Do Financial Planners Plan With the Tools They Use on Their Clients?

Three years back I received an email from Steve Francis (not his real name) who was, the day before, CEO of a largish financial advisory firm. Steve’s wrote that he’d just sold his firm and could finally contact me. Steve said he loved my company’s MaxiFi Planner software and was a long-time user. MaxiFi, as readers of this page know, does economics-based, lifetime personal financial planning.

When we Zoomed, I immediately asked what planning software his company was using. No surprise, it was one of the three essentially identical conventional planning tools large investment advisory firms force all their advisors to use.

Restricting your advisors to one tool costs less — your firm receives a larger group discount. It ensures that your advisors can fill in for each other. And it speeds up the process of getting to yes — getting a prospective client to let you manage their assets, at, of course, a lucrative fee.

You’d think planning for clients with the best software would boost profits. But conventional tools, as explained here , embed a bait-and-switch methodology that’s been carefully honed to produce the yes as quickly as possible.

Steve was obliged to work in his shareholders’ interest, namely to maximize his company’s profits. Hence, he couldn’t switch his company’s planning tool. Nor could he risk word getting out about his preferred planning system. So, he waited years to get in touch.

Why Even the Rich Need to Do Financial Planning

Steve is well heeled. He’s rich enough to pursue his main and wonderful passion — charitable giving. You’d think a philanthropist wouldn’t bother with a planning tool. But Steve needed, and, as things change annually, still needs to calculate the impact of his giving on his family’s sustainable discretionary spending.

Getting this right without MaxiFi is impossible for many reasons, particularly the simultaneity problem that seriously complicates all personal finance questions. Here’s the problem. Any decision you make changes your path of sustainable spending which changes your path of taxes, which changes your path of sustainable spending, which changes your path of taxes, which changes … .

Let Y stand for the path of sustainable spending and X for the path of taxes. Then Y depends on X and X depends on Y. Solving such simultaneity problems requires find a path Y, call it Y*, that produces a path X, call it X*, that permits, along with other inputs, the path Y*.

The fact that MaxiFi’s patent-winning algorithm can resolve all such simultaneity problems precisely, consistently, and verifiably (by inspection of reports) in a half second — and do so taking account in minute detail all federal and state tax systems as well as all Social Security provisions — is simply magical. This is why I called my recent book, which relies on MaxiFi, Money Magic. Yes, the title sounds over the top, but I felt it was appropriate. Our nation’s prestigious association of business writers, SABEW, agreed. They voted it the top personal finance book of 2022.

Steve’s No Exception

Many financial advisors use MaxiFi for their personal planning. Some who are particularly busy or nervous ask me to run the program for them. Given all the requests, I’ve now started a service to help them and anyone else with direct planning. This service should appeal to those short on time or desire to run software and those who need a financial therapist to guide them through the process. There are also those with more complex planning issues — like converting your California house — into an ADU (Additional Dwelling Unit). MaxiFi can handle any and all special cases, but its use may require an experienced hand. This said, virtually all our clients use Maxifi, which is very inexpensive, fully on their own.

MaxiFi does both deterministic and stochastic planning. Deterministic planning, also called certainty equivalent planning, treats the future as for sure, but does so making highly conservative assumptions including assumptions about future investment returns. Certainty references planning for sure, i.e., for certain. Equivalent references using conservative assumptions such that your plan is equivalent to what you’d form if you took risk into explicit account.

MaxiFi’s stochastic planning does take risk into explicit account. It does so via two approaches: Upside Investing and Full-Risk Investing. Upside Investing delivers only upside living-standard risk at the cost of spending only out of safe assets. Risky assets are treated as lost until they are found, i.e., sold and used to purchase safe assets. Hence, under Upside Investing, you’re own spending out of assets that are safe, not just now but in the future.

Full-Risk Investing considers spending cautiously out of risky as well as safe assets. But spending, even cautiously, out of assets that may go poof means taking on downside living-standard risk.

