Ask Paula: Is Your DIY Investing Strategy Holding You Back?

0:00Joe, when you were a financial advisor, I suppose that meant that none of your clients worked with robo-advisors. You know, that is far more of an old guy question than you know. There was no such thing as a robo-advisor back when I was easy, Paula. Easy. Oh, sorry. So look at me assuming that you were a financial advisor in the era of the internet. In the modern era. Yeah. In the modern day, in the brat era. There was no such thing. And ETFs weren't a big deal either then either. I spent a good amount of my time, by the way, making sure that the mutual fund managers that I was recommending were actually good ones.

0:34idea of indexing was not a thing. And stocks were sold in one eighth increments rather than with cents. That is true too. Now we can shut up about that. What's the deal? Well, we're going to answer a question today from a caller who's wondering whether or not she should work with a robo-advisor. We're also going to talk to someone who has some questions about rolling over a Roth 401k into a Roth IRA. And then keeping with the Roth theme, We're going to talk about what to do with an inheritance if that inheritance comes from a Roth account versus a pre-tax IRA. Welcome to the Afford Anything podcast, the show that understands you can afford anything, but not everything.

1:17Every choice carries a trade-off, and that applies not just to your money, but to your time, your focus, your energy, your attention to any limited resource that you need to manage. So what matters most and how do you make choices accordingly? that's what this podcast is here to solve. This show covers five topics, financial psychology, increasing your income, investing, real estate, and entrepreneurship. My name is Paula Pant. I'm the host of the show. Every other episode, I answer questions that come from you, the community, and I do so alongside my buddy, the former financial planner, Joe Salcihai.

1:52What's up, Joe? I thought you were going to call me Grandpa Joe. Grandpa Joe. Grandpa Joe. Grandpa Joe. Well, Tell us another story, Joe, about the good old days as a financial planner. Well, in this modern day and age, there are robo-advisors, and Melissa is wondering if she should use one. Let's hear from her. Hi, Paula and Joe. My name is Melissa. I've been listening to the podcast for about a year, and I really appreciate that the answers to questions are truly expansive and teach me a great deal about investing. My question is about robo-investing and something that Joe mentioned on a recent podcast.

2:29For background, my partner and I are in our early 50s. Our mortgage has paid off and our last kid is finishing college with those costs already set aside. We have about$1.6 million in retirement accounts and about$400 ,000 in taxable brokerage account, mostly total market index funds. We've always been DIY investors, initially with no-load mutual funds and more recently index funds. With an upcoming job change, we are entering our highest earning years in the next decade. And with much lower expenses, we will have more cash to set aside into investments after maxing out tax advantaged accounts.

3:03We will need some of that money to bridge us from retirement in 10 to 12 years to age 70. And I'm wondering if it makes sense for us to look at robo-investing through something like the Schwab Intelligent Portfolio, because we will be in a higher tax bracket. So tax loss harvesting may be of value, and we will have more defined goals for that money. My partner prefers an aggressive portfolio. I would like to mitigate some of the volatility given that we will have a sooner need for that money than the usual 30 to 40 year timeline that we think about when we are investing. I appreciate your guidance and really thank you for a wonderful podcast.

3:41Melissa, thank you for the question. And first of all, congratulations on everything that you outlined on being in your early 50s, having 1.6 million. The last kid is finishing college and you've already accounted for all of those costs. Your mortgage is paid off. You are very, very well set up. And the fact that you are so well set up in your early 50s tells me that you spent your 20s, your 30s, your 40s building to put yourself into this position. So big congratulations to both you and your partner for the decades that I know that it took to be able to get to such a great position today. I think where we have to start, Paula, is so, okay, Joe said something that she She's responding to, but she did not say what it was.

4:23But I think, Melissa, what you are referring to is the fact that I said the wrong demographic is using robo-advisors. It is ridiculous for someone in their 20s to buy like a robo-advisor with eight funds or 10 funds or whatever number it is. when, frankly, for long-term goals, using the total stock market index is a much better way to go. It is far more important that you are investing than having perfect asset allocation. Perfect asset allocation is confusing to people. You don't understand all the different asset classes that are there. And frankly, you don't need them. What you need to do is shovel more money in.

