If you are part of the personal finance and financial independence community, you may have noticed a brouhaha brewing between two of our leading voices.
On one side is Karsten Jeske, who writes the incredible blog Early Retirement Now (and often goes by the moniker “Big Ern”). On the other side is Frank Vasquez, host of the wonderful podcast Risk Parity Radio.
The disagreement they are both facing revolves around one core idea: what is the best decumulation asset allocation? Specifically, they are debating the concept of risk parity.
The Great Decumulation Debate
I won’t dive too deeply into the weeds of explaining exactly what risk parity is. If you aren’t deeply embedded in these communities, you don’t need to know the nitty-gritty to understand the broader lesson here.
You see, Frank Vasquez is a big proponent of using the risk parity model for spending down our asset allocation in order to spend the most money. Karsten Jeske, however, believes that risk parity actually does the exact opposite—that it can cause us to have a lesser amount of money to spend down.
Let me start by saying that I am a fan of both of these thought leaders and content creators. In fact, when I am alone with Frank, he can totally convince me that risk parity is the way to go. On the other hand, when I am alone with Karsten, he can completely convince me that risk parity isn’t the way to go.
Why? Because they are both experts. They both use important data, and they are both able to fashion that data to prove their points.
But here is my problem with both of their approaches.
The Trap of Predicting the Future
Predicting the future is impossible. It is a fool’s errand.
When you look at people trying to make a point in personal finance, they typically rely on one of two things to predict the future:
Backtesting: We look at the past and consider it prologue. But we all know that none of us can truly tell the future, and we certainly don’t know if the future is going to perfectly mirror the past. If you winnow down enough information from the past, you will eventually find variables that ran together historically. That doesn’t mean one caused the other, and it doesn’t mean they will happen together in the future.
Simulations: We use Monte Carlo simulations to model possible future markets. The problem with simulations is that they are only as good as their inputs. You can fudge those inputs—change inflation slightly, tweak a specific return estimate, alter any small variable—and your simulation will be wildly off.
So, who is right? Is Frank right? Is Karsten right?
The truth of the matter is, none of us know. The future is a leap of faith. Spending down your portfolio and retirement decumulation are leaps of faith.
What Actually Matters
I don’t think predicting the future matters. I think what Frank and Karsten are doing is very brave, but I don’t think it answers the real question.
Instead of deciding which strategy is mathematically “better,” I suggest you ask yourself two completely different questions about your asset allocation:
Which plan are you more likely to stick with? (Could you actually manage a risk parity portfolio without getting overwhelmed?)
Which one will allow you to sleep at night? (If the answer is a traditional 75/25 asset allocation like Karsten often talks about, then go with that!)
We don’t know whether Frank or Karsten is going to be mathematically “right” in the end and that’s perfectly fine.
Why? Because you are not going to make an asset allocation decision today and blindly live the rest of your life that way, no matter what happens. You are going to see what happens in the present and the future, and you are going to pivot.
The Mark of a Wise Investor
Pivoting is more important than whether you start in the “right” place. Whether you decide to go with risk parity or not, whether you choose any specific decumulation strategy or not, isn’t nearly as important as paying attention every year and adjusting as necessary.
Predicting the future is a fool’s errand. But acting in the present to make a better future? That is what a wise person does.
And don’t you want to be wise?
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While I agree that we can't predict the future, so need to be prepared to adjust if needed, this is presented as a false equivalence, for a couple reasons:
1) We *know* that Karsten's analysis is safer, because he says you need a significantly lower safe withdrawal rate than Frank claims. Which means the odds of having to adjust spending downward are lower following Karsten than Frank.
2) You mention math, but objectively Karsten's math is more correct than Frank's. Karsten has a PhD. in economics, a former quant for the US Federal Reserve, and taught both undergraduate and PhD level economics university courses. Morningstar's Director of Personal Finance and Retirement Planning (Christine Benz) recommends Karsten as the foremost expert on FIRE Safe Withdrawal Rates.
Whereas Frank is a former lawyer. Karsten brings up relevant econometric and statistical analysis that is simply not within Frank's academic expertise, and points out the analysis Frank relies on (mostly PortfolioCharts) does not have a statistically significant sample size for FIRE timeframe retirements (currently 55 years of data to predict 5+ decades retirement planning horizons - at best 5 independent first decades) and is overfitted (a statistics issue).
Treating both as equivalent would be analogous to asking a surgeon and an English professor for second opinions on the pros and cons of a specific surgery. One is academically and experientially competent to provide the professional opinion and the other has expertise in a field irrelevant to that question. The very objections Karsten has with raising safe withdrawal rates with Risk Parity rely on the unique expertise of PhD level economics (though he explains the issues in terms easy enough for non-economist intelligent people to be able to understand).
Why would you treat the assertions and analysis of the English professor (or in this case, former lawyer) equivalently to the analysis by a top professional in the relevant field? Not to mention, Karsten lays out his analysis in great detail and with reasons for each factor, and every time they've debated, I've never heard Frank actually go toe to toe with Karsten's specific arguments.
Yes.
For all the diligence - that I love to read - index funds weren't even around for many of the back tested periods. Let alone easily accessible for regular people. The S and P 500 didn't even have its current float-adjusted market-capitalization weighting until 2005.
In any case, a 'Black Swan' could wipe either portfolio out. Is that likely? no. I suspect either is likely to be overly conservative.
But I think what you are saying is neither is 'true', but both may be 'useful'.