Risk Aversion I

We model investment behavior based on risk and return.  Return is the expected mean or average return and risk is the variance of possible returns.  Most models assume that people like higher returns (duh!) and lower risk.  We use the term risk aversion to describe the latter.

Kevin D. Williamson, writing in the current version of The National Review, describes how Americans tend to be less risk averse than other countries.  He nails it right from the start:

In the United States, the road to economic success is open because the road to economic failure is open.

That’s the basic American proposition: We have an unregimented business culture, easy credit, a forgiving bankruptcy regime, and a “hold my beer” model of entrepreneurship.

He recognizes that success and failure are both risks.  It is true that individuals often have different reactions to downside risk and upside risks.  We see them buy insurance and lottery tickets.

Of course you should read everything that Kevin writes.  Have you signed up for his Tuesday newsletter?

We would like to discuss professors, because they come up in Kevin’s article, and two exceptions to Kevin’s thesis.  Professors will take awhile so we will use a second post to complete that discussion.

We agree with Kevin that America helps make Americans less risk averse than other developed countries.  We see two exceptions: sports and public safety.  In almost every other country sports use a relegation and promotion system.  America has sports monopolies.  Even if you are as poor a leader as Bob Quinn, the Red Sox still stayed in the American League and he probably made money on the deal.  In England, France, or Spain a team like that would have fallen to the third tier and have little value.

Before COVID-19 we traveled a fair amount.  Comparing the Ciffs of Moher, the Castles of Scotland and other international destination to American destination like our National Parks it is clear to us that America is more risk averse in terms of public safety.  Perhaps you milage will vary but we see America has more restraints and more warning signs than any other developed country.

Perhaps, the American litigation system explains our attitude towards public safety while the nature of American capitalism, as Kevin explains, accounts for the dynamic of American capitalism.



COVID-19 As A Minimum Wage

The second part of Jim Geraghty’s Morning Jolt reminds us of the problems that COVID-19 and even a post-peak COVID-19 world present to the less skilled and particularly young people.  It is not the COVID-19 is dangerous to them.  It is usually not.  Locally we are seeing most of the new COVID-19 cases as young people:

Below is a list of establishments and the date in which the infected person or persons visited:

  • Legends/Twisted Moose (June 7) [two downtown bars]
  • The Library (June 6) [another downtown bar]
  • The Crow (June 7) [another downtown bar]
  • Brothers (June 6) [another downtown bar]
  • Broncos (June 6) [another downtown bar]
  • Blue Moon Restaurant in Onalaska (June 6-7) [on the river]
  • Pettibone Beach (June 5) [in the river]

Health officials said that these establishments have been listed because of the difficulty of contacting everyone who may have been there on the same days, and in-turn possibly exposed. It does not mean that other establishments or any public place does not also have a risk of spread.

During the weekend, the area confirmed 24 new cases, all of them in their 20s or teens. Since June 8 — two weeks after Memorial Day weekend — roughly 75% of the area’s cases have been in people under 30.

So young people are going to the downtown (we would say student but the colleges are closed) bars and spreading COVID-19 amongst themselves.  Like Jim, we are more worried about their human capital rather than their health.  Jim talks about lost caddying jobs.  From Francis Ouimet to Caddyshack (yes we know the latter is fiction) caddying has been an opportunity for the less wealthy to develop skills and met people.  That is, to develop human capital.   Here is Jim’s summary and his quote:

Summer jobs are not glamorous and usually don’t pay all that well, but for a lot of people, they’re a key first step on the path of their careers. Former Starbucks CEO Howard Schultz wrote in From the Ground Up, “the value of early work experiences can exceed the amount of a paycheck. Work done well — building a house, helping a customer find the perfect new shoes, earning a promotion by serving cups of coffee — imbues us with a sense of self-worth as well as a sense of purpose. With dignity. And if you’re a lost young person with little proof of your potential, work can provide a window into yourself.”