5:11And then the bigger ridiculousness is that robo-advisors talk about this idea of tax lost harvesting. Well, if I've got$400 and it makes a dollar, am I really worried about tax lost harvesting? Just complicating my tax situation. So there is no reason for a lot of the things that a robo-advisor offers when it comes to a person starting out investing. Keep it simple. Use the total stock market. Now, when you get to the point that your portfolio's movement on a daily, weekly, or monthly basis is more money than you're putting in during that same timeframe, then I think it makes sense to get analytical about your approach.

5:57Being more analytical, what I would prefer people do, Paula, calculate what's called the efficient frontier at that time for them and diversify appropriately. The good news, the robo-advisor things that she's talking about are way, way, way, way, way more in that direction than the total market index, which I think people should start off with. So yeah, I like it. And by the way, tax loss harvesting, if it's inside an IRA, you can't do any tax loss harvesting. I've seen people go, oh, I do it for the tax loss harvesting and it's all inside my IRA. It doesn't matter. There's really no such thing and it doesn't really help you.

6:34But for money outside of IRAs, now that tax loss harvesting at the end of the year can sometimes give you substantial tax savings and can be a real benefit to either using a few different positions as you're on the efficient frontier or by having something like the Schwab portfolio she talks about do the same thing. You know, Joe, the concept that you were talking about, that the rules that apply when you are young and your contributions are relatively low are different than the rules that apply when you are more experienced and you have higher contributions and a higher portfolio balance. The person who really talks about that in depth is Nick Majuli.

7:16He's a Stanford educated data scientist who was our guest on episode 375, affordanything.com slash episode 375. And he talks quite a bit, then he frames it in mathematical terms. So he shows you the math around it about exactly that idea. When you're young and relatively at a lower income than you likely will be, and you have a relatively smaller portfolio balance than you likely will have at that stage, the biggest lever that you can pull is earning more and contributing more. So focus on the income and the contributions when you're in your twenties, because that's your impact. Yeah. What are you going to eke an extra 25 basis points out of nothing?

7:59By having the perfect diversification. I have the perfect diversification with a hundred dollars I've got. Right. Exactly. Yeah. I've got eight different funds with$17. It is ridiculous, you know? Yeah, exactly. Exactly. Right. But Melissa, in your case, I think a robo-advisor makes a lot of sense for exactly the reasons that we're discussing. You have a$1.6 million portfolio. that's actually a substantial amount of money. It's not the$5 ,000 portfolio that some people have at the time that they go into RoboAdvisors. Yeah. Again, it isn't my favorite. My favorite is based on your specific game plan, finding that spot on the efficient frontier, but RoboAdvisor directionally is headed that way.

8:44Second, Paula, I want to talk to all the Uber geeks giving advice to people they don't know on the internet who, when somebody says, hey, here are my 401k choices, what should I choose? Immediately they go either VTI or VTSAX, which is total stock market index, the Vanguard approach. That's a great place to start. And Uber geeks who have drank the complete Kool-Aid that this is all anybody should use, you are losing substantial money. And I believe a lot of you that are giving this advice are people that have a great button down budget, you understand tax loss harvesting. But when it comes to investing, you don't realize that JL Collins' advice is for beginners.

9:27It's specifically, it is not the optimal path to wealth. It's not the best path to wealth. It is the simple path to wealth that gets beginners to calm down, relax, and invest. And it's not me saying this, by the way. Paul Merriman, who's a phenomenal friend of JL Collins, who wrote - Also former guest on this podcast. Who wrote the Simple Path to Wealth, JL Collins. These two guys are friends. Right. Paul Merriman has done all of the research to say that if you go toward the efficient frontier, you're going to be way, way, way, way, way, way, way richer. And often with a lot less risk than you have in VTI or VTSAX.

