Jason interviews Paul Merriman about investing in retirement.

Paul Merriman is a nationally recognized authority on mutual funds, index investing, asset allocation and both buy-and-hold and active management strategies. Now retired from Merriman, the Seattle-based investment advisory firm he founded in 1983, he is dedicated to educating investors, young and old, through weekly articles at Marketwatch.com, and via free eBooks, podcasts, articles, recommendations for mutual funds, ETFs, 401(k) plans and more.

To learn more visit his website at, paulmerriman.com

Below is the full transcript:


Announcer: Welcome back America to Sound Retirement Radio where we bring you concepts, ideas and strategies designed to help you achieve clarity, confidence and freedom as you prepare for and transition through retirement. Now, here is your host, Jason Parker.

Jason: America, welcome back to another round of Sound Retirement Radio. I am so glad to have you tune in this morning. We’ve got a really special episode lined up for you. But before we get started, as you know, I like to get the morning started right two ways. The first one is by renewing our mind. And I’ve got a great verse here for us. This comes from first Thessalonian’s 5, 14 and 15: And we urge you brothers and sisters, warn those who are idle and disruptive.  Encourage the disheartened, help the weak, be patient with everyone. Make sure that nobody pays back wrong for wrong, but always strive to do what is good for each other and for everyone else.

 All right. And then, as you know, in case you’re going to see the grandkids this weekend, we’ve got a joke that we want to share with you: “How do pickles celebrate their birthdays? They relish the moment.  Amelia couldn’t be here this morning, but … okay so you’re listening to the episode 168, this title is called Sound Investing with Paul Merriman.  Paul is somebody that I met several years ago, and I’m excited to have him on the program.

 Paul Merriman, welcome to Sound Retirement Radio.

Paul: Jason, it’s great to be here, thanks for the invite.

Jason: I’m excited to have you. So, I want to give our listeners a little bit of background and then provide a proper bio. But it’s probably 10 years, well of course you used to have a radio show here in the Seattle are that I listen to. And you were doing a workshop over in Silverdale, and so I had asked you if I could attend your workshop, and you said yes of course that was fine. So, you definitely influenced my thinking, regarding investing and retirement, so I’m excited to have you on the program today, so thanks. And you just happen to be right here in the sunny northwest with me, so appreciate it.

Paul: Well, it’s great when I find out that my education is changing lives, and there’s nothing better than changing the life of somebody who is also teaching, so thank you.

Jason: Yeah and I’ve got a story I’ll share with you in just a minute about how you’ve influence my family too. Okay, so a little bit of a bio for our listeners that don’t know a whole lot about the work that you do, or that you’ve retired from, but you keep teaching. So, Paul Merriman is a nationally recognized authority on mutual funds, index investing, asset allocation and both buy and hold and active management strategies. Now retired from Merriman, the Seattle based investment advisory firm he founded in 1983. He is dedicated to educating investors, young and old, through weekly articles at marketwatch.com, and via free EBooks, podcasts, articles, and recommendations for mutual funds, ETFs, 401k plans and more at his website. And Paul, the best website for people to learn about you, is that Paulmerriman.com?

Paul: Exactly.

Jason: Awesome. So just a quick story.  I was actually talking to one of our listeners and he said, “Yeah, I’ve really been enjoying listening to Paul Merriman’s podcast.” And I thought, jeez, Paul Merriman, he retired, he’s not still working is he? Then I find out you’ve still got a podcast going. So, what the world? Tell our listeners a little bit about … maybe expand on your background a little bit about the previous experience with your investment advisory firm, and now what you’re doing in retirement.

Paul: Well I’m doing now Jason what I did when I built my practice. I actually … and I think you’re doing a lot of the same. I had classes free to the public, three hours and six hours, you had to take a choice of how long, you know that was a long time for people to sit and listen, but that’s what I did. And I taught them how to do everything on their own. They didn’t have to hire me as their adviser. And that’s how I built the practice, because it turns out, just as I have not been able to stay on a diet at any point in my life, a lot of investors are not able to do this on their own and I was always there to help them if that’s what they wanted. And the nice thing is, when you educate people and they know what you believe, when they hire you, then they know what’s going to happen.

 So many people in this business kind of work out of a black box, and I feel just the opposite. I want everything disclosed.

Jason: Awesome. And so you-

Paul: So now here I am by the way, I’m sorry. But then when I retired, what I really loved about the business was the educational end of it, and so it was just so easy to say okay, no more clients, no more investment advice, just pure education. So it’s just a natural. My wife really did think I was going to retire, but I have never worked harder.

