Angelica Montagano

October 29, 2020

Decision Making, Financial Planning, Investor Behavior, Retirement, Safe Withdrawal Rates

Episode 122: Prof. Moshe Milevsky: Solving the Retirement Equation

Angelica Montagano

October 29, 2020

Decision Making, Financial Planning, Investor Behavior, Retirement, Safe Withdrawal Rates

Moshe A. Milevsky has published 15 books (translated into 6 languages) and over sixty peer-reviewed scholarly papers in addition to hundreds of popular articles and blog pieces. In addition to being an award-winning author, he is a fin-tech entrepreneur with a number of U.S. patents and computational innovations in the retirement income space. He was named by Investment Advisor magazine as one of the 35 most influential people in the U.S. financial advisory business during the last 35 years, and he received a lifetime achievement award from the Retirement Income Industry Association.

Moshe A. Milevsky is a finance professor at the Schulich School of Business at York University in Toronto. He is also a member of the graduate faculty in the Department of Mathematics and Statistics and Managing Director of PiLECo.

There are seven equations that, if understood, will put you in the best possible position to tackle your retirement plan. Today we speak with business professor Moshe Milevsky about these equations, which he’s written extensively about in his best-selling book, The 7 Most Important Equations for Your Retirement. After introducing Moshe, we dive straight into the first equation that maps out the longevity of your money. Following this, we talk about determining how long you will live by comparing your biological and chronological ages. Regarding the third equation, Moshe provides his insights into evaluating the usefulness of an annuity plan, and at what age they become relevant to you. We then chat about what annuity plans are offered in Canada versus elsewhere and why people don’t want to buy annuities during a bull market. Despite the popularity of the ‘4% spending rule’ — which we also unpack — Moshe discusses the importance of being adaptable with your retirement spending rates. Reflecting on the key theme of another of his books, we explore the question of whether people are stocks or bonds. Moshe shares some investing advice for younger listeners and touches on what the ideal mix of stocks, bonds, and human capital looks like. For the last equation, we look into the impact of probability frameworks and why financial advisors need to understand the math behind retirement plan probabilities to make meaningful recommendations. Throughout our discussion, Moshe presents coherent answers and pragmatic advice. Tune in and learn more about the equations needed to build the best possible retirement plan.

Key Points From This Episode:

Introducing today’s guest, Professor Moshe Milevsky, and his work. [0:0:15]
Exploring Moshe’s book, The 7 Most Important Equations for Your Retirement. [0:02:57]
Mapping the longevity of your money according to Moshe’s ‘Fibonacci Equation.’ [0:03:25]
Determining how long you will live when planning your retirement funds. [0:04:37]
Understanding the difference between your biological and chronological age. [0:06:22]
A challenge to our retirement system; it’s based on chronological and not biological age. [0:08:45]
Introducing the concept of annuities and how they can be valued. [0:10:03]
Striking a balance with your annuity plan and answering — “How much is too much?” [0:11:42]
Moshe shares his thoughts on how much insurance companies factor in biological age. [0:14:04]
Ideas on using your biological age to your advantage. [0:15:35]
Why you probably shouldn’t even consider getting an annuity until you’re 60. [0:17:16]
Canadian annuity plans versus elsewhere; “The shelf feels empty here.” [0:18:30]
The correlation between being in a bull market and people not wanting annuities. [0:20:35]
Establishing your ideal retirement spending rates — flexibility is important. [0:25:25]
Unpacking the ‘4% rule’ and why it’s a ridiculous spending framework. [0:28:04]
What your mix between stocks, bonds, and human capital should be. [0:31:08]
Answering the question — are humans stocks or are they bonds? [0:33:28]
Leveraging youth to get quicker exposure and equity. [0:36:03]
Life insurance and measuring your financial legacy. [0:39:10]
Details on the life of Andrey Kolmogorov and his effect on understanding probability. [0:40:54]
How important probability frameworks and analysis are to retirement planning. [0:43:17]
The impact of low-cost index funds on retirement income planning. [0:45:18]
Keeping finance students engaged in the industry. [0:47:24]
How Moshe defines success, his other research interests, and reflections on the success of his books. [0:49:53]

Read the Transcript:

What are the most important retirement equations?

The book is called The 7 Most Important Equations for Your Retirement. It was published eight years ago. I am quite happy that this book has done as well as it has and I'm honored that you're asking me to talk about this one book, as opposed to 15 other ones. There are seven equations in the book. The first equation has to do with the longevity of your money. The equation I call it, the Fibonacci equation. It's an equation or a formula that maps how much money you have, how much you're spending, how much you're withdrawing and the rate you're earning on that money. It maps it, or it equates it with a time horizon. How long before you go broke? So if I am retired and I'm pulling out $50,000 a year from my RSP and I have a half a million in the RSP and my RSP is earning 4%, I'm obviously withdrawing much more than I'm earning.

