth, but I don't wanna screw things up. So then it comes down to your willingness to take risk. Okay, I have a lot of money. Do I want to though? What's my risk appetite? What's my tolerance for risk?

How comfortable am I with keeping things the way they are? How much do I wanna build for the next generation or whatever it is? So my favorite example of this is there's two wealthy billionaire families in the Grand Rapids area. One of them I used to work for. And there was two founders, two guys that founded the Amway Corporation.

And the story goes that one of them took his billions of dollars and put it on private equity and venture capital and all these different kinds of high-risk, potentially high-reward funds and just invested it all because I have an infinite time horizon. I have billions of dollars. It doesn't matter.

And the other guy took his billions of dollars and invested it all in US government treasury bonds and said, "I'm gonna keep it ultra safe. "I have this money. "What's the point?" And the thing is, neither of them are right and neither of them are wrong, right? If you have that much money, obviously that's an extreme example, but that's the idea here.

If you get to a certain point. The other part of the question here is basically when should you actually change your asset allocation, right? So I think that kind of gets down to it. Like, is net worth a part of it? I think that's part of it is like when your circumstances change.

So spending, this person in the question already also mentioned spending. I think spending is a big thing. If something in your life happens that makes you change, that's when you can kind of change your asset allocation. I think when the market opportunity set changes, that's time for it to potentially think about it.

So in years past, I mentioned we've had all these cycles. When interest rates were on the floor at 50 basis points or whatever, I think a lot of people were thinking, why would I have a 60/40 portfolio if bonds aren't paying me anything? I'm gonna go to 70/30 or 80/20.

And I think that made sense because the market was kind of dictating that. If you would be willing to take that risk, again, that gets into the willingness. Now that rates are higher, maybe people who were 70/30 or 80/20 could go, well, geez, interest rates are 5%. Maybe I'm more comfortable taking on 60/40 or 50/50 portfolio because rates are so much higher.

And so I think when market opportunity set changes, that can come to your thought process. And I think when you pick the wrong portfolio in the first place, I think when you set an asset allocation and you tell yourself, listen, I can do this. These are all the people who told us in 2020 that I can invest in three times levered NASDAQ funds.

Don't worry, I'm young. I have a tolerance for it. I can handle it. That's easy to tell yourself when markets are going up. Then when markets are going down and your portfolio is crashing, maybe you realize, okay, I did not understand what risk really was. I think I got out over my skis.

Is that the right phrase? I never know if that's the right one or not. - Yeah, I think out over skis is right there. - Okay, I haven't skied since college. I skied back in the day, though. But I think if you pick that wrong portfolio in the first place and you realize, listen, I did a portfolio that's 90% stocks.

I cannot handle this. I understand in a bear market, it's not me. I need to dial it down, even if that means lower my expected return. So that's kind of the idea when you should change your asset allocation. So should you automatically have a different portfolio just because you have a higher net worth?

I don't think that's really the case. I still think that simple is always gonna beat complex for the majority of people. But obviously, if you're in that place, then it's a different line of decisions that you're making. And frankly, I think it makes more sense to simplify when you have that much money because the rest of your life is so much more complicated.

Your financial planning stuff, your taxes, your estate planning, inheritance, all that stuff you're setting up, financial planning is way more complicated. That's when it makes sense to not go complicated on the investments and it makes sense to simplify. - Yeah, I think this bear market has taught me that my risk tolerance isn't as high as I thought it was.

- And sometimes you have to experience it. - Now it's kind of too late. - Well, you're still a young guy though. I think that sometimes you have to learn that. You're paying your tuition, right? So you learn that now, and then the next time this happens, you right-size your portfolio to not take on as much risk or not take as many risky.

Were you investing in oat milk? Maybe next time you invest in almond milk, right? - Exactly, yeah, yeah. Maybe not so much triple-levered stuff, you know? - That's the thing. But that's the thing, it hurts sometimes, but then now you know, right? That it's okay. And I think that your risk tolerance for this kind of stuff can change too.