Jason: I think it’s great, I think it’s great that you’ve retired from the investment advisory world, but you enjoy the topic so much that you keep teaching. And so, that podcast for our listeners out there and for those driving down the road in Seattle this morning, is Sound Investing, you can find them on iTunes and many other popular podcast players.

 So Paul, you may not know this about Sound Retirement Radio, but our focus, our emphasis is all helping people have more confidence as they prepare to transition into retirement. So, I would say most of the people that are listening to this show are within a couple of years of retirement or they’re just getting ready to retire, or they’ve recently retired. So, that’s kind of the audience that we’re speaking to.

 I wanted to ask you specifically about investing, because that’s really been I think what you’re best known for. And in the world that we live in today, where some people would argue that stock prices are high, and interest rates are rising up on bonds, can people still have confidence in investment strategy as they’re preparing to make this transition into retirement?

Paul: I’m not sure they do. I think this is one of the interesting challenges for folks, is they can go along, and go along, and feel a sense of confidence. And then when the market starts to decline, particularly when people are close to or in retirement, it is very easy to get a sense of a lack of confidence. I think your idea of trying to create this peace of mind with your education, that’s what they need, because they need to be able to stay the course.  I can share three political stories. One about Clinton, one about Obama and one about Trump. And the stories were, I had lots of clients who when they found out their enemy was elected, they wanted to sell everything. And the minute, the minute that our emotions take over the decision making process, I think we’re finished as an investor, and more likely to lose than to receive that premium that we know that investing gives.

 But the key is Jason I think, to make sure, and I believe you do the very thing that I believe in, and that is make sure the client has enough fixed income in their portfolio that when the market does go down, because I guarantee it will, that they are positioned to accept the trauma and they limit the trauma on the downside. I think that’s absolutely an essential.

Jason: I’m glad you transition into fixed income here, because this is one of the biggest takeaways when I attended the class you taught all those years ago. I remember you talking about fixed income and talking about duration and high quality, and specifically government bonds. So will you talk to our listeners a little bit about having this fixed income position in a portfolio.

Paul: Sure. You know it’s not about trying to make a lot of money with the bond portion. Really what you’re trying to do, as far as I’m concerned, is you’re trying to stabilize the portfolio so that you have the stomach for that growth part of the portfolio. And the beauty of government bonds, compared to corporates, and particularly high grade corporates, because high yield corporates are a whole other animal themselves, but the government bonds under times of great stress, for example 2008 and 2009, while the stock market was collapsing where were people rushing? They were rushing to government instruments.

 Now there are short-term bonds, and intermediate and long term. I … and by the way when I say I, everything I know comes out of the academic community. I have not created anything original in what I know. But what I do and recommend, is people focus more on the intermediate term bonds, because believe it or not, they’ve made more money at less risk over the long term than the long term government bonds. Which you would think, because they’re more risky they would make more, not true, the intermediates are more defensive, don’t go down as much when interest rates go up, and they’ve made a better return. So that’s the focus that I tend to lean toward in terms of recommending bonds for stability.

Jason: Now, and what about though this environment that we’re in today, where we’ve seen interest rates declining for 30 years, and you hear guys like Bill Gross coming out saying that the bond bubble has burst, or the party for bonds is over, and this new rising interest rate environment that we’re in. Should people, in this rising interest rate environment, still assume or can they expect that bonds will provide the same question for them going forward as they have in the past?

Paul: Well, you’re getting into a market timing question I think Jason, and that’s always a danger. Because there’s always a reason why you shouldn’t be in stocks, there’s always a reason why you probably shouldn’t be in bonds. And so, I’m trying to figure out what can you do as an investor that you don’t have to become a market timer. And I would welcome anybody to look … there’s a page called fine tuning your asset allocation, on my website. What I think people would be interested in, is to look at the returns of intermediate bonds from 1970 through 2017, and guess what, during that period of time, there were some periods of interest rates were skyrocketing, but the intermediates, they fell sometimes, but not much, and then of course they also were able to take advantage of the markets when interest rates came back down.

 So, it gives you a better coupon, more interest being paid, and the defense of having a shorter term maturity, so that as interest rates go up, you’re selling the old and you’re buying the new, and taking advantage of the higher interest rate. But one year at a time you can see how those bonds did going back to 1970.

