You have enemies? Good. That means you've stood up for something, sometime in your life. ~ Winston S. Churchill
I am now stepping out of line in criticizing Dave Ramsey. When he claims one can get a 12% annual return by investing in a particular mutual fund, I understand. When he suggests that one should only invest in equities, with no regard for risk tolerance, I will say, "If that's what you want." I will no longer publicly criticize him, because for any financial professional, Dave Ramsey should be considered an ally, not an enemy.
About that 12%
Ramsey has always claimed that one can achieve a 12% annual return, because that is what the stock market, according to him, has averaged since 1926. With this, he encourages people to invest money, and over time they will become millionaires by the time they retire. He is so confident in this 12% figure, he will not budge from that number.
It is this statistic that drives the professionals crazy. Dave always fights back. In a 2014 rant, he went so far as to refer to CFPs as Certified Financial Pharisees for questioning his claims. He has even been known to take on financial professionals on Twitter about the issue. Needless to say, Dave is a little sensitive about the topic.
First things first; the S&P 500 did not start in 1926, but rather in 1923. The index, as we know it, did not have its inception until 1957. Regardless, the average for the index has been around 10% since those time periods. One just has to analyze Robert Shiller's data to verify that fact. Based on this, not only is the 12% claim optimistic, it is simply wrong. Ramsey has been known to double down on his misstatements by saying the S&P 500 is the, "…500 largest companies on the New York Stock Exchange." When he says things like this, he shows a level of naïveté that is actually charming. Regardless, it is the 12% number that so many find troubling.
Now to defend Dave. If one listens to him carefully, he often refers to a mutual fund that has averaged 12% since 1934. All of my conversations with professionals in the field leads one to conclude that he is talking about American Funds' Investment Company of America (AIVSX). Started in 1934, the ICA has averaged a 12.13% annual return since inception. When Dave says there is a mutual fund that has averaged 12% since 1934, he is telling the truth. To validate his claim, the Pioneer Fund (PIODX) has averaged 11.88% since 1928, so there is evidence to prove Dave's thesis.
So where does that leave us? One has to distinguish between Truths versus Validity. Truth is where something is factually correct. Validity is where the one's argument is logically sound. Now, here is the quirky thing about validity; if the premises are false, but the conclusion is true, then the argument can still be valid if it follows a proper construct. Dave's premises are wrong about the S&P 500. The index has only averaged 10% since the mid-1920s, and only 9% since 1871. This is far short of his 12%. However, there really is a mutual fund that has averaged 12% since 1934. There are others that have averaged a similar return over the same time period. Given that, should one still invest some money? The answer is, "Yes," or as Dave says it, "Invest some freaking money." It does not matter whether one yields 9% or 18%, they are still better than zero, which is the growth rate when one invests nothing.
Asset Allocation
This is how Dave says one should invest:
Divide your investments equally between each of these four types of funds: Growth, Growth & Income, Aggressive Growth, and International. Choose A-shares (front end load) and funds that are at least five years old. They should have a solid track record of acceptable returns within their fund category.
Dave is taken to task on these issues by financial professionals for a variety of reasons. Two are that he does not recommend fixed income, and the other is that he recommends A-shares.
On the issue of all-equity investing, Dave says this about investing in debt securities, "I personally do not like bonds for several reasons. First, it's based on debt, and it's no secret what I think about debt-borrowing or lending." This is from his book, Complete Guide to Money. Dave makes no secret that he is a Christian. Anyone who has studied the bible will see multiple verses and proverbs warning about debt and usury. For Dave and other Christians, profiting from debt would be considered a sin, so one should not do it. While I do invest in fixed income (20%), it is a completely valid to invest in an all-equity portfolio, as long as one understands the risks.
Additional arguments made about Dave's asset allocation focus on his equal allocation among the four mentioned asset classes. Again, Dave may be valid, even though one may not think he is right. Let's not hide one simple fact, Dave is always referencing funds and using language from American Funds. He talks about American Funds ICA, often. When he talks about Aggressive Growth, Growth, Growth and Income, and International, he is using the same asset classifications as American Funds do. Edward Jones also uses this same language, and that company is famous for their relationship with American Funds.