I'm withdrawing principle. This thing will eventually deplete itself and then zero and how long will that be? And the first of the seven equations tells us the number of years that that will take place. And I trace the formula of the equation back to Fibonacci. He was a well-known medieval, maybe even early modern arithmetician. He wrote a book called Liber Abaci. He's also known for the Fibonacci series. And in one of his many writings, he wrote down an equation for present value or a methodology for present value. So I named the equation after him. So that was the first of the seven.

Number two, how long someone will live. So one of the many conversations that you tend to have with clients, with people when they are retired is how long they should plan for. So just in my own life, my mom retired five or six years ago from her job. She lives in Baltimore, in the US and during one of our many conversations, he said to me, "You know Moshe, I'm not working anymore. I don't have much of a pension." She doesn't have a defined benefit pension. She has a little bit of CPP that you receives. I said, "How long is my money going to last?" So I said, "Oh, that's equation number one. That's Mr. Fibonacci. I can show you that. And her second question was, "Okay, how long am I going to last?" We know how long the money's going to last, thank you Mr. Fibonacci, but how long am I going to last? And of course I told my mother, God bless her. "I hope you last forever." Right?

We obviously want you to last forever, but that's obviously not realistic. Human beings have a finite lifetime. On average, how long? What's the standard deviation? What's the dispersion there? So there's this very well-known British or English mathematician. His name is Benjamin Gompertz. He lived in the 19th century. He one of the first actuaries in the UK and he came up with an equation, that model how long people live. So it's called the Gompertz equation. It maps your current age, which is obviously very important. The older you are, the less time you have. It takes into account the mean, how long on average people live. The standard deviation and it turns into some probability. Why is this an important equation?

Because when someone says to me, "What are the odds I'll live to 100? Or what are the odds I live to 95? Or what are the odds I'll live to 80?" Mr. Gompertz's equation is the first equation that we would pull out to give a sense of what that number is going to be. It's the bread and butter of actuary. So that's the second equation in the book for retirement.

Can you just speak a little bit about the more recent research on the difference between your chronological age and how that relates to the data and your biological age?

I'd be delighted to. So let's take a tangent and let's talk about it biologically. So when we talk about age in financial planning, age is central to everything. It's part of knowing your client. "How old is your client? How old is the spouse? When are they going to retire?" So age is central to financial planning. Asset allocation models are geared to age. "Oh, you're 40, you should have this amount of stock. Oh, you're 80, you should have that amount of stock." So ages everywhere. You can't do financial planning without age. Now, what does age mean? Age is the number of years since you were born. The number of times you circled the sun. That's chronological age, which is fairly easy to do. It's very easy to measure. We've been measuring it for hundreds, possibly thousands of years.

The problem is that number is a very imprecise measure of how long we're going to live. We're using age because what we really want to know is how long are you going to live? We don't know how long you're going to live. It's random as Mr. Gompertz taught us. So we do the second best, which is chronological age and we use that as a proxy for how long I have left. "Oh, you're 60, so 90 minus 60 is 30." The problem is that there is a growing body of research. And this has been going on for a long time that seems to indicate the chronological age is not a very good measure of how long you're going to live and that there's another much, much better metric out there that the medical community has come up with or the gerontologists, biologists have come out with called biological age.

And I can talk for an entire hour about how one would go about measuring biological age, but it's basically a better sense of how old your body really is. And the data seems to indicate that you can be 65 years old chronologically, but your biological age is closer to 50. You're 15 years younger than your chronological age. Intuitively what that means is you look at them and you say, "No, you're not 65. You can't be a day over 50." And then we say, "Wow, you really look good for your age." No, 65 isn't their age. Your biological age is 50, right? It's not just, "You look good. You're just not that age." Vice versa, we've all met people that are 65 years old chronologically and sadly they don't look 65, they look 80 or 75. And what we would say is, "No, their biological age is 75."

So the dispersion in biological age can be as much 20 years. You can be 20 years older than your chronological age. You're going to be 20 years younger than your chronologic... True age can be plus or minus 20 years. Why is this relevant to financial planning? Because our entire pension and retirement system is geared to chronological age. "Oh, you're 70 and a half. Well, now it's time to do this. Oh, you're 67. Well, now you can do that. Or Oh, you're 62. You might want..." That's all chronological. Biologically, you can have a completely different age. So the discussion that we were having earlier about the equations and retirement are all nice and well, when all you know is your chronological age. But once somebody gives me a little bit more information about biological age is a different conversation.

And what I'm advocating is it's time to learn more about biological age when you do retirement planning. Stop asking your clients for their chronological age or start by asking that, get a sense of their biological age. Financial plans have to be geared to both of them. And you got to build asset allocation models and spending and draw down plans that take account biological age and chronological age. That's the elevator version. Very long elevator ride, but elevator version.

Maybe we can talk about that equation about that chapter of the book, but then also tie it back to how it relates to biological age.