10:04So while VTSAX and chill is phenomenal for a 25-year-old with no money, it drives me crazy when I see you telling people that are 50. That's what they should do because you are wrong. You're 100 % wrong. Horrible advice. Wow. I've never seen, Joe, you haven't ranted like this in a minute. It's because in the last week, I've seen it like five times. I'm like, oh my, stop being suboptimal. And you know what's cute, Paula? This is what's cute. Is that people tell me, they go, well, you know, I'm going to have enough money. I'm going to be fine. Well, good for you. But you've got this community of people around you that could really, really use your help and your support.

10:41And imagine, imagine the people you can bring along with you if you weren't so focused on being suboptimal with your money. But we get so focused that, oh, this is what everybody says I should do. And I'm with the cool kids because I say VTSAX. You understand where it's headed, but I don't think you understand where VTSAX really fits in the whole thing. So, Melissa, not aimed at you. Melissa's headed the right way. I think it's great. But, oh, my goodness, Paula, this baloney. I'm like, haven't you heard? We've been ranting about this forever. And we still got these Uber nerds out there saying stuff that is just horrible.

11:19You know, the thing that's interesting about the phrase VTSAX and chill, I'm glad you brought that up because that's a popular internet meme that, you know, like that's a, in the personal finance community, you hear that all the time. But for those of you who are tuning in, who are beginners or who are just tuning into a personal finance show for the first time. What are they freaking out about? If you immerse yourself, yeah, if you immerse yourself, surround sound in personal finance content, you're going to hear VTSAX and chill. And you're right, Joe. It's what got you here won't get you there.

11:53The things that you do that are appropriate when you are a beginner are not the things that will get you to the next level. That's true in investing. It's true in business. I was just listening to an episode of Billion Dollar Creator with Nathan Berry. He did an interview with Ali Abdaal, who is a popular YouTuber with five or six million YouTube subscribers. And Nathan Berry and Ali Abdaal had this great conversation about exactly the concept of what got you here won't get you there. What you do when you're growing your YouTube channel from zero to your first 10 ,000 subscribers, those habits are great at that level.

12:30But if you try to apply those habits when you're growing your YouTube channel from 5 million to 6 million subscribers, the same habits that got you success as a beginner are the ones that will at best hold you back, if not cause you utter collapse and failure when you're at a higher level. So one example of that, when you're a beginner, as a beginner entrepreneur, you say yes to everything. Every opportunity, you say yes. Every interview request, you say yes. Yes, yes, yes. When you get more advanced, you have to be far more selective with your time. Far, far more selective, right? Perfect example of what got you here won't get you there.

13:07I spoke with Mark Randolph, who's the co-creator of Netflix, and we had a phenomenal discussion. And he said, the frustrating thing is when you first start off as an entrepreneur, Paula, also, you need people who are, they love your brand, they love what you're doing, they're jack of all trades. And he goes, and the sad thing is those are not the same people that will work when you get to several million dollars. When your sales change, now I need people who are niche and understand specifically finance, understand specifically marketing. Every business goes through this growing pain of this person who was my right-hand person who I absolutely loved is not the same person it's going to be.

13:47He goes in, it's horrible and it stinks. And I know that we want a VTSAX and chill forever, but if you're doing that, you're, ah, could do so much better. And you're like, well, so what? I have enough. Don't tell me that. Don't do that. Don't do that to yourself. Don't do that to your community, especially when the same people, Paula, that say that are so smart, like they're so smart in every other area. But it is definitely a wonderful problem for Melissa to have that her portfolio is big enough that she can focus on things like tax loss harvesting. Again, to your praise of Melissa's situation, you get to this point and being more analytical is going to pay some serious dividends.

14:26Right. Do you have any particular tips for Melissa, given the fact that she is not on the typical 30 to 40 year investing timeline? Like she talked about wanting to mitigate the volatility given the shorter timeline, the shorter time horizon. I love that. I'm glad you brought that up because I'm looking at my notes and that is a note that we haven't addressed. I'm with Melissa's partner. I really like aggressive portfolios as well, But there's two reasons to have an aggressive portfolio, Paula. One is that aggressive portfolios have paid the last many years. We've gotten used to the fact that, hey, if I put my foot on the gas, my portfolio goes.