Jason: And the challenge of course is on the distribution side, because a lot of people that are heading into retirement are looking to start pulling money out of their accounts. I was looking at a popular mutual fund that Vanguard puts out now, a popular bond mutual fund. And you know one of the reasons so many people like Vanguard is because of the low fees. But still, it’s just to focus on this fixed income side. If you’re getting let’s just say a yield of 3%, but the fund has a duration of 6%, and interest rates are rising, do you still think that makes a lot of sense to have that kind of a risk profile, or is that duration too long for a mutual fund holding for bonds?

Paul: You know, this is that same problem with trying to figure out how you respond to the events of the day, and how that impacts your portfolio. No I don’t like the fact that they’re probably going to go down some as those interest rates go up, but the other side of the coin is, I’m always surprised how many people are scared to death of bonds, while they’re sitting on 80% of their portfolio in the stock market, where the losses on the downside are not 5% to 10%, but 40% to 60%. And so, I really think that they have to take a stand on how much risk we’re willing to take with our portfolio.

 I’m looking over very long periods of time, and let’s face it, I’m almost 75, and I’m on the down side of life. If I get another 15 years that’s a bonus. And so, should I be investing on a 40 year basis? No, that’s how I do it, I’m invested in terms of the bonds that I hold, whether I’m 75 or 55 or 45, because the stock portion is balanced, and in my case Jason, I’m 50/50 stocks and bonds. So, I have a contract with myself in a sense, and my wife agrees with this, we know that we are positioned with that 50/50 strategy to possibly lose 25% in a catastrophic market. That’s a lot for a retiree. Okay, so if that’s too much, what about looking at 40% equity. If that’s too much, look at 30% equity. There’s been a fine long term return with 30% equity, but maybe that’s the combination that you can emotionally stand. Because those who don’t stand when the next stuff hits the fan, boy I tell you, people run for the exits at the very worst time. So, every portfolio should be built for that individuals need for return and risk tolerance.

Jason: Yeah, I love that. And you’re right, because we don’t want them to make the biggest mistake, which is the biggest mistake is running for the hills and making an emotional decision. But you talked about stocks there, so that’s kind of the other side of this equation. You hear guys like Robert Shiller, who talks about the cyclically adjusted price to earnings ratio, and how stocks especially in the United States are trading at some valuations that seem really high historically. Should we assume that the return assumptions on stocks are going to continue, like what they’ve done historically based on these really high valuations?

Paul: Well no, we don’t know what they’re going to be. I know that from 1975 to 1999, the S&P 500 compounded at over 17% a year, that made Jack Bogle a hero, that made him a genius. No he wasn’t a genius, he happened to be there when it happened. Because if he started that mutual fund in the year 2000, it would have compounded at 5.4%.  But that’s the nature of markets. And the problem is, is that there’s so much luck involved in this, because there are times when these markets stay over valued for long periods of time, and what are you doing while they are overvalued and they’re going up, your rebalancing. You’re taking money out of your equities at excess return, and you’re putting it in the fixed income because your risk tolerance is not 70% or 80% equity, you want to stick in and around that 50/50, if that is your limit.

 So I stay the course, because I think the minute that people start responding to list A the good news, or list B, the bad news, because they both exist at all times, that they get into a market timing mode. And from what I know about the past, more people are harmed than are helped by starting to outthink the market. Get the right asset allocation on day one, knowing that the first year that you have that portfolio could be the worst year of the rest of your life. You can’t know, you never know.

Jason: Folks, you’re listening to episode 168. Again, if you’re driving down the road this morning in Seattle, remember that we archive all these programs for you at soundretirementradio.com, soundretirementplanning.com.

 It’s my good fortune to have Paul Merriman on the program, and he’s somebody right here in the northwest that I’ve learned from over the years. I’m really honored to be able to bring him on the program today, to talk about investing in retirement. His podcast is sound investing. You can find more of his work, he has a lot of tables and great downloads at PaulMerriman.com.

 I wanted to ask you, you know one of the things we’ve heard Warren Buffett say, is that he’s a big fan of the S&P 500 index fund. I think the way the article went was, he had said that if he were to die, he told his wife just to put everything in the S&P 500 index fund. Do you think that’s good advice for the average retiree?