Amongst the seven calculations, I think every week retirement planner should know how to do. We talked longevity of the portfolio, longevity of human life. The third one would be how to value a pension annuity. How to value a life annuity. Most people get to retirement and they have to decide whether or not to take a lump sum or to take an annuity. Now, even if you're not part of a defined benefit plan, if you're part of a defined contribution plan, you still have to decide whether to take that money and buy an annuity. So you may not think you have the choice of whether to take the annuity. You always do, because you can always convert it into an annuity. The process of converting a sum of money into an annuity or a stream of income into a sum of money requires some equation. And I call that Halley's equation.

Edmond Halley or Halley, depending on what side of the Atlantic you're on, was an astronomer. He was very well known for the being the father of Halley's Comets, but he actually did quite a lot of interesting work in many other fields, including actuarial science. And he was for most actuaries, unless you're Dutch, they think it was someone else. But for most actuaries, he was the person that came up with the first equation to value an annuity. I think it's an important one. It's one of the seven. If you claim to be a retirement income planner, you should know a little bit about that equation. Even though you have no idea how to do it yourself, you have a black box called spreadsheet that does it for you. You should know a little bit about how that works.

How important is it for retirees to give annuities more respect with some of their financial assets?

Yeah. So you don't have to give an annuity any respect at all. I don't think you have to respect the you own, but you do have to give it some consideration, especially if you don't have a lot of annuity income already. So I have exhausted this analogy to death, but I like to think of it as zinc. Everybody needs to have a little bit of zinc in their diet. You talk to a dietician or someone who specializes in nutrition, they'll say, "Yeah everybody has to have a zinc." And the question is, how much do you need? You measure it in milligrams? And if you go many, many months without any zinc at all, there's going to be a zinc deficiency is going to affect you. Vice versa, if you take a big spoonful of zinc, it'll probably kill you. So everybody should have a little bit of it.

The question becomes with annuities using this zinc analogy, how much should you have? So it's not a question of whether you should have it or not. Everybody should have some zinc. It's a question of how much is too much and how much is too little. So to answer your question, Cameron, if you happen to be a teacher or a police officer or a fireman or a federal or provincial employee, and you retire with a wonderful, defined benefit pension, gold-plated pension and your spouse happens to also be a public servant. Then they're entitled to a lovely, wonderful, defined benefit pension. Two pension income and you happen to have a little bit of money in an RRSP, or you have to have a little bit of money in a TFSA or taxable account. And somebody comes and says to you, "Hey, you should consider buying an annuity Professor Milevsky said, it's a good thing."

Run the other way, because you already have a lot of annuity income. You don't anymore. You will overdose on zinc. Don't buy any more annuity. Vice versa, in the other direction, if you happen to be approaching retirement and you have no zinc in your diet, you have no annuity income. You don't have a DB plan. You're a part of a money purchase plan and your spouse has a money... and you're sitting on a million, 2 million, 3 million, whatever the number is and it's all in liquid investible assets, stocks, bonds, cash, commodities, and you're trying to figure out, "Okay, how do I make my money last as long as I live?" I would say you might want to consider some annuity product. Now how much? At what age? What type of annuity inflation... Go talk to Cameron and Benjamin, they'll tell you which one. But that's the summary.

Do insurance companies look at your biological age or is it something you can use to your advantage in choosing if and when and how much to purchase into an annuity?

The first part of the question is do insurance companies know about biological age? And the answer is absolutely they do, they just don't call it that. They don't use that term. That term comes from the medical field. They use terms like age setbacks and underwriting and preferred health and substandard health. So they're aware of the fact vaguely that some people are much healthier than their age, and some people are less healthy than their age. And they've got all these actuarial ways of model which I can explain to my mother, right? I don't want to sit and explain to my mother actuarial setbacks on mortality tables. "Oh, mom see, this is QX and then you send it back to seven years and you invert the QX and that..." No, that's not going to work. "Mom, what's your biological age? Did you get tested?" "Here's the telomere tested it."

So in some sense, insurance companies are aware of it and some insurance companies are saying, "We want to use that information when we price annuities and we price insurance." And regulators are saying, "Oh no, no, no, no, no, no. You can't use that genetic information or that biochemical information." And they're saying, "Why not? We should be entitled to otherwise people are going to anti-select on us. They're going to come into our shop knowing that their biological age is 30 and they're going to buy stuff from us without disclosing their biological age." So it's a huge area and we can spend the next hour talking about that. But the short answer to your question is insurance companies certainly do know about this concept.

What about using it to your advantage though?

So I would. I mean, I took one of these tests, but this is not about me. You can use this to your advantage and if it comes back with a number that's very low, for example, let's say you're 65 and you take one of these telomere tests or DNA methylation tests, or you name it and the test comes back, "Hey Matt, wow, you're in great shape. You're 45. You're indistinguishable from a 45 year old." "What really? But my birthday was 65." "No, you're 45." "I am 20 years younger than my chronological age?" "Yes." I would run to the insurance company to buy an annuity. I would sprint, right? I'm a young guy, right? I would sprint to the insurance company because I would anti-select.

