February 24, 2015

OUR REPUBLICAN PRESIDENT:

White House Is Not Fond of Backdoor Retirement Payments (Matt Levine, 2/23/15, Money)

The way that a lot of retirement investing advice goes is that you go to your broker and ask him what you should invest in, and he says, "Oh Fund XYZ is great, put all your money in Fund XYZ," and the reason he does that is not that he loves Fund XYZ in his heart of hearts, but rather that Fund XYZ writes him a big check for steering you its way. I'm sorry, but that is the way it works. I mean maybe he also loves it in his heart of hearts, but that is not observable; the check is. As is Fund XYZ's subsequent underperformance versus its benchmark. 

A lot of people think that that is a bad system, and how could you blame them really? When I put it like that it just sounds terrible. U.S President Barack Obama's administration, in particular, seems not to like this system, and today the White House released this fact sheet ("Middle Class Economics: Strengthening Retirement Security by Cracking Down on Backdoor Payments and Hidden Fees"), and this report from the Council of Economic Advisers ("The Effects of Conflicted Investment Advice on Retirement Savings"), explaining how bad some retirement advising is. [...]

[W]e do have the Council of Economic Advisers report, and it is pretty interesting! The main conclusion is that "conflicted investment advice" costs Americans about $17 billion a year. 

The math here is:

There's about $1.7 trillion in individual retirement accounts invested in funds that pay brokers to recommend them.

The people who invest in those funds could improve their performance by about 1 percentage point a year by switching to other funds that don't pay brokers. [...]

 It would be weird if the White House put out a fact sheet called "Strengthening Retirement Security by Cracking Down on Active Investing." And obviously that's not quite what it's going for with this paper. But it's close. The world view underlying this report seems to be that a lot of what the financial industry does is extract unproductive fees for itself from ignorant consumers, and that you can crack down on the fees -- and save consumers money -- without reducing the incentives for any socially productive activity. This, it goes without saying, is a hugely popular theory. I feel like it is generically wrong, but there may be many, many places where it is specifically correct.

In my more dictatorial moods I think people should get to choose one of two options for their retirement investing:

You can invest only in a list of pre-approved, low-cost, fee-capped, diversified, probably mostly passive portfolios run by reputable managers, and if you lose money everyone will nod sympathetically and tell you it's not your fault.

You can sign the omnibus liability waiver and invest in whatever you want, just go nuts, but if you lose all your money it's a felony to complain.

But that is not the system we have now. It's almost the reverse: The people with the least money and expertise, who really want and ought to have simple low-cost generic retirement savings, are at high risk of being steered into weird expensive stuff. It seems reasonable enough to try to nudge them back toward simplicity.

The transition to a Third Way entitlement system requires that the citizenry maximize the return on investment.  Things like personal SS and HSAs will only allow the former, at least until you have enough saved to afford losing all of the rest you put in..

Posted by at February 24, 2015 6:50 PM
  

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