Reality Check
A QUOTE OFTEN attributed to Mark Twain goes as follows: “It ain't what you don't know that gets you into trouble. It's what you know for sure that just ain't so.”
This certainly applies to personal finance, and it’s why it can be helpful to take a step back sometimes to revisit widely held notions—including these six.
1. Social Security. You may have heard of Social Security’s “earnings test,” which can reduce the size of monthly checks for those who continue working after claiming benefits. It’s often perceived as a penalty, and indeed it can be substantial. Benefits are generally reduced by one dollar for every two dollars earned. For that reason, some people stop working just to avoid having their benefits cut.
What is often overlooked, however, is that the earnings test only reduces a worker’s benefits temporarily, until he or she reaches full retirement age (FRA) of 66 or 67. Once a worker reaches FRA, his or her benefit is increased by an amount that makes up for the earlier cut. Despite its reputation, the test shouldn’t be a disincentive for those who want to continue working after starting Social Security.
2. Portfolio withdrawals. You may be familiar with the 4% rule for taking withdrawals from a portfolio in retirement. This 4% figure came out of research first conducted in 1994 by financial planner William Bengen, and it’s come to be seen as the gold standard for a safe retirement withdrawal rate. But in all his presentations and writings over the years, Bengen has emphasized a key point: that we really shouldn’t be so wedded to 4% that we treat it as a rule.
Bengen notes that, in his own practice, he always used 4.5%, and he argues that a withdrawal rate of 5% or higher might be justified. Yet investors—myself included—always seem to come back to 4%, despite Bengen himself telling us that this isn’t the only answer.
That dissonance, I think, is instructive. It illustrates how easy it is to become anchored to rules of thumb—and why it’s so important to revisit first principles before making big decisions.
3. Bubble worries. Quite frequently, investors will challenge me to explain why a crash like the one we saw in 1929—when the stock market dropped 90%—couldn’t happen again. There are several reasons I believe a crash of that magnitude would be unlikely. At the top of the list: I believe the Federal Reserve would step in and wouldn’t let markets simply plummet.
But there’s another, more basic factor to understand: The crash that started in 1929 didn’t come out of nowhere. It was preceded by a period of excess—the Roaring Twenties—that caused the market to become extremely overvalued. The Dow Jones Industrial Average had risen six-fold in the eight years leading up to the crash. It was clearly in dangerous territory. That’s another reason we shouldn’t view 1929 as the sort of thing that could happen again at any time and with no warning.
4. Market valuation. Those who worry most about today’s market often point to the CAPE ratio, a valuation indicator created by Robert Shiller, an economist at Yale who won the Nobel prize for his work studying market behavior. Given Shiller’s background, many take the CAPE seriously and worry that it’s at an elevated level.
There are reasons, however, this might not be the ominous sign that it appears to be. According to a recent analysis, one of the CAPE’s key strengths is also one of its weaknesses: Shiller’s data set goes back more than 100 years. But since markets change over time, it may not be an apples-to-apples comparison to measure today’s CAPE reading against historical levels.
For example, the profits of today’s market leaders are increasing more quickly than companies in the past. That means they might “grow into” their elevated valuations. There are also more technical, accounting reasons the earnings of companies today may not be directly comparable to profit figures from the past. In short, the CAPE ratio may not be telling us what it appears to be telling us.
5. Stock-picking. You may recognize the name Benjamin Graham. He’s often referred to as the father of investment analysis. And he’s revered, especially by stock-pickers, because he was Warren Buffett’s teacher and mentor.
But that overlooks a key change in Graham’s thinking late in life. In a 1976 interview, this is what he had to say about the usefulness of stock-picking: “I am no longer an advocate of elaborate techniques of security analysis in order to find superior value opportunities. This was a rewarding activity, say, 40 years ago, when our textbook ‘Graham and Dodd’ was first published; but the situation has changed a great deal since then…. I doubt whether in most cases such extensive efforts will generate sufficiently superior selections to justify their cost.”
6. Private funds. In the past, I’ve cited research on private funds, such as private equity and hedge funds. What the data show is that the gap between the best and worst private funds is much wider than the corresponding gap among standard, publicly available funds. In other words, the best private funds are dramatically better than average, and the worst private funds are dramatically worse than average.
Since private funds are capped by law at a relatively small number of investors, it’s very difficult for individual investors—even very wealthy individuals—to access the best funds. Those slots are reserved for the largest endowment funds, because they can write the largest checks. That exclusivity has led to the perception that these elite funds are delivering top-notch returns.
But that may not be the case. Comprehensive data on private funds aren’t available, but a handful of data points suggest that they may not be doing as well as we think they are.
Gregory Zuckerman covers hedge funds for The Wall Street Journal and knows the industry well. In a recent post, Zuckerman provided these figures for 2024: “David Tepper, David Einhorn and Alan Howard are three of the most successful investors of their generation. Their key funds gained 8%, 7.2% and 4.7% last year.” In other words, the S&P 500, which rose 25% in 2024, ran circles around the “best” funds.
Another data point from an insider: Last year, former Harvard president Larry Summers commented on Harvard’s endowment, more than 70% of which is invested in private equity and hedge funds. Despite it having access to the very best funds, Summers argued that Harvard’s endowment has lagged its peers so much that it would be $20 billion larger today if its returns had been just average.
According to more than one analysis, individual investors should actually be grateful that we don’t have access to these exclusive funds. As Mark Twain might have said, the notion that Ivy League schools are enjoying steady market-beating returns “just ain’t so.” Indeed, the data suggest a simple mix of stock and bond index funds has delivered better results than these elite private funds.
Adam M. Grossman is the founder of Mayport, a fixed-fee wealth management firm. Sign up for Adam's Daily Ideas email, follow him on X @AdamMGrossman and check out his earlier articles.
