Sunday, April 02, 2006

Conventional financial planning might be bad for your financial health

Professor Laurence J. Kotilikoff analyzes conventional financial tools and finds them wanting:
Although mathematicians, economists, and engineers are well versed in dynamic programming, the architects of traditional financial planning software are not. Or, if they are, they are constrained by their superiors to keep things simple, which, in this context, means failing to elicit much of the information...

...None of us would go to a doctor for a 60 second checkup. Nor would we elect surgery by meat cleaver over surgery with a scalpel. And any doctor who provided such services would be quickly drummed out of the medical profession. Financial planning, like brain surgery, is an extraordinarily precise business. Small mistakes and the wrong tools can just as easily undermine as improve financial health.

Yet is the fault really with the financial planner? Or is it really with the typical consumer? Very few folks enjoy playing with spreadsheets and doing the tedious work of say, rebalancing your portfolio. It's also amazing how much resistance people have towards managing money --- one engineer I spoke with a few years ago told me that tax planning meant that he was working for money, and that if he just worked hard, the money would come and he wouldn't have to "work for money." So it's not surprising that financial planners give such customers exactly what they want: a painless 60 second questionnaire that doesn't do any one much good.

Ultimately, perhaps it's no coincidence that the best site for financial planning I've seen was done by an engineer. It's very much do-it-yourself, but it has one thing that no other financial planner will give you: research backed by someone who's staking his own retirement on the results!

(Note: a tip of the hat to Scott Burns who pointed me at this study)
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