Why is it important to know that? It is important so one can understand that his investment philosophy is valid, because American Funds is now mirroring it with their Growth Portfolio. The asset mix is as follows:
- Growth and Income-30% Fundamental Investors Fund (ANCFX)
- Growth-30% AMCAP Fund (AMCPX)
- International-25% EuroPacific Growth Fund (AEPGX)
- Aggressive Growth-15% Smallcap World Fund (SMCWX)
This is not equally allocated as Dave recommends, but Dave has said:
If your risk tolerance is low, which means you have a shorter time to keep your money invested, put less than 25% in aggressive growth.
Does this American Funds' allocation work? I used a hypothetical beginning April 30, 1990. $250 was invested monthly with annual increases of 3%. The funds were rebalanced annually based on the aforementioned allocations. The returns? 9.43% per year would have been realized, which would have beaten the benchmark (8.04%) for the same period. This includes the fees and loads. So one can understand the risks, 2008 saw a 38.89% loss. It is easy to see that there are risks with this style of investing. Additionally, it is worth noting that this return is far short of 12%, but it is far better than 0%.
A-Shares and Paying For an Advisor
What about those A-shares and their upfront loads? Those pesky little fees that one has to pay just get started? The total of the loads amounted to a 4.09% in up front charges over the 25 year period. One might ask, "Why should I pay that?" The answer is simple. If one seeks the advice of a financial professional, then one should have to pay for the advice. Dave not only recommends hiring an advisor, but he even outlines how to hire one.
Is paying for advice worth it? The answer, again, is yes. Dave says:
People who invest by themselves cash out nearly twice as often as investors who work with a pro because they panic and cash out their investments at the wrong time. And, because investors who work with an investing professional pick better funds and hold onto their investments during down markets, they average 3% more on their money than do-it-yourself investors.
To support the decision to hire an advisor, one can look at the Bible to warrant this position. From Proverbs 15:22, we have, "Plans fail for lack of counsel, but with many advisers they succeed."
Actually, the difference is even bigger and deeper. Here are the facts, people are generally terrible at handling their money on their own. According the Dalbar Quantitative Analysis of Investor Behavior, the average equity investor has actually underperformed the S&P 500 by approximately 400 basis points per year over the last 20 years. That is a shocking underperformance that would keep anyone from achieving their goals. The conclusion of the study states:
The future success in the investment business will belong to those who manage prudently and relieve investors of the burden of learning the business themselves.
Quite simply, the average investor does not have the time or the willingness to learn about the investment world.
The hypothetical is pretty clear, the portfolio returned an extra $75,266; that is after one accounts for the loads. If one accesses an advisor, and uses A-shares, then yielding a healthy positive return over time is possible. One still might beat the benchmarks. That fact cannot be disputed, so maybe Dave is valid after all.
I know this site caters to those who which to allocate their money on their own. It might even seem possible to just follow Dave's mutual fund allocation strategy, and call it the day. Even if one wants to buy mutual funds, and allocate those without the advice of a financial advisor, there are benefits to hiring a professional. A reputable advisor will have access to economists, market data, reports, and analysts that are not available to the do-it-yourself investor. This is the type of professional advice that will benefit an amateur. Additionally, when you take that 2008 punch in the mouth, will you stick with your plan, or will you bail, and hide everything in a mattress? The investors who came out of that fiscal fiasco are the ones who did the best, and an advisor can help one navigate through those scary waters.
Concluding Thoughts
As much as I enjoy managing my own assets, I do access the advice of other professionals in the field. No one person is able to understand everything. That advice might be through a mutual fund manager for my 401k, or it might be through a CFP to help me navigate through any specific issues I have. As for achieving 12%, I have personally achieved that amount over the last 12 years, but I will not claim that is always possible in the future. No one can predict that, and anyone who does is a fool. Even the model portfolio based on Dave Ramsey falls short of that mark. I am comfortable, though, predicting that over the next 20 years the market will be up, so I am pretty aggressive right now. As for asset allocation, I prefer to use a blend from the American Association of Individual Investors:
- 20%--Large-Cap Stocks
- 20%--Mid-Cap Stocks
- 15%--Small-Cap Stocks
- 17.5%--International Stocks
- 7.5%--Emerging Markets Stocks
- 10%--Intermediate Bonds
So in the end, Dave is crazy like a fox. Access the advice of a professional, diversify over several classes, follow a strict strategy, and don't be afraid to pay for the advice. Oh yeah, don't forget to invest some money.
Happy Investing!
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