Now do I have to disclose it at this point? I don't have to. Vice versa in the other direction, I am 70 years old and I'm trying to figure out, I don't know. RRIF not RRIF? Do I convert it to an annuity? And I go and I do this test then the test comes back and says, "You're 70 but according to this test, you're off the chart. You're three digits. You're a centenarian, my friend." "What do you mean? But I turned 70." "That's chronologically. Your biological age is 100." I'm not buying an annuity because the annuity is about pooling risk with all the people that live along that.

So it is a piece of information that would be relevant. Whereas I'm exaggerating. The gap is going to be 30 years. What if the age is exactly 70? But what I'm trying to say is take into account your health status, your biological age, whichever, before you buy any life contingent plan especially when it's an annuity. But to get up and declare everybody should buy annuities and everybody should have 90% in annuities. Now come on that simplistic. It's ridiculous. Unless you're an annuity salesman and everything you see as an annuity.

If we take that case of biological age equaling chronological age, just to take the biological age decision point out of it, is there an optimal age that people should be thinking about annuitizing?

So I'm going to quibble with your statement that assuming that you're... Mathematically, it's impossible, right? I mean, it's a knife's edge. You can't get the same number and there's a margin of uncertainty over it. But assuming that hypothetical. So we're all dancing on top of pins of angels or whatever the analogy is, I would say that before the age of 60, I wouldn't even talk about it. Because for the annuity, and I'm talking about the annuity. I'm not talking about things that are masquerading as annuities that have nothing to do with annuities. I'm not talking about the legal annuity. I'm talking about the economic annuity.

Before the age of 60, it's hard to justify the mortality credits or the longevity pooling. Maybe if you buy them before 60 and it starts paying out in an advanced stage, these in the US, they're known as deferred annuities or deferred income annuities, makes sense. But you don't turn this thing on at a young age. There's no pooling it makes, especially in a low interest rate environment. The interest rates over time will be cycling up and down. The short answer is not when you're young.

What do you think of the annuity product landscape here in Canada? Can you get close to the economic annuity with the products that exist here?

That's a loaded question. I'm not complaining about the existence of annuity products here. I'm just saying that, looking at it from an international perspective, I have a lot more choices elsewhere. So it's a little bit disappointing that we don't have a more robust selection of economic annuities in Canada. I'll give you one example, in the US our cousins to the south, there is something called a variable annuity with a guaranteed minimum income benefit or a variable annuity with a guaranteed lifetime withdrawal benefit. These products are... used to be available in Canada, some companies ran into trouble. There are some companies that offer them, but they're generally not as lucrative as they are in the US. The equity indexed annuities lately don't exist. Variable income annuities don't exist. Deferred income annuities don't exist. So yeah, the shelf is a little bit empty. It's like going 7-Eleven versus Metro.

There's not that many annuity products out there. That said, if you want a single premium income annuity you can buy. There are five or six insurance companies that quote liquid prices for it. So it's available. But there are other products that are available elsewhere that are slightly better. And a part of is the tax story. I haven't mentioned the word tax in the 20 minutes we've been chatting, tax is obviously a very, very critical component of retirement income planning. And keeping your assets tax sheltered for as long as possible is obviously very intuitive and very important. And the annuity products in Canada don't have the same type of beneficial tax treatments that we see in the US. So you can dump money into a policy and it grows tax sheltered, really like an RRSP. You don't have that here.

There's an exclusion and inclusion ratio on single premium income annuities that are not registered, but again, it's not as beneficial to be in the States. So I'm probably rambling at this point all about zinc, but those are my thoughts.

If you are making the pitch to get someone to purchase an annuity, how do you approach it?

It's not easy and simply because of what you've described. In order to eat, you've got to sell things. You got to kill something to eat it. I'm not a big fan of killing things. It's hard to sell an annuity. What I would say is, as I mentioned 10 minutes ago, if you don't have any guaranteed income for the rest of your life, you might want to consider some. Because everybody should have some form of guaranteed income. But many of these people look at the stock market and say, "Yeah, but markets go up eight, 10, 15% a year. Why would I lock in this pithy thing if I can make so much money in the stock market?" You've got to educate them about the risk in the stock market. This obviously it'd be a very different conversation if we were doing this in March back when the markets were down 30% and we were back to ten-year-old prices. Maybe it'd be easier to sell an annuity.

And in fact, there's very interesting research. Here we go. This is all going to be about zinc for the next hour. There's very interesting research that shows that when you give people a choice between an annuity and a lump sum, I think this was a study that was done by IBM a few years ago. IBM had this wonderful defined benefit pension plan for decades and decades. And they were tracking how many people got to retirement at IBM and took the annuity, meaning income for the rest of their life as long as they live. And how many came to IBM's HR department and said, "No, no, no, no I don't want that. Give me the money, give me the money." How many took the lump sum, how many took the annuity? Which is the opposite of what you're saying. "I don't want to cut a check. Well, I'd rather have the check."