Paul: No. I don’t. I think if we look at the history of the market, you would find that that’s not enough diversification. You have to remember, and there’s some new wonderful, wonderful … I don’t know if you’ve read the Bessembinder study, but Bessembinder shows that the more diversification we get, not only do we tend to be less risky in terms of our portfolio, but the return is likely to go up. And you’ll have periods with any asset class where the returns just don’t live up to people’s expectations, but a more broadly diversified portfolio has historically kind of come to the support of the struggler. Now let me give you a great example, because it is the very S&P 500 that Warren Buffett is so favorably, going to leave his wife this money, and that’s where he wants her to have it. By the way, she’s going to be a very wealthy lady. And the other 10% is in T bills, and she’ll probably live off of the T bills, and the returns she’ll get from the S&P 500 will be fine. It will not be a catastrophic event.

 But what about the people who watch the S&P 500 going through the end of the nineties, in particular the last five years of the nineties, the compound rate of return of the S&P 500 was 28+ percent. People who were surveyed at that time, believed that over the next decade it would compound somewhere between 20% and 30%. That is what the human body does to us, that helps us make a lot of really bad conclusions. The next decade, and we always know about the past what happens. So, there’s no risk in the past, so when I tell this story, it’s not like I knew about it beforehand. But what happened was the S&P 500 for the next decade compounds at about a loss of 1% a year including the reinvestment of dividends.

 Now, what if you’re living off of that for 10 years? You just go into retirement in 2000, and you’re living off of that, and the market for 10 years is negative. You have not only gone down 1%, but you’ve been taken out 4% or 5% a year to live on, you’re in deep trouble. Now, for the equity portion only, if you have been diversified between large and small, and value and growth, and U.S. and international, you would have made over 7%. That would have been a lifesaver for those, and it may not seem like a home run to anybody, but when you’re retiring and you’re looking for your equity portion to give you 10%, or 12% or whatever you might be dreaming, 7 is looking pretty good compared to that -1.

 So in the real world, where people haven’t over saved by 100 times what they need, or a 1,000 times what they need, the decision making I think needs to be different. I love the S&P 500. All day I talk to young people, put your money if you want in the S&P 500 for the rest of your life, that is not a terrible decision. But if you want to retire younger, if you want to have more to spend in retirement, if you want to leave more to your family and your favorite charities, add some small capital value, add some asset classes, in fact Warren Buffet is a value investor. I am shocked that he doesn’t say, because he loves Vanguard, put some money in the S&P 500, big companies well known, and put some money in their large cap value, their value index. That has done better than the S&P 500.

Jason: Yeah, sometimes I wonder if when people give advice to large groups of people, they just try to keep it as simple as possible, because they don’t who they’re talking to, or who the audience is.

 Folks, if you’re just tuning in this morning, I want to let you know Paul has agreed for our podcast listeners to continue this conversation this morning beyond what we can make available to our radio listener, so if you’re interested in hearing the entire conversation, visit soundretirementplanning.com, this is episode 168.

 We’re gonna dive deep.  I’ve got some additional questions for Paul in sequence of return, how often to rebalance, does diversification still work in the new economy. So if we can’t get all this during the radio, please continue with us on the podcast.

 Paul, I wanted to ask you next about diversification. So what does that mean to you, when somebody says be diversified, what does that mean?

Paul: Well, let me tell you what it meant when I was a broker for three years back in the sixties. We were taught that if you have 10, 15, 20 stocks, that’s a well-diversified portfolio. Then, and that was Wall Street’s attitude, then the academics came along, the people who truly changed the thinking about investing. It didn’t come from Wall Street, it came from the academic community, and they started saying that you need at least 100 stocks in any asset class to be properly diversified. Well now wait a minute, what if I want to have big and small, and value and growth, and U.S. and international, all of a sudden let’s say I’ve got 10 different asset classes, and I have to own 100 of each. Well in fact, in some of those asset classes like small cap international value, if you had that in your portfolio, you’d want more than 100, and Dr. Bessembinder says again, massive diversification is the right answer.

 When I read this, this bowled me over, it was probably one of the most highs of my whole career.

Jason: Paul, hold on, we’re going to come back to this for the podcast, but for our radio listeners, we have to be finished for today. So thank you for being a guest, we’ll be right back.

Announcer: Information and opinions expressed here are believed to be accurate and complete, for general information only, and should not be construed as specific tax, legal or financial advice for any individual, and does not constitute a solicitation for any securities or insurance products. Please consult with your financial professional before taking action on anything discussed in this program. Parker Financial, it’s representatives or its affiliates have no liability for investment decisions or other actions taken or made by you based on the information provided in this program. All insurance related discussions are subject to the claims paying ability of the company. Investing involves risk, Jason Parker is the president of Parker Financial, an independent, fee-based Roth Management firm, located at 9057 Washington Avenue Northwest, Silverdale, Washington. For additional information, call 1-800-514-5046. Or visit us online at soundretirementplanning.com.

