How To “Lie” With Personal Finance

“Lies, damned lies and statistics” (Mark Twain)

“Do not trust any statistic you did not fake yourself” (Winston Churchill)

There is a classic book called “How to lie with Statistics” that I read many, many years ago (actually decades ago!) as a college student. If you’re ever looking for an inexpensive but fun and impactful present for a young student/graduate with the hidden agenda of getting that person interested in math and statistics, this is the one! The book taught me to take with a grain of salt pretty much anything and everything number-related. Anywhere! Whether it’s in the news or in the Personal Finance blogging world and even (particularly?!) in academia. I’m not sure if I was already a severely suspicious (paranoid?) person before reading this or the book turned me into the person I’m today. So, inspired by that book, I thought it would be a nice idea to write a blog post about the different ways numbers are misrepresented in the FIRE/Personal Finance arena. And just to be sure, this post is not to be understood as a manual for fudging numbers, but – in the spirit of the “How to Lie With Statistics” classic – serves as a manual on how to spot the personal finance “lies” out there!

And there’s a lot of material! Probably enough for at least one more followup post, so for today’s post, I look at just four different way of how quantitative financial issues are frequently fudged in the personal finance world. And a side note about the slightly attention-grabbing title I used here: Well, I put the word “Lie” in quotation marks to show to the faint-hearted that this is a bit tongue-in-cheek. I could have written, “fudge the numbers” or “Enron-accounting” or “How we delude ourselves in personal finance,” or something like that. Also, Hanlon’s Razor (“don’t attribute to malice what can be explained by incompetence”) comes to mind here, but I’m not sure if those faint-hearted folks feel that incompetence is a significantly more benign explanation than malice.

So, let’s look at some of my favorite examples of how people lie to themselves (and others) in the realm of personal finance…

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Where are they now? A Case Study Update with “Captain Ron”

From 2017 until early 2018 I ran a series of ten case studies for readers who volunteered to open their books and serve a real-world safe withdrawal rate guineapigs. The second case study in July 2017 was for Captain Ron (not his real name) who was planning to FIRE and enjoy early retirement with his wife on a sailboat! That title picture you see up there, that’s their actual boat! Sounds like a great adventure, not just the financial aspects but also the lifestyle changes are daunting! So, how did that all go? Captain Ron just sent me an update on how life has been, so Ron, please take over the wheel…

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We retired in September 2017 as planned and are really enjoying life. Financially things are great and we have adjusted to the sailing life, but that first year of cruising was a surprisingly difficult transition. More on that later.

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A Bond/CD Ladder Toolkit

A while ago I created a little toolkit to design my own bond and/or CD ladder. With a bond/CD ladder, by the way, I mean holding a portfolio of bonds and/or CDs so the cash flows comprised of maturing CDs/bonds plus interest income exactly matches a specified time series of target cash flows over time. Of course, if you’re regular readers of this blog you know that I’m not too thrilled about investing in bonds or CDs. Yields are just too low, compliments of my former colleagues at the Federal Reserve. But there are still a few interesting applications for bond/CD ladders. Some of them purely for “academic curiosity” and not because I actually want to implement them. So, here would be a few questions I’d try to answer with this toolkit:

  • If I wanted to build my own little “quasi-annuity” to guarantee a certain cash flow for 30 years or so, how much money would I have to set aside today to guarantee that cash flow? This is obviously not because I actually want to do this. As we will see later, the cash outlay today would be so prohibitively high that I’ll prefer to take my chances with the stock market and the Sequence Risk that comes with it!
  • How much of a difference would it make if I required regular cost-of-living adjustments (COLA) along the way rather than getting one fixed nominal “income” along the way?
  • Related to the issue above, if someone already has a corporate pension without COLA, how much would he or she have to set aside to supplement this pension and guarantee a certain COLA, say, 2% a year?
  • When interest rates were higher only a few decades ago, how feasible would it have been to create a bond ladder for retirement? Could we have gotten rid of Sequence Risk completely?
  • If I wanted to hedge my first 5-10 years of early retirement against Sequence Risk and at least partially fund my retirement expenses through a CD ladder, how much money would I have to set aside?

So, today I’ll share that spreadsheet and some of my sample calculations and results. I hope you’ll find value in playing around with it, too… Continue reading “A Bond/CD Ladder Toolkit”

Yield Curve Inversion: Eight Reasons Why I’m Not Worried Yet

Update 8/22/2019: The 10Y-2Y spread inverted very briefly during the day on 8/14, but finished the day at +0.01%. Am I worried now? Certainly more worried than in April when I wrote this piece. The ISM-PMI index is around 51 – that’s also weaker but not weak enough to worry; everything above 50 is still called expansionary, only below 45 it’s a serious warning sign. Unemployment claims are still very low, which is a good sign. So, this is still “only” a mixed bag. Consistent with a false alarm a la 1998. But the probability of worse things to come has certainly gone up!

Well, there you have it: The Yield Curve inverted last month. Finally! Starting on March 22 and throughout much of last week, short-term interest rates (e.g., the 3 months bills) yielded slightly more than the bond market bellwether, the 10-year Treasury bond.