We would emphasize the skills rather than Howard’s self discovery but we recognize that the two are related.  Bad choices like Antifa and gangs become more likely when there is no obvious route to success.  COVID-19 is working like a minimum wage.  It is preventing people from discovering and developing their skills.  And, of course, the penalty will fall more heavily on the less fortunate.  Like many of the important questions, this one doesn’t have an obvious answer.


Retirement Planning

We were reading Suze Orman on the AARP Bulletin with a 2020 action plan for retirement.  She has a list of ten items.  Suze (we hope we can keep up with autocorrect) is worth reading but she is only a start.  She has some good ideas and a few that could use more details.  Given that it is a list she leaves out what we think are the two most important issues:

  1. How do you want to live in retirement?
  2. Do the math.

We like the general idea of downsizing that shows up in several of her items.  It is a great way to help make the math work.  We think that waiting on Social Security is not as good an idea as she suggests but we really like Roth Accounts.

We have a fellow retiree that loves his frugal lifestyle.  He cuts his own wood for his wood stove, enjoys fixing stuff, and the enjoys the outdoors.  Some of his activities are free and others save money.  On the other hand, we have been to Japan, Korea, Ireland, England, China, and all over the US since retirement.  We pay people to fix things and cut wood.  Another person we talked to was selling her home to buy a motor home to tour the US.  You need to have an idea of what you want to do.

Then you need to do the math.  You might need some help.  We hope you know what you make now.  Gross income is a tax term.  It means (except for certain exclusions) all income.  It isn’t useful to compare your pre-retirement gross income to your post-retirement gross income.  Why? Because pre you pay Social Security Tax, contribute to your retirement, and invest for your retirement.  You might pay union dues, have a big parking bill, have an expensive commute, and so on.  Post you pay no Social Security tax, pay limited federal taxes on Social Security and, in Wisconsin, pay no taxes on Social Security.  Disposable income is an economic term but you need to create your own version of it.  Usually, you can live the same life post-retirement on considerably less gross income than was necessary pre-retirement.

Sidebar: Health care is a decidedly complicated part of it.  Before you turn 65 you should apply for Medicare.  At 65 the federal government will pay for a substantial portion of your health care costs.  How it will all net out depends on your employment and post-employment benefits, if any.  We might have been an unusual case but for us retirement sharply reduced our health care costs.  End Sidebar.

In part because of health care, our version of disposable income went up when we retired.  Retiring was an easy choice because first, we would have more money than if we worked and, two, that amount would support our lifestyle.

Roth vehicles simplify your life because you take the money out tax free.  Another reason we are keen on Roth IRAs is that you can also use them to help your heirs.  So Roth is a good idea if you are considering leaving something to somebody.

Suze wants you to wait until 70 to start collecting Social Security.  Suze says in her usual combative way that:

Don’t start with me that you don’t want to leave money on the table. There’s a good chance you’ll be alive in your 90s. Even if you begin receiving Social Security at age 70, when you hit your early 80s your total payments will be more than if you started getting a lower benefit at age 62.

How good a deal depends on how long you live but Suze is misleading you, perhaps for your own good.  She is not asking you the run the numbers.  We are.  You only break even in your early 80s.  You need to live well past then to make a decent return.  The real question is when can you retire and live the life you want?  You need to be honest with yourself.  For our frugal friend the numbers worked before 62.  For us, it was almost 65 when the numbers worked.  We know somebody that loves work so much that he is making less working in his 70s than he would retired.  When he finally retires he will gets lots in Social Security but he won’t need it.  So when you should take Social Security depends on your circumstances.

As Suze says it is likely that you will be retired for a long time.  Start by investing, educating yourself, and planning early.  You might need help but you need to take charge of your retirement just like your career.  Retirement might be your longest part of your career.


Talent And Success

We are in Nashville to watch the Patriots play the Titans.  While in Music City we decided to take in a little music.  We went to the Five Spot to see some live music.

Sidebar: We were talking to the manager of the Brooks Hubbard Band and he said he was from MA.  It turned out that he and one of the band members both went to the same high schools as MWG.  It can be a very small world.  MWG would recommend BHB even without the high school connection.  End Sidebar.