Like when you get more money, you could have a 20% downturn in your portfolio. If you have it at $10,000, it's gonna be a small amount of dollars. But if you know you have $100,000 or a million dollars and you have that same 20% loss, and you say, "Oh my gosh, that's $200,000 now." I think even seeing that, some people don't live their life in percentage, they live them in dollar terms.

So even that could change the way that you view risk. So I think it's okay for your risk to change over time. You just have to understand that it's probably going to happen. - Yeah, I got way too comfortable with the buy the dip thing working every time, you know?

It did for a while, and then it didn't. - Have a little more patience. All right, let's do another one. - All right, up next we have, "I get that nominal yields are significantly higher today "than a year or two ago on fixed income, "but why is nobody talking about the fact "that the real return of bonds is actually worse "than it was before all of these rate hikes started?" - This is true.

Also, do you notice that, I think in the social media age, a lot of people love to talk about things that no one's talking about, right? - Right, yeah, yeah. - Why is no one talking about this thing that I'm talking about? Nominal yields are much higher, but they're still well below the level of inflation.

So John, do a chart on my first one here. This is one of my favorite charts that just shows the US inflation rate with a 10-year treasury. It's like an alligator mouth at the end opening up. Inflation is still above 8%, bond rates are like 4%. We've never seen inflation this much higher over the bond yields, going back to 1960 at least.

It's way higher. So yields have come up substantially, nowhere close to the inflation rate quite yet. So yes, on a real basis, you're still losing. John, throw the next chart up here. So this is from J.P. Morgan, and this shows real interest rates on the 10-year treasury. As you can see, this is just subtracting inflation.

You can see, actually, in the '70s, even though nominal rates were 10, 12, 15% by the early 1980s, real rates were actually negative because inflation was higher than those. So back in the '70s, even though they had high nominal rates, inflation was above that, so real rates were negative.

And this is the first time. We had negative rates a little bit in 2012, and they've been touching the negative. So I don't know. The thing is, I think people only really care about inflation-adjusted returns when inflation is high. No one talks about inflation-adjusted returns when it's low, right?

No one was taking the 2% inflation rate for all the 2010s and going, "Look it, on an inflation-adjusted basis, "bond yields are actually negative." No one does. You only do that when inflation is high. That's one thing. The other thing I think you would hope for is that if you're locking in these 5% yields on bonds, that inflation is going to fall eventually.

That's kind of the thing, right? We're gonna talk about IBONs in a minute here and how those rates have fallen, but I think that's part of it, is just these nominal yields you can lock in for one, three, five years or whatever into the future, and we're not sure that inflation is going to continue to be 8% per year going out that far.

So if you're locking in the bond yields now, going out in time a little bit, then hopefully your real returns are gonna be better if and when inflation finally falls. And Jerome Powell, he said he's gonna throw us into a recession to bring inflation down, so I'm bound to believe him at this point.

- Yeah, I feel like we should trust him. He seems to be making good on his words. Didn't you write something recently where you were saying he's basically telling us all of this stuff like he, it's not like we have to read the tea leaves, he's literally saying this is what I'm doing.

- Yeah, back in the day, you kind of had to, the Fed was very mysterious in what they would say, and you'd try to, oh, they changed two words here. Jerome Powell's basically telling you, hey, idiots, I'm sending us into a recession. There's nothing you can do about it.

It's happening, unfortunately. - Right, yeah. - Too bad, all right, next one. - Shout out J Powell. Okay, question three. I've heard you both mention the pitfalls of working with Treasury Direct for IBON purchases, and I think you might actually be underselling it. Treasury Direct is terrible in many respects when it comes to funding your purchases and customer service.

I fear actually having to redeem my IBON someday. Yes, the current yield beats other options, but to what degree should listeners factor in the time and effort of having to deal with a terrible broker for these investments? You know what comes to mind here? If I was like a Wall Street person, I would say there's no such thing as a free lunch, right?