Jason: All right, Paul are you still there?

Paul: I am here.

Jason: I’m sorry for that.

Paul: No that’s fine that was a page turner moment.

Jason: I know, 25 minutes goes by so quickly. You were just about to share this aha moment, when you read that study.

Paul: Okay, and this really should be a life changer for a lot of people who are on the fence about the index versus active management decision. They looked at every company that’s been public since 1926, and they did that I think through the end of 2016. And they found out that if you looked at the bottom 96% in terms of performance, 96% out of all of these public companies, the average return for that 96% was less … about the same as T bills, less than 4% compound rate of return.

 Now the other about 4%, a little less than 4%, they were the companies that took the market return up to the, you know, the famous 10% that we know about going back 90 years, 4%. And here’s again, you have to believe when you listen to what the academics are saying here, that you don’t know how to outsmart the market, and they’re not sure that there’s any evidence that other people do either. But that you are more likely if that 10% is your goal, you’re more likely to get that if you own all of the companies. Because the minute you start taking smaller pieces out of that whole universe, the odds are you are not going to get that 10% return, the odds are you’re going to make less. Because remember, out of every 100 companies, there’s four of them or less, that are going to produce admirable returns. Now, that’s hard for a person who likes to stick to individual stocks and always believes that his or her portfolio is gonna do better than the market. The odds are against them doing that.

 Even if we look at the, and I’m sure you’ve seen the SPIVA report, and it shows that over 15 years, less than 10 percent of actively managed mutual funds are able to beat their benchmark. So how can an investor say, “Ooh, I think I can find that one out of 10 that’s going to beat the benchmark.” You can shoot for the rest of your life by just owning those index funds.

Jason: Well let me ask you, so one of things that we experienced in 2008, which obviously was a really bad year, but it seemed like diversification, all asset classes became highly correlated during that period of time, except for like you mentioned the treasuries. So, does diversification still work the way that we would expect it to? Can we think of diversification as a way to reduce volatility over the long haul?

Paul: You see people have I think false expectations for what the market’s likely to do, and the price of securities in a bear market. But I’m talking about a severe 50% loss like we had in 2007 through 2009. What we had in 2000 through 2002, we had 73 and 74. Those are all 50% losses, not so dissimilar from what happened in 29 through 32. So that’s normal. They have those kind of losses. Once in a while, the fact that we had it twice in a decade, that was a new experience, but probabilities say that type of thing is going to happen.

 Now the question then is, will there be asset classes that will do better than others in [inaudible 00:29:14] equity in every bear market. No. In most bear market everything goes down, about 85% of equities, companies, will go down in a bear market. And there’s a rule of investing that they’re not in your portfolio, the ones that go up. So most people are going to lose money and lose it big time, which is why you don’t anticipate a bear market like 2000 through 2002, that really in a way put our company, the Merriman Company on the map. Because here we had people in big and small, and value and growth, et cetera. They did okay at the end of that three year period that was so devastating to people, our equity portfolios did a little worse than break even. And people were oh, here’s somebody who really knows how to invest. No, because we had during the nineties, the late nineties when the S&P 500 was making 28%, I was on the hot seat because we only made 11% a year for our clients, because we had asset classes along with the S&P 500, that didn’t do very well in that time period, but then they did well in the next time period.

 But people should expect in a bear market, just accept the reality almost all equities are going down together, that’s why you got to be serious about how much you have in fixed income.

Jason: Hey, I want to get back to investing, but I have kind of a different question for you here from a retirement planning standpoint. How important would you say it is for somebody that’s getting ready to retire, to really understand how much money they spend, as they make that transition into retirement?

Paul: That’s one of the most important numbers that I’ll ever figure out. Because how can you really know whether you can afford to retire if you don’t know what your cost of living is, and then what level of distribution rate will it take to support that? Because if you’re not careful, if you don’t control your costs and you’re taking out even 5% might be too much. But there’s something like 30% of investors, retired investors, are taking out 7%  or more, unless they don’t have a very long life expectancy, that’s a formula for financial disaster. So, you’ve got to know how much it costs you to live. It amazes me how many people don’t even take into consideration taxes. It amazes me how few people take into consideration that they’re going to have to replace the roof one of these years, and they don’t think that probably they’re going to have some obligation to help their kids, and they don’t build those things into their cost of living.