15:05And it goes really, really, really well from about 2008 to with a few notable exceptions, right? The beginning of the pandemic, the little hiccup we had a few weeks ago. But mostly it has been up, up, up for the stock market. That chasing returns, I like being aggressive because it works and chasing returns, I think is a trap. It's a monster trap. If you are aggressive because you're okay with that roller coaster and you understand that longevity is in our favor, where we may live longer than ever, where you need our money to last longer than ever, then being aggressive is not a bad thing. So I'm very curious to get into much more from a psychological perspective, Paula.

15:48Why does Melissa's partner like being aggressive? I personally think that there is definitely a middle ground. And you know what's cool? You can be aggressive, but at the same time, diversify better. And this is another great thing about going in the direction. About the efficient frontier. Yeah. She now. Now, you can add more aggressive assets to your portfolio and it actually smooths out the entire ride in the aggregate. It's so cool. Now she'll have several different funds with amounts of money in them that are substantial and make sense and will drive the portfolio. So you've got some up and some down.

16:26And so at any point she can stay aggressive, but at any point she also has far more options to pull from if she decides the goals have changed. What I really liked about her question though, and about a statement she made, she talked about a statement I made. This is what I love about hers is she was talking about when she'll need the money. And I think that instead of looking at your continuum between being aggressive and being conservative, instead of looking at a different continuum of when am I going to probably need this dollar? and investing that portion of the portfolio based on when I'm going to need it, she may be more conservative with the money she's going to need 10 to 15 years later than she will be with the money that she needs in 20, 25 years.

17:07She could stay aggressive with part. She could be more conservative with the other part. She's also in a much more scientifically designed portfolio with these intelligent portfolios she's talking about, which means she's more diversified. She's conservative when she needs to be. She's aggressive when she needs to be. It doesn't have to be one or the other. Her partner can have some money in the aggressive. She can have money where it needs to be more conservative for the more immediate term bucket. So it's a great, great question. Right. What did you think of that question? Mentally, I'm bucketing the uses of her money into two buckets.

17:40There is the bucket in their sixties and then the bucket in their seventies plus. My feeling is go aggressive with the 70 plus bucket. Yeah. You know, sure. You don't have 30 or well, actually you, you kind of do, you do have 30 or 40 years on that, at least on a portion of that. You know, if you're in your early fifties and I don't know precisely what age they are, let's say they're 52, 53, 54. If you're 54, oh, 40 years from now, you're going to be 94. If you plan on living until you're a hundred, or at least you're planning your retirements as though you're going to live to a hundred, then there is a portion of your money that you are investing for 40 years.

18:18I love the bucket thinking. For the people that are new to this, thinking about your money and when you're going to spend it is so much better than trying to choose. The most popular question that I used to get was always, so what's the best investment? And the best investment is based on that bucket. I hear that a lot when I just in casual conversation, when people say, so what do you do? And I say, oh, I host a finance podcast. Oh, so what's the best investment? What's a great thing I should be investing in right now? Right. Right. As though it's some type of a one size fits all silver bullet.

18:54You know what I always do? I tell people, I'm like, well, about six years ago, I told people to start investing in NVIDIA and take a look at what happened. That's all me, frankly. Well, I mean, technically you did, Joe, six years ago, more than six years ago, you told people to invest in a broad market index fund. I did. Microsoft. Right. And yeah, and look at how big of a chunk NVIDIA occupies in a total stock market index fund. So see, you had that foresight. You're welcome, America. I'm just waiting for the letter from NVIDIA's CEO. Joe, thank you for keeping the stock price going up. You know, NVIDIA CEO started the company.