With Upside Investing, greater upside risk — the potential for higher future living standard floors — comes at the price of a lower living-standard floor that may never rise if one’s risky assets do go poof before being sold. With Full-Risk Investing, living standard trajectories can go down as well as up.

Upside Investing is surely the way many, if not most of us want to invest — with only the possibility of good living-standard news down the road. But others of us are willing to spend out of their risky as well as safe assets knowing there is a risk their investments will head south forcing them to reduce their life styles. MaxiFi uses its Comfort Index to compare alternative Full-Risk Investing strategies.

The Comfort Index is shorthand for what economists call lifetime expected utility (LEU). LEU maximization is the foundation of finance developed starting with the work of John von Neumann and Oskar Morgenstern. (von Neumann is the famous physicist, mathematician, computer scientist, engineer and polymath who worked on the Manhattan Project and helped developed the digital computer.)

LEU’s subsequent development and extension to the operations of financial markets and securities pricing underlies multiple economics Nobel Prices. Every economics and finance PhD student at every decent university across the globe learns LEU in their first year of graduate studies. In contrast, not a single decent economics or finance PhD program teaches conventional planning — for a clear reason. It’s predicated on behavior that’s at total odds with economics fundamentals, not to mention common sense — producing recommendations that no one in their right mind would follow.

Imaging a PhD program in biology denying the existence of DNA and you’ll understand why no decent economist spends even 10 minutes teaching conventional planning except, perhaps, to expose it for what it is — a bait-and-switch sales job that leaves households with up to a one-in-five chance of financial destitution — losing every penny of one’s financial assets during retirement.

Are the SEC and FINRA Ignoring their Regulatory Responsibilities?

The orthogonality between economics-based planning and conventional planning should be of extreme concern to both the SEC (The Security and Exchange Commission), which regulates RIAs (Registered Investment Advisories), and FINRA (The Financial Industry Regulatory Authority), which regulates broker/dealers. Indeed, both agencies should read this description of the bait-and-switch as well as this paper by Wade Pfau and Massimo Young. (I discuss their paper here and in my podcast with Wade.) Their study shows that many RIAs are placing their clients at even higher than one-in-five destitution risk by selectively choosing the data used in their conventional Monte Carlo simulations.

The SEC mandates so-called duties of care that all RIAs must fulfill. These include the duty to provide advice that is in the client's best interest. Substituting sales for planning tools is not providing advice in the client’s best interest. The SEC has, therefore, a responsibility to analyze the tools RIAs are using to provide their “advice.” The SEC is packed with lawyers, not economists. Hence, they should engage leading professor of finance to provide their assessment.

As for FINRA, its Rule 2111 requires that a firm or associated person have a reasonable basis to believe a recommended transaction or investment strategy involving a security or securities is suitable for the customer. Conventional planning does not provide a broker/dealer with a reasonable basis for recommending an investment strategy. Consequently, FINRA also has regulatory responsibility to investigate the tools broker/dealers are using in forming their investment recommendations.

Whether or not the SEC and FINRA do their job, RIAs and broker/dealers should properly worry about being sued given the “guidance” tools they are using on their clients — tools so many of their employees/associates know are awful and wouldn’t begin to use for planning their own family’s finances.

Stay Clear of Conventional Planning and Conventional Planners

Since you are reading this column, don’t wait for the SEC or FINRA to act. You know how to protect yourself. If you aren’t using a planner, sign up for MaxiFi. Either run it yourself or have me run it for you. Alternatively, run it yourself but have PhD economist and CFP, Jay Abolofia, serve as your co-pilot. Yet a third option is to run it yourself, but schedule an expert review with Dan Royer, head of MaxiFi’s customer support.

If you are using an adviser, ask them to run you through MaxiFi Planner and explain why the two approaches produce opposite suggestions. Let your planner know I’m happy to help them with this task. If they say their conventional planning tool is tried and true, consider switching to an RIA that uses MaxiFi. Alternatively, run MaxiFi yourself, with or without help, and tell your “advisor” exactly what your want them to do with your assets.

Related: Retirement Readiness: Mary Beth Franklin on Social Security Benefits & Planning