The four bands we saw, and especially the Brooks Hubbard Band were really good.  They were talented to try to be more specific.  Of course, the exact dimensions of talented are murky.  Does talent include drive to succeed?  Watch Tin Cup to see some of the subtle distinctions that come into play.  Tin Cup brings up the point that athletes and musicians face a similar problem of talent and success.

On the other hand, if you are a talented accountant, your probability of success is really high.  There is much more risk for athletes and musicians.  Risk, as we know, has both upside and downside elements.  The Rolling Stones make more than their accountants even though both are near the top of their professions.

Talent and risk make it a complicated world for making decisions about careers.  It is hard to evaluate your own talent.  It isn’t easy to evaluate others talent.  And very few of us understand risk very well.  And then there are all of the human issues.  It is easy to see why folks have difficulty with career decisions.


College Cartel Tofu Edition

Frederick M. Hess and Grant Addison are at NRO discussing some trends in employment.  They start out with:

Earlier this month, the job-search site Glassdoor compiled a list of 15 major companies that no longer require applicants for certain posts to have a college degree. The list included an array of entry- and mid-level jobs —everything from barista to “Apple Genius” to “senior manager of finance”

It is worth reading the whole thing.  We are generally in agreement with Fred and Grant but we find that they go a bit overboard with the red meat.  That’s why we call this tofu edition.

Fred and Grant point out an important reason why lots of employers require a college degree when there isn’t a compelling reason to do so.  They have a useful term for it, degree inflation:

There are multiple factors to blame for degree inflation, but a big one is the unintended consequences of federal anti-discrimination law. Title VII of the Civil Rights Act of 1964 prohibited employers from discriminating against workers or job applicants on the basis of race, color, religion, sex, or national origin. It did, however, allow the use of “professionally developed” ability or employment tests, insofar as they were not “designed, intended or used” to discriminate.

Trying develop an entry level test independently  has been a magnet for lawsuits.  Requiring a degree has not although Fred and Grant don’t see why.  It is OK to disagree with the courts but there is no reason to expect they will suddenly change their minds and agree with us or Fred and Grant.  Here is where some of the red meat comes:

And colleges, of course, reap the outsize benefits of acting as the gatekeepers to employment. It’s an arrangement which allows campus bureaucrats to pull in six-figure salaries while tuition costs soar ever-higher and schools feast on billions in federal student loans and other taxpayer funds.

The actions by the employers in the first paragraph will have precious little impact on highly competitive colleges.  We are not going to name names on who is worried about those employer changes  but we are sure the Ivy League and the Big Ten are not.  Fred and Grant recommend:

While there are policy changes that could help, businesses have a chance to do well by doing good. They can take the initiative to cultivate new partnerships, expand apprenticeships, charge HR departments with reexamining outdated assumptions, and find ways to move beyond routines that close the door to qualified workers who lack the right piece of paper.

We are with Fred and Grant that it is not a policy problem.  We are with them that employers should cultivate and expand partnerships.  Paid apprenticeships, internships, other on-the-job training should be expanded.  The partnerships might be with colleges, high schools,  vocational schools, or on their own.  These programs at the various schools and businesses might be run by highly paid folks.  They might be bureaucrats.  Let the markets sort out the prices.

Pensions, Careers, And Retirement

Pensions and careers have changed.  Ramesh Ponnuru thinks the retirement changes are for the better and we heartily agree.  We will give an example and explain why it matters.  Ramesh thinks Americans should stop mourning the loss of traditional (defined benefit) pensions concludes:

These are changes that would build on, rather than attempt to reverse, the last few decades of developments in the American retirement system. Those developments, especially the rise of the 401(k), have largely been for the better.

Sidebar One: Pensions can be divided into defined benefit and defined contribution.  In a defined benefit plan you typically get a pension equal to then number of years worked * highest salary over three years * a percentage.  So if you work 30 years and your percentage is 1.8 then you get 54 percent of your highest salary.  A 401 (k) is an example of a defined contribution plan where a defined amount is invested and you get the result at retirement.  We often think that the worker takes the risk in a defined contribution plan and the company takes the risk in a defined benefit plan.  That is only true if the worker retires from that employer.  We will show details later.  End Sidebar One.