- All right, that's true. Or a good government website, how about? This is true. We here at Portfolio Rescue, we're fans of the Sears iSavings bonds. We've been talking about them for a while. And I love this question because there's plenty of talk about risk tolerance. We talked about that already on this show, but there's little talk about your talents for complexity as an investor.

So there's a lot that goes into the portfolio management process where you're talking about asset allocation today, which is a biggie, but how about like your time allocation? How much time and effort are you willing to dedicate to put into your portfolio in these disinvestment strategies? So one of the reasons that I wasn't a huge fan of the more complex approach in the institutional world is because it was so operational and efficient, right?

So you had all these paperwork. Anytime we had a private equity or hedge fund come in, you'd get a 200 page deck of this private placement memorandum that was all just legalese speech from lawyers that they would just use to cover their ass and fine print, and it was 200 pages worth.

And it was like, yeah, you just read it. Don't worry, it's fine. There was tons of due diligence in the process. There's all these different accounts you had to open. You had to track some of these investment strategies were hard to track, and the performance was hard to know.

There's often like constrained liquidity. There's capital calls and distribution. It's a lot of work. And that was my biggest problem with it is that unless you have a huge team that's really well-versed in this, it's not that easy. And so, and then after you do all the heavy lifting, the majority of these funds still end up underperforming.

So then you have to ask yourself, like all that hard work, was it really worth it if we're still doing worse than just putting it in the Vanguard fund? So yes, that stuff is intellectually stimulating, but is it worth for the high fees and high probability of underperforming if you're not able to get in like those top decile of funds?

Now, buying Series I Savings Bond, not exactly the same thing, but we know it's not an easy process. They finally did update their website, it looks like from like 1997. I think they're probably more like 2006 now. So they're getting there, but they're still way behind. I opened up an account for my daughter when she was born, and I had an aunt who said, "I'm gonna give you $50 a year, "and I want you to open up a Savings Bond account for her "and put it in there." And so we did it for the first couple of years, and I think we forgot it.

Maybe the aunt forgot to give us 50 bucks, and we did it like two or three times. And I wanted to go back and see like, "Oh, that's right, the rates are higher." So last year I tried to check, and I've done this a few times where I go in, and of course I don't know my account number 'cause she was born in 2014, and forgot my password.

So I tried to enter it in a few times, and you lock out of your account. So what do you do? Call the 1-800 number. I called the 1-800 number, and it's like eight hour wait. - You never wanna do that. - So there's no customer service there. And so I do think you have to figure out also how much bang for your buck you're getting.

So last week we told you here that the rates are gonna fall because they based the rates on six months of inflation. Right, so John, pull up the little CNBC article here. So the new rate is 6.89%. That was over 9%, you know, if you would've put it in a week ago.

So that's still pretty good, but again, you have a $10,000 limit per individual. So that's like $690 a year you're making on these, right? You can get 30-day T-bills yielding almost 5% today, and they have no limit on them. You don't have to deal with this crappy Treasury Direct if you just buy a T-bill ETF, right?

You can do it free. Is the extra $190 a year really worth it? For some people it is for the time and effort, but some people, you know, there's other people who do the constant switch from online savings account to online savings account, right? Because one of them yields 25 basis points more.

You have to open all the accounts. You have to change your bank account. You have to change the accounts that are linked to it if you wanna send money out. It's like, is that really gonna matter in the long run? I don't know. Ramit at iWillTeachYouToBeRich talks about the difference between $3 questions and $30,000 questions.

And the $3 question is like the latte thing, you know, the Susie Orman, is giving up on lattes really gonna have that material of difference to your finances? Of course not. But getting a raise or figuring out your housing situation and not overpaying or your transportation and making sure you're not overpaying on those things, those can lead to huge outcomes over the long term.

I guess this one is more like a $300 question than a $3 or a $30,000. For some people, that $10,000 is a lot of money relative to the size of their net worth. And in that instance, maybe $200 a year extra is worth it for you. But for other people, it might be relatively a small piece of their portfolio.

And is it really worth it? And I agree, if you have like a problem with drawing your money and you need to get it, 'cause I know a lot of people are using these as like a substitute for savings, like a savings account. And there's the penalty if you pull it early.