And it turns out they were trying to correlate it with demographic factors. So they wanted to see, "Are the males taking the cash and the females taking the annuity?" No that wasn't. "Was it the people that were the engineers that took the annuity because they're the smart ones, but the non-engineer...?" No. What did they correlate at? What stuck? Where did they get us statistics that's giving correlation? How did the stock market do in the six months before the decision? If markets were up very, very strongly before they wandered into the HR department to talk about it, of course, "I want to take the money. I want to play in that casino. I was doing so well." "Oh, markets were down for six months. Oh no, no, no, no, no I don't want more money. Give me the income." That's it.

So the reason you're having a tough time pitching it is because for all intents and purposes, we're in one of the longest bull markets in history. People stop believing the markets could go down for extended period of time. They really think the Bank of Canada, the Federal Reserve, the European Central Bank will bail us all out. And they look at anything that's downside protected and income and like, "No, I don't need that."

We have to wait for a better market to convince people that annuities make sense?

Or you might have more success or you might... To me it's about disclosure. That's why I said earlier I won't be able to sleep at night if I had this job. To me it's about, "Look, I want you to sign that I told you about this." That's the way I look at it. I need you to to confirm that I've explained to you some of the risks that you're running. And then you do whatever you want as long as you pay me, of course. But you can do whatever you want, but I need disclosure that you were told about this. And I think that that's the way the insurance conversation has to go. I get contacted by a lot of advisors and it's not just about annuities. It's about long-term care insurance, it's about critical illness insurance, it's about life insurance.

Like, "Moshe, how do we sell more CI or I do we sell more...?" I say, what if you work this? "Well, I keep on telling the client. They don't listen." "Get it in writing and move on." What else can you do? It's physicians. "Look, I told you to stop smoking. It's in the file I told you to stop smoking." I think that's the approach you have to take as opposed to insisting, "Oh, well, if you don't buy the annuity I'm going to leave you. I'm going to go work with someone else." And that's not the way the conversation goes.

Can you talk about how important it is that retirees have some dynamic or flexible spending strategy?

To me it's almost tautological. I'm surprised I have to explain to people how important flexibility is. Like, "You know, you should be flexible." "Not really. I should just tie myself to the mass test and just go." Of course, you need flexibility. So the idea of a spending rule, when I want to be very careful here. The idea of picking a spending rate at the age of 65 and sticking to that spending rate for the rest of your life no matter what happens. I mean, it is ridiculous. It should sound ridiculous once it's properly explained. So obviously you have to be flexible and you have to adapt to what's happening in the market.

So the intelligent approach to spending is, "You know, my portfolio is down 10%, how much should I adjust my spending?" That's the intelligent approach. "The markets have been up very strongly, I'm thinking I can probably withdraw a bit more. How do I adjust my spending? Markets are up 30%, can I adjust my spending 30%?" No, no, no, no, no you need a reserve. Vice versa in the other direction. "Markets are down 20%, should I reduce my spending 20%?" No, you don't have to because there should be a reserve built in there.

So then obviously you have to adjust and has to be dynamic, but to stick to a particular percentage and say, "Well, no matter what, we're going to continue to withdraw that percentage for the rest of my life as long as I live." I don't even know why we continue to push back against it. But to answer your question, Cameron, absolutely flexibility's important.

When you say that in the book you're comparing something like that with the rules of thumb and financial planning, is that things like the 4% rule?

I got to be honest. So I've been doing this for a while now. I've been teaching for quite a while and I remember when this thing caught on and I'm like, "Man, that doesn't have legs. They're going to forget about that faster than yesterday's newspaper." And here we are 25 years later and it's like a tsunami. I mean, it's crushed me. Anywhere I go, we use the 4% rule. So what I've done is I actually have implemented into my curriculum in the MBA program at the Schulich School.

I teach a course on retirement income models and I have an entire week. I mean, that's three hours of a 12 week course dedicated to the 4% rule. I want you to quantify the risks of the 4% and does it make sense to you and would any economist advocate for it and what are the problems? And they got to write an essay on it. So hopefully the 40 students that graduated from my class will just shake their head and say, "There's no damn way. I'm never doing that thing." But who knows?

Just to recap, longevity of your money, longevity of human life, what an annuity is worth, how much should I be spending every year. So once you get those very, very important ones down that it's about all right, "How do I invest my portfolio?" And in my mind that championed the first economist that really went into it with a very rigorous frame of mind was Paul Samuelson. Professor Paul Samuelson was an economist at MIT and a god in the field of microeconomics and macroeconomics, Nobel Laureate. I had a chance to actually meet him once at a conference, astonishing man

He came up with this model for how much people should allocate between stocks and bonds. And his response was that in the absence of human capital, which we can talk about in a moment, it shouldn't change over the course of your life. Which was very difficult for many people to accept. "What do you mean it shouldn't change over the course of my life? I'm young I should have more stocks and I'm old I should have less stocks." And he said, "There's absolutely no basis. There's no mathematical way to get asset allocation to be a function of time. You have to make very, very strict assumptions about what you think the equity risk premium is going to do overtime or mean reverting interest rates." If you just take a basic stock bond model, you can't get time to matter.