19:34He started NVIDIA when he was 30. And look at him now. Right? Yeah. 1993, he was 30. That was when he started NVIDIA. But going back to Melissa's question, Melissa, when I think through the two buckets, you know, anytime anyone retires, my brain immediately goes to sequence of returns risk. And what that means in terms of investments and asset allocation is that as you near retirement, a small portion, so this is going to be the third bucket, a very small portion of your money, the amount that you are going to tap in the first two to three years of retirement, make that portion enormously conservative.

20:11That's going to be your third bucket. And the reason for that is because you know with certainty that you will be tapping that particular bucket of money. And you also know that the timeline for tapping that money is fixed. Because once you retire, it's hard to reverse course. So you know with relative certainty that you're going to be spending this particular money at this particular time. That little sliver just for two or three years should be invested conservatively. The rest, the rest be aggressive with it. And if you want actually a great primer on this, we did an interview with Dr. Wade Pfau.

20:46We've actually interviewed him several times. He's a retirement researcher. And he talks about how the ideal asset allocation in order to cope with sequence of returns risk is to get gradually more conservative as you approach retirement. But then after the first couple of years of retirement, get more aggressive again. We'll link to the episode with Wade Pfau, as well as the episode with Nick Majuli and Paul Merriman in our show notes for this episode. So if you're watching on YouTube, you can find it in the description below. All right. We are going to take a moment to hear from the sponsors who allow us to bring you this at no cost to you.

21:22And when we return, we're going to hear from Hampton, who was surprised by one of the answers that we gave on a previous episode. We're going to hear from him next. And after that, we'll hear from an anonymous caller who has some questions about Roth 401ks and Roth IRAs. stick around. The holidays are such a busy time of year and I want to give my family one last relaxing weekend away before the new year. We can't wait to get out and experience life in the wide open spaces of Lancaster County, Pennsylvania, filled with locally owned shops, fantastic farm to table dining, and one of a kind experiences.

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23:02Welcome back. Our next question comes from Hampton. All righty, Paul and Joe. Hey, I got a question related to one of your answers from a few episodes ago. I usually try to predict what your answers are going to be, and I was way off on episode 524 when the last caller, his name was Mark, he was asked about how to use a$300 ,000 inheritance for mainly purchasing property, but he had already saved a whopping$80 ,000 for a down payment, but wasn't ready to purchase for another year. Now, I believe that one of the important things that he mentioned is that this money that he might be inheriting, he thinks is from a Roth IRA, but you immediately gave an answer for a traditional IRA.

23:43Now, when you interviewed Ed Slott back in episode 307, I remember Ed talking about inherited versus traditional IRAs and the tax implications. Now, I remember paying very careful attention to that episode because part of my investment strategy is to protect my little beneficiaries from paying high taxes when I move on from this world. Now, he talked about how the SECURE Act changed the IRA rules to where those that inherit a Roth or a traditional IRA have to withdraw the balance within 10 years. So if it's a traditional IRA, then you'd be paying the taxes on that inherited traditional IRA, and to lower the tax bracket, it might be wise to take out a tenth of that balance every year for 10 years.

24:30But if it's a Roth IRA that Mark is inheriting, and I think Mark said it might be, then it seems like the best withdrawal method might be to wait until the very last minute and at the end of the 10 years, then take it out so it will allow as much tax-free growth as possible. So if Mark is receiving a Roth IRA inheritance, I think the wisest answer is to leave it alone for 10 years so that the$300 ,000 that he's inheriting becomes$600 ,000 at 7.2 % interest, and he should use his savings and even some of the emergency fund that he has for a down payment instead of using that Roth IRA that he's inheriting.

25:11You did say that all of the tax implications are mute points since he wants to withdraw the money, but man, there is such a massive money advantage to leaving it alone for 10 years, you know, if it's in a Roth IRA that's being inherited. And then at the end of the 10 years, he could easily pay off the house if he wants to with tax-free money. Now, I'm not an accountant or anything, but I do listen to Afford Anything. And most people can afford to wait 10 years for that beautiful tax-free growth because that's kind of how I've been planning my retirement. And apparently those that he's inheriting from was planning that for him as well.