And there's also like, what if you have a problem and can't get someone on the phone and you need this money? So, I'm still a big fan of the savings bonds, but I agree that maybe the complexity of it and the fact that it's kind of a pain in the butt, for some people, is just not worth the extra yield.

And it's just easier to take an online savings account where you're getting 3% and call it a day. - Yeah, that's what I was actually thinking recently. I was talking to Sean about this, is why someone now would do short-term treasury ETF or whatever, you know, something, as opposed to maybe getting 30 or 40 basis points less, but it being a savings account, high yield savings account.

That's what I was trying to figure out recently. - Right, which one is going to be easier for you? I have an online savings account. I could be earning 1% more if I moved it over to a brokerage account and put it in treasuries. I've had the savings account for like five years and I honestly just don't wanna do it.

I know that seems dumb, but like, it's just, it's easier. I have automatic contributions going in. I can pull the money easy, it's there the next day. It's just a little easier. And if I'm missing out on a few basis points of yield, I'm okay with that. - Right, yeah, that makes sense.

- I think Marcus is still below 3%. - Yeah. - They're gonna raise rates for me in like eight weeks after the Fed just raised yesterday. Can't wait. - I think they raised yesterday actually, but yeah, I can't remember exactly what they went to. - That's possible. All right, let's do another one.

- Okay, up next we have, I'm trying to help my girlfriend with her retirement planning. She had a bunch of 401ks with small amounts in them, so she rolled them over to an IRA to consolidate. She's 39 years old, and only has about $40,000 saved for retirement. I had her start a Roth IRA as well as a regular brokerage account.

She's a travel nurse, and while she makes good money, she doesn't currently have a 401k option, so is seemingly maxed out at contributing $6,000 to an IRA each year, though she did max out her IBONs this year. What would be the best way for her to catch up on her retirement savings?

- Okay, so Jeremy's girlfriend thought the complexity was worth it here. She maxed out her IBON. Kudos to him, first of all, for having this conversation with his girlfriend. I'm guessing that that's not always easy. It's not always a conversation people wanna have. This also gets to my point of why they should have 401k limits.

Go to people with IRAs if they don't have access to a 401k. I don't think you should be penalized if your workplace employer doesn't have a 401k. You should get that limit on your IRA if you don't have the access to 401k. Let's make that one happen if someone's listening.

- That makes sense. - So this is more of a financial planning question than an investment question, 'cause I think the savings piece is more important here. So let's bring on financial advisor extraordinaire, Blair Dukanay, to help out with this one. Blair, so we're trying to play catch up here.

And the good thing is, I think even at 39, you still have a lot of time to catch up. There's still plenty of time to do it. You might just have to increase that savings yield a little bit. What do you think, taking away the 401k and stuff, how can you play catch up, if you're starting a little later here?

- Yeah, well, my first takeaway here is that I've been married for 10 years, and it sounds like the dating process has changed a lot if we're having these kinds of conversations. But kudos to you for helping your girlfriend out here. - I'm not gonna lie, I had these conversations with my wife before we were married too, so.

- Oh, okay. - How romantic. - Sorry about that. - What a catch, huh? - But I have a question here for Jeremy, which is, is she being paid as a 1099 employee traveling nurse, or is she getting a W-2? And that makes a big difference, because there may be an opportunity here to defer more income through either-- - Oh, solo 401k?

- Yeah, solo 401k or a SEP IRA is even easier. You can max out potentially up to $61,000 in 2022. You have to make four times that in order to get to that max, but it's essentially 25% of your net pay there if you're self-employed to a SEP or a solo 401k.

So that would be the first question I have. You've already maxed out the savings bonds, which is great. I personally gave up on that website and never opened my account. I was one of those. If she's eligible or has an HSA healthcare option, that's another $36.50 a year that you can defer.

And remember that health savings accounts, HSAs are triple tax free. They go in and you get a tax deduction. They grow tax deferred. And if you use them for medical expenses, they're never taxed. So that's another option. At the end of the day though, there's nothing wrong with saving in an after-tax brokerage account.