And economists spent decades trying to push back against it. He said, "No." And the math supported it and eventually he conceded and the industry works in that direction. And when you're young, you have a lot of human capital, the human capital acts as a bond so you can have more stocks. As you get older, your bond is depleted so you need to be safer. You put more in bonds, but the equation in the book, that fifth equation in the book is the mix between stocks and bonds and how that mix is affected by human capital. That's the main insight there.

You've also got a book on this. It would be great if we could dig a little bit more into the human capital piece and how someone can think about whether their human capital behaves like a stock or a bond.

I wrote a book, I keep on saying that. This doesn't sound good called, Are You a Stock Or a Bond? Many years ago, that dug into this notion that your job is your biggest investment. So I tell my undergraduates, especially that they are richer than I am and they misunderstand that to think that somehow I went bankrupt and I don't have any money, but they have money. I say, "No, no, no. You are richer than I am because you have this thing called human capital. I'm much older than you and I have much less of that." Human capital is the present value of all the earnings that you're going to be receiving over the course of your life. You graduate from a business school these days, it can be in the millions of dollars, COVID aside what area of the business school. But it's the present value of what you're going to earn. I call it a gold mine. It's an oil well. If you actually quantified it at today's low interest rate environment, it really is in the millions of dollars, millions of dollars.

And that has to be taken into account when you build your investment portfolio. So when you're young, you have millions of dollars in human capital, relatively safe, depending on what your job is. So it's got to be taken into account. What do I mean by taking into account? So I'm a university professor, I have a decent pension from the university. If I add up my tenured position and my pension and I present value that, I'm looking at a couple of million dollars in bonds. So I don't own bonds. I haven't owned bonds for many years. Recently, I slightly tinkered with bonds just a little bit more because I'm getting older, biologically, chronologically. So I very rarely invested in bonds. Vice versa, my MBA students, many of whom wanted to go become investment bankers, derivative traders, they want to work in the financial services industry.

I said, "Look, your human capital is very risky. We go into a bad market or a bad economy, your human capital is going to suffer." You don't want to put all your eggs in one basket and have your financial capital there as well. So the idea is to quantify what your job's asset allocation is before you decide what to do with the rest of your asset allocation. So when someone comes to me and says, "Look, I've got $500 in a TFSC, how should I invest it?" And they're 22 years old, I say, "It doesn't really matter. What are you doing for your job? What is your living? How are you investing? I don't mind talking to you about a TFSA, but let's talk about the big asset you've got, you. What are you doing with you? And then how has you allocated? And what's the allocation of you? Oh, you're more stock like, well then maybe bonds."

Just to get people to focus on their human capital, at least as much as they're focusing on their financial capital. But that was kind of the main message of the book, Are You a Stock Or a Bond? You as in human capital.

What are your thoughts on someone younger using leverage to get quicker exposure to more equity?

To what extent? Are we talking 10 times leveraged ETFs? I don't think those make sense at any point, because they're not really leveraged equity. If it's about borrowing against the house in a tax efficient manner and invest a little bit more in equity, maybe. But I worry about the psychological cost of these things and how they're going to behave in a panic and whether or not they're going to have a liquidity crisis. So theoretically yes, but that delta shouldn't be more than 50 at the most 70%. We're not talking about five times their wealth, which is what people put into houses oddly enough. When you buy a house and you take a look at your balance sheet, you're putting 5% down and 95% in a house. That's a 21 to one leverage ratio. Would not recommend that with equity.

I bought into that when I started investing. So you have to think about my life cycle. So I was in graduate school in the 1990s, then I'm reading Samuelson and I'm reading human capital and what Cameron just said is the light bulb went on 25 years ago. I'm like, "I only have 50 bucks, but if I leverage, I can gain the equity risk premium and my human capital is safer.

So I did. I leveraged again, not with double and triple ETFs, but secured borrowing to within reason. And debt can be problematic for reasons that have nothing to do with the life cycle. To do with the decline in markets you have margin calls, you have a liquidity shock you have to sell out. The margin goes down 40%. You suddenly say, "You know what, I'm out. I just can't handle this anymore." Suddenly, leverage actually works against you. So if you can put it in an iron box, seal it, put it in a time machine and send it away for 30 years, yeah, it'd be a great idea.