This certainly applies to personal finance, and it’s why it can be helpful to take a step back sometimes to revisit widely held notions—including these six.
1. Social Security. You may have heard of Social Security’s “earnings test,” which can reduce the size of monthly checks for those who continue working after claiming benefits. It’s often perceived as a penalty, and indeed it can be substantial. Benefits are generally reduced by one dollar for every two dollars earned. For that reason, some people stop working just to avoid having their benefits cut.
What is often overlooked, however, is that the earnings test only reduces a worker’s benefits temporarily, until he or she reaches full retirement age (FRA) of 66 or 67. Once a worker reaches FRA, his or her benefit is increased by an amount that makes up for the earlier cut. Despite its reputation, the test shouldn’t be a disincentive for those who want to continue working after starting Social Security.
2. Portfolio withdrawals. You may be familiar with the 4% rule for taking withdrawals from a portfolio in retirement. This 4% figure came out of research first conducted in 1994 by financial planner William Bengen, and it’s come to be seen as the gold standard for a safe retirement withdrawal rate. But in all his presentations and writings over the years, Bengen has emphasized a key point: that we really shouldn’t be so wedded to 4% that we treat it as a rule.
Bengen notes that, in his own practice, he always used 4.5%, and he argues that a withdrawal rate of 5% or higher might be justified. Yet investors—myself included—always seem to come back to 4%, despite Bengen himself telling us that this isn’t the only answer.
That dissonance, I think, is instructive. It illustrates how easy it is to become anchored to rules of thumb—and why it’s so important to revisit first principles before making big decisions.
3. Bubble worries. Quite frequently, investors will challenge me to explain why a crash like the one we saw in 1929—when the stock market dropped 90%—couldn’t happen again. There are several reasons I believe a crash of that magnitude would be unlikely. At the top of the list: I believe the Federal Reserve would step in and wouldn’t let markets simply plummet.
But there’s another, more basic factor to understand: The crash that started in 1929 didn’t come out of nowhere. It was preceded by a period of excess—the Roaring Twenties—that caused the market to become extremely overvalued. The Dow Jones Industrial Average had risen six-fold in the eight years leading up to the crash. It was clearly in dangerous territory. That’s another reason we shouldn’t view 1929 as the sort of thing that could happen again at any time and with no warning.
4. Market valuation. Those who worry most about today’s market often point to the CAPE ratio, a valuation indicator created by Robert Shiller, an economist at Yale who won the Nobel prize for his work studying market behavior. Given Shiller’s background, many take the CAPE seriously and worry that it’s at an elevated level.
There are reasons, however, this might not be the ominous sign that it appears to be. According to a recent analysis, one of the CAPE’s key strengths is also one of its weaknesses: Shiller’s data set goes back more than 100 years. But since markets change over time, it may not be an apples-to-apples comparison to measure today’s CAPE reading against historical levels.
For example, the profits of today’s market leaders are increasing more quickly than companies in the past. That means they might “grow into” their elevated valuations. There are also more technical, accounting reasons the earnings of companies today may not be directly comparable to profit figures from the past. In short, the CAPE ratio may not be telling us what it appears to be telling us.
5. Stock-picking. You may recognize the name Benjamin Graham. He’s often referred to as the father of investment analysis. And he’s revered, especially by stock-pickers, because he was Warren Buffett’s teacher and mentor.
But that overlooks a key change in Graham’s thinking late in life. In a 1976 interview, this is what he had to say about the usefulness of stock-picking: “I am no longer an advocate of elaborate techniques of security analysis in order to find superior value opportunities. This was a rewarding activity, say, 40 years ago, when our textbook ‘Graham and Dodd’ was first published; but the situation has changed a great deal since then…. I doubt whether in most cases such extensive efforts will generate sufficiently superior selections to justify their cost.”
6. Private funds. In the past, I’ve cited research on private funds, such as private equity and hedge funds. What the data show is that the gap between the best and worst private funds is much wider than the corresponding gap among standard, publicly available funds. In other words, the best private funds are dramatically better than average, and the worst private funds are dramatically worse than average.
Since private funds are capped by law at a relatively small number of investors, it’s very difficult for individual investors—even very wealthy individuals—to access the best funds. Those slots are reserved for the largest endowment funds, because they can write the largest checks. That exclusivity has led to the perception that these elite funds are delivering top-notch returns.
But that may not be the case. Comprehensive data on private funds aren’t available, but a handful of data points suggest that they may not be doing as well as we think they are.
Gregory Zuckerman covers hedge funds for The Wall Street Journal and knows the industry well. In a recent post, Zuckerman provided these figures for 2024: “David Tepper, David Einhorn and Alan Howard are three of the most successful investors of their generation. Their key funds gained 8%, 7.2% and 4.7% last year.” In other words, the S&P 500, which rose 25% in 2024, ran circles around the “best” funds.
Another data point from an insider: Last year, former Harvard president Larry Summers commented on Harvard’s endowment, more than 70% of which is invested in private equity and hedge funds. Despite it having access to the very best funds, Summers argued that Harvard’s endowment has lagged its peers so much that it would be $20 billion larger today if its returns had been just average.
According to more than one analysis, individual investors should actually be grateful that we don’t have access to these exclusive funds. As Mark Twain might have said, the notion that Ivy League schools are enjoying steady market-beating returns “just ain’t so.” Indeed, the data suggest a simple mix of stock and bond index funds has delivered better results than these elite private funds.
Adam M. Grossman is the founder of Mayport, a fixed-fee wealth management firm. Sign up for Adam's Daily Ideas email, follow him on X @AdamMGrossman and check out his earlier articles.The post Reality Check appeared first on HumbleDollar.
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