So she can open an account in her name, set up a monthly savings amount to go in and automatically invest. You're not getting the tax deferral, but at the end of the day, when she retires, she won't be taxed to take money out of a brokerage account. So it's not a bad idea to start building that bucket as well.

- Right. And there's easy ways to do that now where you can automate it, automate the contributions, get some tax loss harvesting if it's a robo-advisor. And I think my biggest thing was, if I'm explaining this to my girlfriend, saving is the most important thing you're playing catch up, right?

The investment options are gonna matter eventually if you want to compound. But I think the biggest thing is just to increase that savings rate and make sure you're stocking money away, especially in like the first 10 years or so. The amount that you save is gonna dwarf any amount of investment returns you're gonna have.

So I would think just figure out what the savings rate is gonna be. And again, make sure you're putting that on autopilot and making contributions automatic. - But don't make them cut out their lattes because then they'll just end up hating you. - It's true. - Only if you do it every single day and invest that money immediately for the next 45 years at 8.5%, then you might be saving a million dollars.

I honestly don't think that kind of decision is worth it. No person ever does. If you cut back on something, no one ever does it. You know how I'm gonna retire? - Forever. - I'm not gonna pay for the Twitter blue check mark. That's how I'm gonna retire. $8 a month.

- Every single month, $8. - All right, let's do another one. - Okay, last but not least. This is a long one, so hang in there. I have an account with Fidelity and use their retirement planning tool, which is Monte Carlo analysis-based to see how my portfolio might look moving forward using different asset mixes.

What surprises me is that having a small bond position has always been the highest returning asset mix. I'm retired but live off of dividends and interest, no Social Security or pension, so I'm not spending down my portfolio. The only thing I can figure is that bonds protect on equity declines more than they hurt on equity rises, and that rebalancing during declines gives you a more positive bump than rebalancing hurts when equities are high.

I will be taking Social Security at 70, and the tool does require me to take RMDs at the appropriate age. My best result, I define it as the portfolio that has the highest remaining value after 40 years. Can you explain why a small bond exposure results in higher return when using Monte Carlo analysis?

- All right, Duncan's looking for an explanation of Monte Carlo here. I don't know the exact reason an all-stock one wouldn't perform. My guess is because if you're spending down that portfolio, the bonds help a little bit, and if you're an all-stock and you happen to spend on your portfolio and you get a bear market at the beginning, it could lead to lower outcomes.

Blair, pretty much all financial advisors who use software to create financial plans, for their clients, utilize some sort of Monte Carlo simulation. How do you explain this type of scenario analysis to clients, and then how do you think people should view when thinking through the scenarios here? - Sure, so this is more of a complex planning tool, and we're not talking about a casino in the Mediterranean here with Monte Carlo analysis, but whenever you're building a financial planning projection, you have to make some assumptions.

You make some assumptions on what asset class returns would be, what the volatility of those asset classes will be, and then you run what's called a straight line scenario, which is not realistic. So let's say, for example, you estimate that your portfolio is gonna earn 7% a year on average.

The straight line scenario shows you earning literally 7% a year forever, which, of course, is not realistic. So then we throw in a calculator called the Monte Carlo. Some will run 250 different scenarios. 1,000, I think, is the minimum you would need to have a robust analysis, but essentially, they're taking those assumptions.

So if you have an assumption for stocks with their return and their volatility, and with bonds for their return and their volatility, obviously, stocks are more volatile than bonds, and the math changes when you start taking money out of your portfolio versus when you're adding money to your portfolio.

So if you think about the dispersion of returns, even though taking more risk in an all-stock portfolio can have a higher expected return, it also widens the dispersion of potential outcomes, and the other thing we don't know, and the whole reason we're running this complicated Monte Carlo scenario is because we're trying to figure out what is a range of possibilities.

We don't know when the bear markets are gonna come in your lifetime. There's something called sequence of return risk, which is if the bear markets happen very early when you start to draw money out of your portfolio. Think about the market this year being down 20-plus percent and you're pulling out your 4%, which is the safe withdrawal rule.

