Late-career Americans and those already in retirement rely more on private savings and tax-advantaged retirement accounts than past generations who benefited from greater access to guaranteed pensions, and that means the stakes are incredibly high when it comes to educating the public about the risks associated with retirement income planning.
By following bad advice about the level of spending that is safe or what level of investment returns one should expect during life after work, otherwise well-prepared Americans can see a lifetime of diligent savings evaporate surprisingly quickly. With questions looming about the health of Social Security and the potential for future benefit cuts, it's all too easy to imagine how retirement could turn from a dream to a nightmare for the unwary.
This was the core message shared by a trio of well-known retirement income researchers on a recent episode of the Rational Reminder podcast, hosted by Benjamin Felix and Cameron Passmore at PWL Capital. According to Michael Finke, David Blanchett and Wade Pfau, Americans desperately need greater insight and more support from service providers and financial professionals when it comes to structuring retirement income portfolios and balancing spending, investment returns and the option to buy guaranteed annuities.
Against this backdrop, they said it is equal parts disappointing and frustrating to see popular financial media figures such as Dave Ramsey or Suze Orman misconstrue some of the most important income planning concepts — especially their apparent tendency to focus on arithmetic rather than geometric return assumptions in their broad retirement planning discussions. This may sound like an arcane distinction, they admitted, but the potential negative effect on real investors is profound.
Ramsey has been giving bad retirement spending advice for "like a decade," Finke said, and researchers have been rebutting him for years. But the professor said what fueled the response this time was Ramsey's "aggressive negativity."
In the now-infamous podcast episode, Ramsey recommended an 8% starting withdrawal rate and dismissed researchers touting more conservative guidelines as "supernerds" and "goobers" who "live in their mother's basement with a calculator."
Finke called it "next-level hate on good advice."
Ultimately, the researchers warned, the risk that Americans will follow bad retirement advice is all too real and all too important for professional financial advisors to ignore, especially given the fact that Ramsey himself has sought to discredit their work.
Such advice can not only result in overspending, Blanchett said, but often leads people to overlook the potential to use flexible spending strategies that respond in a smart way to one's actual lived experience in retirement — something the researchers all agreed is incredibly important for "truly safe spending."
What Ramsey Gets Wrong
As the researchers discussed, the appeal of the "Ramsey approach" is its apparent simplicity.
"The idea is that, if you are making 12% returns annually, and if inflation for the last 80 years was 4% on average, that leaves you 8% to spend from the portfolio every year without risking depleting the balance," Pfau explained. "It's so attractive because, apparently, you'll never even have to dip you're your original principal. It sounds wonderful, but unfortunately, this math is wrong."
The problem, as noted, is that Ramsey doesn't appear to grasp the differences between geometric returns (what a person actually earns in an investment) and arithmetic returns (the simple average return seen over time).
"In real life, market volatility and spending from the portfolio reduce the growth rate of assets compared to just a simple calculation of the historical average return," Pfau said. "People also have to pay investment fees, and he also doesn't appreciate how a 100% stock portfolio increases sequence of return risk."
According to the researchers, a retiree who actually listened to Ramsey and followed an 8% withdrawal rule while holding a four-fund stock portfolio in the 2000s, for example, would have run out of money in as little as 13 years.
"To be clear, some investors do get really lucky," Blanchett pointed out. "Some investors retire into a fantastic bull market and their investments go up 10% or 20% per year early in retirement. If that happens, you're in great shape and you can probably spend this much or more. The problem is that it doesn't always happen."