Jason: Absolutely, amen.

Paul: I think everybody, everybody who is about to retire, should spend some time with a financial planner. I don’t care if it’s an hourly financial planner that you’re going to work with for five hours and that’s it. But somebody needs to look at the decisions you’re making and see if they really make any sense. And of course, I’m real sensitive about who that kind of person is that is giving you that advice. One, I want them to be competent, two, I want them to be ethical, and I want them to be fiduciaries where they have a liability, if they don’t put your interest first.

Jason: That’s great, that’s great. And the reason I ask you that question, you probably don’t know this, but last year we created some software, because a lot of the people that listen to the show, the podcast, they’re do-it-yourself investors. They’re not looking to form a relationship with an adviser. But the software that we created, it’s called retirementbudgetcalculator.com. And like you, I think it’s the most important number, we have to understand your spending, and so we created a standalone tool for kind of that do-it-yourselfer, to really be able to dial in they’re spending, and make sure they understand that component. So thank you for just kind of validating what I’m trying to teach people all the time, you got to understand it.

 I want to get back to investing.

Paul: Can I ask you a question? That really opens me to a question in terms of, because you must have looked at a lot of them before you put yours together. What kind of problems do other retirement calculators have, if we’ve got the time to talk about that. Because I think that would be very interesting to your listeners.

Jason: Well, there’s a couple things. First of all, if you look at Vanguard’s spending calculator, it’s just this very simplistic look at monthly expenses. So, here’s some of the highlights from our calculator: 1. We make it completely customized. We give people all the categories that they need to be thinking about, but they can delete categories, they can add their own in, so it’s completely customizable to them. 2. We allow them to start and stop expenses. So for example, heading into retirement, if you have a mortgage but that mortgage is going to be paid off in five years, you can see how your spending is going to change over time. The next one is inflation. So, a lot of people they don’t think of their spending as being the effects of inflation. So what we’ve done, is we allow people to add a separate inflation factor to each one of their expenses. So again, a mortgage has no inflation except for their property taxes and insurance, and maybe medical costs are going to go up at a rate greater than inflation.

 We give people a calendar view of expenses. So spending in retirement is not smooth. You may have higher expenses in June than you do in January. And so, we just wanted to help people really dial in this spending piece, so they really understand their expenses. And that’s what the retirement budget calculator is designed to do. We took a very complicated spreadsheet that was 5 megabytes and had these if then else statements that were huge, and we made it into a software as a service. It’s all online, it’s database driven, where people can save it, and their information is private, and they don’t have to worry about, you know, if they don’t want to work with a financial advisor, it has nothing to do with our firm. I mean, this is just a standalone tool that we created to help people. So, I’m excited out it, and the response so far has been very positive.

Paul: I’m going to mention it in our newsletter, and I’m going to ask our listeners and our readers to try it and then get back to me and tell me what they think, and then I’ll get back to you and I’ll tell you what they think.  I think that’s a great project, it’s a great service, and thank you, that marvelous, I look forward to seeing it.

Jason: Oh great, thanks. So I wanted to ask about rebalancing, because that’s something that you mentioned earlier. How often should people think about rebalancing a portfolio? Should they look at it monthly, quarterly, annually, and then what are the drivers? Do they wait till … how far out of balance do they let the portfolio get before they rebalance?

Paul: Well, for different kinds of investors, there probably would be different kinds of answers. But typically, for the do-it-yourselfer, I’m a once a year kind of guy, just to keep it simple. That particularly becomes important if it’s a taxable account and you want to make sure any gains are long term.

 What happens, is the longer you wait to rebalance, the higher your return is likely to be over the long term because that means the equities are going to probably run longer before you punish them by taking part of those equities and putting it into fixed income. And the market as you know Jason, it does trend, there are these trends, small cap can do well for some years, and large cap is like in the late nineties, the large cap land was powerful, small cap value was not. So, if you rebalance too often, you continually pull from the good stuff and give to the … I’ll call if the bad stuff, it’s not bad, it’s just been doing worse than the really good stuff.

 So there are people, young people, I tell them every 18 months to two years is probably adequate. In fact, I even tell some young people who are going to diversify among big and small, even if it’s all U.S., big, small, value, growth, et cetera, that they could invest for the rest of their life, and never rebalance. But it would be a riskier portfolio. So, somebody in retirement certainly I would not be suggesting they wait for two years or never. I would think once a year should be adequate, but almost every financial planner, and I’m sure you’re in this arena as well, have some pretty sophisticated formulas as to how far the market can get out of sync, before you’re going to go in there and you’re going to tweak it. I don’t think that will necessarily make you more money, even if studies show the last 10 years it would have, you got to look at a lot of 10 year periods to know whether a particular system is really good or not.