And a lot of people are wondering, "Why would I do that? I can just buy a house in Toronto or Vancouver and I'd do even better. It's up 20%. ASX is only up 12." So it's a conversation that you have to have in the context of their overall portfolio and I would rather leverage into human capital. They got a big loan go to medical school. That's leveraging human cap, that payout. First of all, it's a lot less liquid and I like it. Second of all, the yield is more predictable. So when people say, "Should I borrow to invest?" My answer is, "In what? Human capital, big fan, housing? Okay. Oh, something that's marked to market at 4:00 PM every day." I don't know.

So financial legacy, again, it's about the hero that introduced the kind of thing is Solomon Huebner, the least known I find from the seven people I point to. He's known in the US in the insurance industry. He was a professor at Wharton in the 1920s and '30s and '40s. His big thing was life insurance. He was reacting to the very, very disreputable reputation of life insurance. People thought it was a scam. "What do you mean I die they give me a million bucks?" So how does that work? Trading in human life. And he explained the rational human lifecycle foundations and the importance of life insurance. And it wasn't just that he was a fan of life insurance. He was a fan of whole life insurance and not the buy term invest the difference. He was a fan of permanent life insurance.

He was a fan of borrowing against your life insurance policy if you needed to access cash. He was a fan of annuitizing your life insurance at retirement in order to get income for the rest of your life. In the 1940s, 20 years before there was any economist that was even aware of the importance of annuities in a life lifecycle framework. He was a great professor when you read counts of his students talking about him. So he came up with an equation that not necessarily tells us how to value life insurance. That was the actuaries, but to get a sense of how to think about life insurance, the leverage effect within life insurance, to explain to people the multiple.

"I don't get it so I only paid $20,000 how did I get a million?" Because other people pay, the leverage... So he's one of my seven heroes, Solomon Huebner, otherwise known as Sonny Saul and one of the equations is about measuring financial legacy, sixth equation.

The seventh and final equation brings the six together. The hero there is a fellow called Andrey Nikolaevich Kolmogorov, a Russian mathematician who passed away in 1987. It's actually an interesting story. I'll tell you, in a moment. He was the world's to all extents and purposes, greatest probabilist. You ask any mathematicians who studies probability, "Who's the biggest name in the 20th century?" They'll say Kolmogorov. Kolmogorov came up with the foundation of any Monte Carlo simulation you're running for retirement income planning. When somebody says to me, "Well, we ran a Monte Carlo and we found out that this is the probability this event will occur. Somewhere, someplace in there is a partial differential equation, fancy term for equation that Kolmogorov came up with to compute probabilities.

He put probability theory on a rigorous foundation. He built probability theory in a way that... Wall Street was using to value mortgage backed securities and retirement income specialists were pricing annuity. I mean, it's everywhere. It's not just in the retirement income field. His mathematics are at the heart of almost any type of stochastic modeling. If you had a patent on any of this, you would have been worth billions because you can't do anything nowadays without Kolmogorov equations. He was an ardent communist who would be appalled and all the people making money off of this, the mathematics lived in Russia, grew up in that environment. It's all done for the communal good.

He died the day after the stock market crash of 1987, basically today in 1987. He came up with these equations for how stochastic processes or models are put together. And I had to give him the credit because he puts it all together. When you're using a black box or any simulation process to tell your client how long their money is going to last, what's the probability they're going to live. "You'll be okay. Your probability of this is..." It's all Kolmogorov. So he was the final one and I give him a lot of credit. It was actually a lot of fun to do that chapter because I got to chat with some of his students, Russian mathematician. He had many Russian mathematicians were students. Some of them were teaching at the Math Department at York University. So I would wander over to hear Kolmogorov stories. And at one point I thought I'm going to have a whole book. I'm going to have to fill up with the stories of this guy. But anyway, he's the seventh and final equation.

How important do you think that type of analysis is to the retirement planning process?

Yeah. I would say that if you don't understand the assumptions and probability models, you can't really use the results accurately. It drives me nuts sometimes. I'll hear somebody say, "With no financial or mathematical training at all, there's a 97% chance you'll be okay according to our simulations." There's a 97% chance Mr. Smith, you'll be fine." And then I say, "And what about the 3%? What happens in those cases?" They say, No, no, no it's 97%." "Look, hey, when you get on an airplane when there's a 97% chance you'll arrive on time?" There's a 97% chance you'll arrive on time. "What about the 3%? I don't arrive at all? I'm not getting on that plane. I arrive five minutes late. All right. Big deal I'll get on the plane."

So this whole idea of knowing the alternatives and understanding what it means to build a probability model and what the tails of the distribution look like, I think they're critical. So I think that what's happened is that the sophistication of the financial tools has exceeded the ability of many of the planners to understand them. So you have people running around spewing numbers without any understanding of how they came about, and it's not good. It's not good. And I think the industry has gotten way ahead of itself. I think that the training of financial advisors has to be at a higher level so they understand at least what the assumptions are about what's happening in some of these reports. And we're starting to see it. Financial planning colleges that are hiring PhDs to teach.