YieldCurveInversion Chart06
The 10-year yield dropped below the 3-month yield for a few days in March!

People in finance and economics view this with some concern because history has told us that an inverted yield curve is a pretty reliable recession indicator. And I made this point in my post in February 2018: The yield curve shape, especially the slope between longer-term yields (10 years) and the short end (e.g., 2-year yields) is one of my three favorite macro indicators:

Retire at Market Peak Chart01
From last year’s post: Yield Curve slope (10Y vs. 2Y Treasury bonds) over time. A powerful recession early warning signal (1970-2018)!

Also notice that I usually look at the 10-year vs. 2-year yield rather than 3-month spread and that made a bit of a difference recently, more on a little bit that later. But in any case, since I went on the record about the importance of the yield curve and now got several reader requests to comment on this issue, here’s an update: in a nutshell, I’m not yet worried and here are eight reasons why…

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Passive income through option writing: Part 3

Back in 2016, I wrote a few posts on trading derivatives, especially options, to generate (mostly) passive income:

I’m still running that same strategy but it definitely evolved quite a bit over time. This might be a good time to write a quick update on what I’m doing and what I’ve changed since then. And for everyone who’s wondering what’s the use of this: I’m planning a future post on how selling options may help with Sequence Risk, so this is all very, very relevant even for folks in the FIRE crowd!

So, let’s take a look…

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How can a drop in the stock market possibly be good for investors?

I hope everybody checked out the ChooseFI Roundup episode in early January, where I talked with Jonathan and Brad about the recent stock market volatility. They invited me for a short appearance on their Friday show after reading my piece from two weeks ago. That post was on how the recent stock market volatility will probably not obliterate the FIRE community. One issue that came up is the potential for people on their FIRE path to actually benefit (!) from the drop in the stock market. How can one possibly benefit from a drop in the stock market? It’s certainly not a guarantee. It depends on the personal circumstances and on the nature of the stock market drop! Generally speaking:

  • How permanent or how transitory is the drop in the market? If your portfolio dropped because one of the equity or bond holdings went bankrupt (or you were a victim of the OptionSellers meltdown) then that’s not something to cheer about. It’s about as permanent as it gets. Not good for the investor! But frequently, the market drops without much of a change in fundamentals. Be it a “flash crash” that reverses within a few hours or even minutes or the (likely) overreaction of the stock market drop in December, one could argue that since nothing (or not much) changed in the fundamentals (GDP growth, earnings growth, etc.) the drop may be only temporary and will eventually revert to the mean. Or even during a recession (the definition of weaker fundamentals!) stocks often overreact on the downside and then stage a strong comeback, i.e., return expectations going forward could be higher than long-term average returns. In other words, that paper loss you see now could be at least cushioned by higher returns on your additional savings going forward. And if this admittedly uncertain advantage of higher expected returns is large enough and over time more than offsets the paper loss then we could be looking at a net gain.
  • How far along are you on your path to FIRE? The further along you are the more damage a bear market will cause even if you can expect a bounce in future expected returns from a transitory shock to the market. On the other hand, if you’re just starting out saving for retirement and all you lost is a few hundred or thousand bucks in your 401k/IRA and you still got 10-15 years ahead of you then you might benefit from the drop!

So, in other words, if the loss in your existing portfolio is offset by enough of a rise in future expected returns, then a drop in the stock market can be a net positive. Seems pretty obvious from a qualitative point of view. But quantitatively? How early is early along the FIRE journey? How much of a rise in expected returns do we need to make this work? Even if there isn’t a net benefit, how much of the paper loss is at least cushioned by higher future returns? These are all inherently quantitative questions. This blog post is an attempt to shine some light on the math behind the tradeoffs…

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Will FIRE turn into “Fake Independence Rapidly Evaporating?” Relax! We’re going to be fine, despite the recent stock market volatility!

Happy New Year! Geez, are you all glad that 2018 is over? What a rough fourth quarter! It started quite harmlessly with Suze Orman poking fun at the FIRE movement. Not a big deal, we hit back and even had some fun with it. But the quarter ended with Mr. Market taking our stock portfolio to the woodshed. The S&P500 Total Return Index (dividends reinvested) was down 19.36% at some point (closing value Oct 3 to closing on Dec 24, total return). Not only was the fourth quarter brutal on your stock portfolio, but the FIRE movement has also become the target of continued ridicule. It looks like FIRE critics have come up with some cool and creative new acronyms:

  • FIRE = Foolish Idealist Returns to Employer (MarketWatch)
  • DIRE = Delay Inherit Retire Expire (Financial Samurai)
  • And even I made up one, just for fun, see the title. Just to get everyone’s attention!

But how serious are the gloom and doom predictions? I posted two months ago why I’m not worried yet but that was before the precipitous drop in stocks. Has anything changed now? Readers have asked me that and I have asked myself what the recent equity plunge will do to the FIRE movement. So, that’s what I will do in today’s post. First, my take on the wild equity market moves and then why I think that this is obviously not the end of the FIRE movement. Continue reading “Will FIRE turn into “Fake Independence Rapidly Evaporating?” Relax! We’re going to be fine, despite the recent stock market volatility!”