Sidebar Two: Risk is both upside and downside.  If a worker spends his entire career with one employer then a defined contribution plan is more risky because he might get much more or much less than a defined benefit plan.  End Sidebar Two.

The big reason for changing pensions is that the nature of careers have changed.  Years ago it was bad to have a resume that indicated you were a job hopper.  Now career advice is:

If you are changing jobs less than every three years, you are in the minority.
You may need to have a well-prepared explanation when you front up to your next job interview.

It also true that employers come and go.  Both of these are reasons why we should cheer at the increasing number of defined contribution plans.

MWG has a defined benefit pension plan.  It worked very well for us although it limited our opportunities, as it was intended to do, in the time close to retirement.  It worked very well for us because we spent nearly 40 years with one employer.  Thus, our paltry year salaries in the seventies and eighties were irrelevant and only the years mattered in the computation of benefits.  If we had of switched employers it would have been bad for us because our salary was so low. Another benefit was sick days.  In our case sick days accumulate and can be used to pay for medical insurance after retirement.  The sick day benefit is based on your highest salary but you must retire in order to get it.  Thus, because of both sick days and defined benefit, as retirement approached it was financial suicide for us to leave before retiring.  When we became eligible for retirement, the sick days became a powerful incentive towards retirement because workers had to pay for part of the cost of health insurance but retirees, like us, with lots of sick days did not.

For us and our employer, the defined benefit plan worked.  We got a nice retirement and they got us to work for less than market prices late in our career.  We are not sure if the intent of the pension was to get us to retire.  It was effective at that too.  We retired because the tax on working was over 100 percent.  That is, we had more disposable income in the first year of retirement then we would have had if we worked that year.

Defined contribution was a fair deal for us in another era.  Even then we were a minority in staying with one organization so long.  Now we would be a micro-minority.  Defined contribution is the way to go in the new environment.  We need to find incentives to increase them.  We have three suggestions:

First make health insurance benefits taxable to the recipient.
Second, increase social security benefits for the needy by means testing benefits for high income individuals.
Third, increase the tax benefits of Roth IRAs.  Make the contribution tax deductible and keep the returns not taxable.

The first would help by producing a bit of government revenue and focusing both employer and employee on the retirement issue.  The second would provide a safety net to the really needy.  The third would reduce complexity at retirement because everyone would go Roth and there wouldn’t be any taxes having an impact on decision making.

As Ramesh says, let us build on the success of 401 (k) plans.  Folks are looking for freedom.  The right incentives will help them make good choices.


Life And Career Advice

Jonah Goldberg has some life advice in his weekly newsletter.  We concur but would like to use it to discuss your career.  Jonah said:

So, as I prepare to enjoy a vacation weekend away from politics, here’s some advice: Don’t invest that much of your soul in politics. In fact, don’t invest your whole soul in anything.

Folks that invest their whole soul in something make for interesting entertainment but the reason is that their lives are a mess.  You make choices to give some of your soul to, among other things, your spouse, children, vocation, and avocations.  These percentages usually vary widely over your life.

Let’s use an accounting example with a sports comparison.  Going to work for one of the Big Four accounting firms is like being a Division I athlete.  It is not exactly the same but in both cases you give much and, if that is what you want, you get much.  Even within these areas there is wide variation.  You could be Dan Gable.  He would be an example of somebody who gave much more of his soul than the program asked and they ask for lots.

Part of this discussion must be about the nature of your soul.  Is size of the soul pie fixed or can it be expanded?  The plays we have seen in the last couple of weeks are The Grinch and Christmas Carol and we agree with those shows that as the former says explicitly your heart can grow three sizes.

Because your soul is large it is important to give parts of it to lots of folks and places. Work, even part-time work, family, school, handball (and all sorts of avocations) , all can be better as you become more involved in them and keep you from being obsessed with one thing. When the interviewer asks what your passion is you should have several of them.  Don’t give all of your soul to politics, work, family, or even handball but do give your soul to several of them.