 And you don’t know how the next 10 years or next 20 years is going to reward clients in terms of how often you rebalance, but it should be something that people are tax wise comfortable with, and risk wise comfortable with, and for do it yourselfers, will they even do it. Because a lot of people, it’s so complicated they can’t do it. I wish you would develop a piece of software for the public, that would help them look at all of their investments throughout their portfolio, and be able to say I want to rebalance once to a 60/40 and have your software figure out what they should do through all of those IRAs, and Roth IRAs, and 401ks, et cetera. That would be a game changer for a lot of people.

Jason: That’s cool. When it comes to sequence and return risk, because I want to ask you about this, and we’ve kind of hit on it, in terms of not trying to time the market, you’ve really been strong about that, but what are your thoughts, and again getting back to this idea that stocks seem expensive, interest rates are rising, and people want to retire today Paul. If they’re pulling money out of that portfolio the first year, and we see the market with one of these catastrophic losses, what are your thoughts on the best way to try to reduce some of that sequence of return risk, or how can they mitigate that?

Paul: Well, it’s all about defense.  I’m a firm believer that the secret to long term successful investing, is to focus on defense. Obviously, the defense means not having all your money in one stock, and some people do when they get to retirement, but have many stocks, many equity asset classes, that’s more defense. Expenses low, that’s a defense. Turnover low, that’s defense. And then you need to look at having fixed income in the portfolio, because that is just another kind of defense.

 Now, we get to the question of how much you’re going to take out of your portfolio. I’ve got a series of tables, and I love tables as you probably know, that are all about distributions. I’ve got dozens of them, and they show distributions at 3% a year, 4% a year, 5 and 6. I show them fixed, adjusted for inflation. I show them a variable based on the change in the value of the portfolio. If you see where people even walking right into 73, 74, because my tables go back to 1970. The reason they go back to 1970, is because you start out behind, you run right into people trying to take your money, rather than trying to make you money, and what you’ll see is, if you put all of those defensive strategies to work, that you made it through 73 and 74, and you were there when the market came back. If you had all your money in the S&P 500 as an example, you did not come out of that period looking good. In fact, more than likely, depending on how much money you take out, your gonna run out of money before you run out of life.

 So I think it’s oh so important for people to look at those tables, and say what if … and you don’t have to go back to 1970, if you want to start the tables in 1990, you can do that if you don’t have a long life expectancy, and see kind of what the market did do you. The problem, and you know it too Jason, is the future is not going to look like the past, not in terms of will it be up and down of course, will be up sometimes 30, and sometimes down 30, of course. It’s that sequence that we don’t know. And we have a five year bear market that every year the market goes down 20%, well I don’t know that there is a strategy out there that is going to save somebody who has to have a certain amount of money to take out of the portfolio.

 My wife and I, we over saved.  I worked longer than I had to, because I wanted to be able to retire and be able to take out more than I would had I retired when I had just enough. That’s a huge luxury, because it means you can, number one, take out more, and you have room to be hit by a bad bear market. And I mentioned earlier, we’re 50/50 stocks and bonds, so I’ve got the bonds for defense, and of course the diversified equity portfolio for defense. They held up just fine, not only in 73 and 74, and 2000 and 2002, but also the 2007 through 2009 bear market. It puts a lot of layers of defense.

Jason: Paul, I just love this conversation, and I love the vibrancy and energy that you bring to the conversation. It just gets me excited to talk with you about this. I have two last questions I want to finish with today, and they’re really more personal. The first one is, if you be willing to share any mistakes that you’ve made with money, I think we’ve all made our fair share of mistakes. But if you could think of maybe just one that comes to mind, what was your biggest personal mistake with money?

Paul: You know, at some level, it was about my education. Because I, like a lot of young people, I was taught again, remember 10, 15 or 20 stocks is diversification? So I made all of the same mistakes that people who thought that that’s all you needed. I made the mistake of doing more speculating than investing. And speculating is more short-term in terms of the commitment. Remember Warren Buffet is not a speculator, he’s an investor. He may have companies that don’t make it, but he didn’t buy them to make money on a short-term basis. I also think I lacked patience, and that’s pretty common. I’m working on an article right now, of how do you know that you’re on track? I’ve got a wonderful table, a whole series of tables about you start with a thousand dollars in 1970, and you add a thousand, then you up the thousand by inflation, you do that for 48 years I think. And what you see is, you can end up with millions of dollars, just with a thousand dollars a year, that’s the good news. The bad news is, it doesn’t feel like that, even though you’re doing all the right things for maybe 10 or 20 years.