The response to your question, Benjamin, is even if you're not going to be solving partial differential equations in your retirement daily life, you do have to understand where it comes from and what the assumptions are. I've been asked many times to audit internal models, especially in the the software business. And I'm like, "So what is your underlying distributional assumptions?" And they look at me, "I don't know. We got it from Ernst & Young." And I'm like, "Wait, so what is your...? "I don't know. Some actuary at Sun Life told... Like, come on you can't just use a random generator without understanding underlying assumptions. So Kolmogorov is kind of the wake-up call.

Can you just talk quickly about what you think about the proliferation of low cost index fund products and the impact they've had on retirement income planning?

So at one level it's good in the sense that anytime you can democratize investing and make it cheaper for me. I don't have to pay a big commission to buy and sell stock anymore. In fact, I don't have to pay any commission. You have an account on Robinhood, you can trade all day long and explicitly no cost. I think the problem with the rush towards indexing is that there's so many different indices and we don't really know which indices to select. So when somebody says to me, "I'm 100% passive." "To what?" "The index." "Which one?" "The S and P 500." And then you tell them, "Yeah, you do understand that there's if fee. There's obviously emerging market." There's more indices now than there are securities. Literally, I'm not joking. You can actually find more indices than actively traded securities.

It's a good movement. Things are cheaper. It's easier to invest. It's easier to diversify. Diversification is obviously the way to go. We need to understand a little bit more about the nature of the indices and the limited ability of certain indices to really capture the entire market. I think there's a role for active management if that's what you're asking. Should we all be passively invest? No, no, absolutely not. In certain markets, the evidence seems to suggest that active investing works and obviously large cap North American equity good luck finding alpha. But if you specialize in small venture capital deals in Singapore, there is no index there. So I don't know if that's what you were asking, Cameron, but cheap is good, democratization of investing is good. You shouldn't be 100% index. You should not, especially considering the human capital story. Right?

So wait, let me get this straight. You work at Morgan Stanley, don't have any Morgan Stanley in your portfolio. You're 100% human capitalist in that. So at the very least you got to unwind, Or you work for Coca-Cola. You can't have consumer discretionaries in your retirement plan because if Coke goes down, you go. So at the very least we need active management to disentangle the portion that's in your human capital, at the very least.

So you don't necessarily mean active management from the perspective of stock picking and market timing, which is what I think people tend to think about?

Yeah. Look, I think that there's a value to that to keep people engaged and interested. It's fun. We want to make it fun. The kids that go into finance, I've been teaching for a while. The kids are going to finance is because they love stock picking. The last thing you want to do is to take a third year business student who's in your class taking finance because they always loved the stock market and just hammer into them, "You idiot you, it should all be passive. You're wasting your time." They're going to go become an accountant. We don't want that. We want them to stay in finance. You have to build on their excitement for the market. This notion that they will find some undiscovered gem, and then there'll be able to fair it out value. You have to build on that or else you're you're going to kill the field.

Let's nurture that. Let's explain to them the limitations of that, let's work with it, but to teach everybody, No, no, no, 100% indices. Go home. It's not viable. It's not correct. I don't think it's correct. I think it's complacent, people become lazy. They don't understand why they're owning things. So I think there's some value in all of those with a limit of your portfolio, obviously. 85% index to the Morgan Stanley Capital International index. End of story.

How do you define success in your life?

Success is wanting to wake up in the morning. The alarm rings and you're like, "Oh man, great. Let's get going." Enjoying what you do. Wanting continue doing it. I try not to have milestones of success. I try not to say, "I can't wait till I do that because that'll be success." I don't like that. I like smooth consumption. I don't like defining success by reaching. As soon as I get to Everest, that's it. I climbed Everest, I'm done. It's about finding projects that excite you and continuing to. Success to me is, "Am I still excited about what I'm doing?" And if I'm not, change what you're doing, find something else, which is why I like to change research over time as well. I find that I liked that, I enjoyed it. Now it's time to move on to something else because I'm done with that.

What are other areas of research that you're passionate about that people may not know about as much?

All right, here we go. Let's plug some more. So I've just published a book called Retirement Income Recipes in R, which is a textbook that I'm using to teach. It's a very technical book on how to use R which is a language similar to Python to do retirement income computations. Very technical, very heavy. I am done with technical stuff for a while. My current interests are financial and economic history. So I'm spending a lot of time in the 16th and 17th century, trying to understand how the financial markets that we rely on today began. What was the asset allocation of a retiree in 1650? How did somebody invest in the year 1720? Where do people get income from in the middle ages? How did they build portfolios during the plague?

And I mean the 13th and 14th century, not the current plague. So I'm fascinated right now by history, within the context of how people managed their financial affairs. How did wealthy people manage their financial affairs? I mean, people had money then. It's not like we all suddenly got money 100 years ago. They were a very, very wealthy. How did they diversify? How did they invest? What did they do? What did they do? That's where it interests me now and if you asked me, what's my next book going to be about two or three years, whenever, it's going to be asset allocation in 1697