That's an unlucky time. So what we're trying to do with the Monte Carlo is create a scenario of probable outcomes. We don't know what the future will hold. I can guarantee you that whatever number you're coming up with in 40 years will not 100% be the number in 40 years.

So it's a guidepost to show us what's potentially the outcome, and what is our probability of success, and I did put an example in the deck there, John, on a probability of success. Not to brag, this is my personal plan. I have a high savings rate, but essentially it's running 1,000 different trials of what could happen.

- Jeez, 99% Blair. - I'm probably not properly accounting for what my expenses are gonna be in the future, if I'm being honest. But essentially, all those different squiggly lines are potential outcomes of what my portfolio could be worth now. - I like that top line, that looks nice.

- Life is gonna get in the way. I'm gonna buy the big house, or the boat, or something's gonna happen. My kids are gonna get into some private college that costs a million dollars a year, who knows. But essentially, what we're looking for is a high probability of success, because we don't know what the next 40 years will hold.

The best thing we can do is use history as a guide, and try to run a lot of different scenarios, and come up with this guidestick. So essentially, it's because bonds are less volatile than stocks. That's the difference in this question. - And my way of thinking about using Money Carlo is I would, what's the old quote?

I don't know what you could attribute to 12 people online, Benjamin Flanklin, or Albert Einstein, or John Maynard Keynes. I would rather be roughly right than precisely wrong. And so I think, obviously, you'd rather have actual outcomes to use in probabilities, but we don't know what the outcomes are gonna be.

So you have probabilities, and then you can use those probabilities to update your plan as the actual outcomes happen. And then you can also add stuff there, because like you said, your life is gonna change in the future, so in 10 years, you say, well, I'm gonna buy a vacation house.

How does that impact our probabilities if we pull that lever? How does that change your potential for future spending and your future outcomes? And I think that it's just a good way to have conversations with people to show, this is how making this big change in your life or your financial plan can potentially impact your probability for good outcomes.

And then when those actual outcomes happen, then you see, okay, how close were we? And then you kind of update and go from there. - Yeah, and I would add that the goal should never to be to end with the biggest pile of money like Scrooge McDuck, right? You can't take it with you.

Really, what we're trying to do is save for the future when we won't be working and make sure that there's enough there that if we live a long life that we don't have to change our lifestyle, but at the end of the day, you should actually enjoy the fruits of your labor and the goal shouldn't actually be to end with the most amount of money.

- Duncan, what do you have right now? 17% after your stock picks this year? - Probably not even, yeah, it's a rough looking one. Yeah, I was gonna say, do you think this is a use case for augmented reality, like one day we'll have a headset that just shows you the Monte Carlo simulation of everything you're about to do?

That'd be kind of cool. - If visualization helps you achieve your goals, then it might be worth exploring. - Sorry, Duncan, I'm out of the metaverse already. It's never gonna happen. I'm not putting anything in my head. - Fast forward to a year from now, Ben wearing a VR headset while we're doing Portfolio Rescue.

- I was just curious, Ben, are you doing No Shame November? - I guess so, is that what it is? - I don't know, I don't know how many days this is for you. - All right, if it happens, I gotta try to match Duncan. - Yeah, let's do it.

- I do No Shame every month. - All right, I'm in. All right, thanks to Blair for joining us. As always, listen in to this in podcast form. Leave us a review if you're watching on YouTube. Leave us a comment, leave us a question if you want, or you can email us askthecompoundshow@gmail.com.

Go to idontshop.com for some of our merch. Duncan, we still have the Fed shirt. I got mine in the mail, I gotta wear it at one of these. - This has been super popular. This has been super popular. - That's killer, yeah. - Okay, yeah, it's the Fed godfather one, very cool.

Keep those questions and comments coming, and we will see you next time. - See you, everyone. (upbeat music) (upbeat music) (upbeat music) (upbeat music) (upbeat music) (upbeat music) (upbeat music) (upbeat music) you