 You can’t say how could that possibly become worth a million, or a million and a half, or two million dollars. That patience is hard to come by. I’m speaking to seniors at Western, I’ve got a class I sponsor at Western in [inaudible 00:46:00], and I hope 200 seniors are coming out to talk about their money after they graduate. And the biggest challenge they’re going to have, is the noise. The noise from within, and the noise from without.

 And a book that I recommend to all these young people, of course Mutual Funds for Dummies I think is worth a read. But secondly, I think they should read Your Money And Your Brain, by Jason [inaudible 00:46:29], to understand the psychological challenges of investing. Investing has never been easier than it is right now. We have products [inaudible 00:46:39] funds, ETFs, you can do things with money now, to literally invest like a multimillionaire, with the first dollars you invest. That part is now very simple. But it’s not easy, because too many people don’t want you to do it that way, they want you to do it their way, because their way makes them money. And what your listeners and my listeners and readers, it should be about what’s in it for me, and you just need to make sure that what people are trying to sell you, is really for you, and not for them. And if you [inaudible 00:47:21], get educated, take a stand, I think you’ll do just fine.

Jason: Awesome. Here’s my last question, and then I know you’ve got a busy schedule there, but. So you’re made this transition into retirement, and I’m reminded all the time as a firm, I specialize in working with retirees, and unfortunately the downside to that, is people die. So I get to walk that walk with a lot of people. But the neat thing about a podcast, and this work that we’re doing, is that some of the stuff can live even after we’re gone. So I guess my question for you is, what advice would you give for people that are making this transition into retirement to live a good life, in terms of your legacy. Like what’s the most important things you think about in terms of the legacy you hope to leave behind?

Paul: Well, I’ve got a very formal approach to all of that, because when I sold my company back in 2012, I took a piece of that, that I got, and I put it into a foundation, financial education foundation, and it is that foundation that supports the class at Western, it’s that foundation that will support a new project at Western called maybe the Merriman Financial Education Center, I don’t know that. It depends on how big a check that I want to write. But the goal is to have every kid coming through Western, come out of there and know what they need to know. They may not remember it all, just like they won’t remember everything they learned from their parents. But if you do a good job of giving people direction, it’ll come back to them, I’m hoping, at least is the goal. And my IRA, when I die, goes to that foundation. So I have got a real commitment to educating others. And I also have a commitment within my family, everyone, when my grandchild is born, I make a donation. I mean I give some money, a gift, to that grandchild. And they have 30 days to spend it, and not one of them have gone out shopping with that money after I put it on the table.

 They have 30 days, and at the end of 30 days, that money goes in to a crummy trust, which somebody else has to be the trustee, I can’t be the trustee, and then that money is there and they can’t touch it for 65 years.

Jason: Wow.

Paul: Then when they reach 65, they take out 5% a year. And when they die, they leave what’s left over to the charity, and they get to pick the charity, it’ll have to be a 501c3, but I have in my Live It Up Without Outliving Your Money, the last chapter, is entitled my 500 year plan.

Jason: I like it.

Paul: My wife said, “Why didn’t you go to a thousand?” And she laughs at me, because she things it’s so silly. And I say, “Well, I don’t think people would believe a thousand.” And I thought, well maybe they might believe 500. But you know something, every one of us can do that. At Vanguard, you can set up basically a donor, you can put 10,000, I don’t know what their minimum is, maybe it’s 20, I don’t remember what it is. Let’s say it’s 10 or 25,000, and it can be set up that every year, I guess for eternity, whatever that is, they pay out 4% to let’s say 1% each, to five different important charities of your choice before you die. And there’s some marvelous stuff that we can do to do more with our money, than just travel and eat in great restaurants. By the way I like that too. But I’d rather travel and go make a presentation, than go see the Eiffel Tower. That’s my problem, I love what I do, way too much.

Jason: I guess, that’s awesome. Mr. Paul Merriman, folks again, at sound investing, Paulmerriman.com. You’ve been listening to episode 169. Paul, thank you so much for being a guest. Like I said, I just loved our time together, thank you.

Paul: Thank you Jason.

Jason: All right, take care.