The OptionSellers.com debacle: How to blow up your portfolio in five easy steps

Right around the time when I wrote my options selling update a few weeks ago was when everyone in the option seller circles talked about the blowup of OptionSellers.com. Option Sellers, LLC was a Tampa, Florida based Registered Investment Adviser and CTA (Commodity Trading Adviser). They managed money for 290 clients. Considering the minimum investment was $250,000 and most investors likely had more money with them, I’d surmise that they were managing around $150m. On November 15, 2018, they informed their investors that not only was all their money lost but that clients would likely owe more money. Wow, let that sink in: they had a loss of more than 100% and clients are left with debts they have to cover now! Bad news for the clients who invested all their money with OptionSellers!

A failure of a small obscure adviser probably would have stayed under the radar but the co-founder published a tearful apology video, confessing that all customer accounts were wiped out “by a rogue wave.” The movie was since taken down – probably the lawyers didn’t like the idea of this kind of mea culpa so much – but it’s still available on YouTube. The story went viral (or at least as viral as something as obscure as options trading can go) and was then picked up even by the national news media, including the Wall Street Journal, CNBC and many others.

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Should have prayed before blowing up $150m! James Cordier in his apology video, via Youtube.

Quite intriguingly, their strategy imploded over the span of just a few trading days. And just to be sure, this wasn’t fraud a la Bernie Madoff but investors actually lost their money “fair and square” if there is such a thing. Is this something all option sellers should worry about? Yes, if you are as reckless as Option Sellers. If you had bothered to check what these clowns were doing it was clear that this debacle was all but unavoidable. Let’s take a look at what they did and the five obvious mistakes that lead to the meltdown…

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Trading like an Escape Artist: How I made money in October trading S&P Futures Options with 2x leverage

October was a scary month for stocks: the worst monthly S&P 500 return in seven years! And November is off to a volatile start as well! We haven’t even seen a real correction yet but apparently, the drop was bad enough for me to got inquiries from friends and former colleagues asking how I’m doing with our portfolio and if (and when?) I’m going to come back to the office again! Sorry, not anytime soon! As I detailed in the post two weeks ago, we are not too concerned about one month of bad returns early in retirement.

Some friends and readers of this blog were specifically concerned that my options trading strategy might have been hit badly by the wild swings. After all, I’m doing this with a little bit more than 2x leverage and with the market down about 7% does that mean we lost more than 14%? Of course not! To all the rubbernecks out there who suspect we had a bad car wreck in our portfolio last month, I’m happy to report that we actually made a small profit with this strategy in October! And continued to do so in November! How awesome is that!? Well, there were a few close calls but I was able to escape any major damage. It took some Houdini Skills (or luck???), hence the title image of escape artist Harry Houdini (Picture Credit: Lomography).

Let’s take a look at the details…

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Did Suze Orman just pour cold water on the FIRE movement?

Unless your internet was out or you’ve been living under a rock for a few weeks you must have heard about the earthquake created by the Suze Orman interview on Paula Pant’s Afford Anything podcast. Lots of people have weighed in already. I participated in a few discussions here and there on Twitter and on other blogs but I also have a few things to say that can’t be distilled into a short tweet or blog comment. So here’s a short blog post with my thoughts.

Well, you can’t blame her for beating around the bush; Suze started the podcast proclaiming that she hates the FIRE movement. And the reaction in our community was swift. And brutal! Suze Orman was called a buffoon and worse names. She just doesn’t get what we are all about in the FIRE movement! OK, let’s congratulate ourselves on what the royal smackdown we gave the Matriarch of Money… Are we done patting ourselves on the back? Great, so let’s face reality again. Sorry to tell you all, but we merely convinced the folks who need no more convincing, i.e., other members in the FIRE community. And I have the concern that, wait for it…

…to a neutral observer, Suze Orman won the argument!

That’s because she got the headlines in the popular media after the interview; Business InsiderMarket Watch and Time/Money Magazine. Watch the YahooFinance video of Suze and the journalists making fun of us!

Business Insider headline
Headline from Business Insider, 10/8/2018.

The average reader/viewer who’s never heard about the FIRE movement walks away with the impression that the great money expert Suze Orman just schooled a bunch of uneducated financial clowns. Sadly, people might get the false impression that early retirement requires such an insurmountable large pile of cash that it’s not even worth trying to pursue FIRE. I’m not saying that this is true because nothing could be farther from the truth but it might be the perception to a lot of people unfamiliar with FIRE. To me, it sounded like Suze wanted to ruffle some feathers and that’s why she approached Paula and volunteered to go on the podcast! Did she use us to get herself into the spotlight and sell her strange “work until you’re 70” narrative again?

So, we got a lot of work ahead of us dealing with the Suzes of the world! Notice I’m using the plural here. Most of us are probably not famous enough to talk to Suze in person. But we are still going to encounter a lot Suze lookalikes in our lives; relatives, friends, neighbors, colleagues etc. who have an equally unrealistic and bombastic “you need at least a gazillion dollars to retire early” mentality. Here are a few suggestions on how to discuss FIRE when encountering a skeptic like Suze…

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