How Much Do We Really Know?

Journal of Financial Planning: April 2012


Ross Levin, CFP®, is the founding principal of Accredited Investors Inc. in Edina, Minnesota. His book Implementing the Wealth Management Index, published by Bloomberg Press, is now available. Contact Levin at

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I am really struggling with something. I am having a difficult time distinguishing between what I know and what I believe. This is not a minor issue. For example, I can observe how clients behaved during the 2008 markets, but I don’t know why they behaved that way. I interpret their actions filtered through my belief system and come up with a prescription for what to do to help them handle the next market stumble.

Here is another example. I know that clients want guidance on how much they can withdraw from their retirement plans, but I have no way of knowing what the optimum withdrawal rate is. I can suspect, but I can’t know. But even worse than not knowing is acting as if I do.

There are many things on which we offer counsel that we obviously don’t know—future rates of return, inflation, life expectancies or health issues, families staying together, length of the client relationship. All of these variables play into how we do our planning and how we render advice. If I am pessimistic about future prospects of the market, will my withdrawal rate analysis be influenced by this? Probably.

We cannot know the future, so we try to predict it. But the more confidence we have in our forecasts, the more likely we are to be wrong about them. In fact, in his book Thinking, Fast and Slow, Daniel Kahneman writes, “Errors of prediction are inevitable because the world is unpredictable … high subjective confidence is not to be trusted as an indicator of accuracy (low confidence could be more informative).”1 Yet we are drawn to those who give us answers and hold their truths as our own. We rely on their “facts” even though they only partially describe any story.

I am not writing this to frighten you; I am writing this to liberate you. We need to somehow gather useful information and analyze it, but recognize that economics is a social science. No matter how you churn any data, they will not spell out for you what to do. Wealth management is a business of questions, not answers.

What Do I Know?

The only things that we know are observable facts. We know how many kids our clients have. We know their current income. We can approximate their net worth (we don’t know their home values, business interests, etc.). We can see where clients spend their money. We know the things they have bought.

This is a pretty short list.

Given the little that we actually know, how can we make irrevocable decisions? Things that seem prudent initially could become completely inappropriate if circumstances were to change. One of our clients had two qualified personal residence trusts (QPRTs) established several years ago in order to save estate taxes. Three significant changes have made this strategy far less appealing: (1) estate tax laws have changed, (2) the husband died, and (3) the client is estranged and renting from the adult child who now owns her homes. This does not mean that the strategy should not have been implemented. It means that there are numerous variables that may make a strategy less enduring.

What Matters Now?

This to me is the most pressing question we need to understand. As we look into the future, we need to discount what we are expecting. This discounting occurs because the further out we go, the less clearly we are able to see. When a client wants to retire at age 60, it is more important to understand why than to create the how. Is the client running from a bad job? Is the client moving toward something? Are there aspects of the current situation that, if changed, may create a different perspective?

For example, one of our physician clients no longer wanted to work nights and weekends on call. The price of giving this up was a pretty steep reduction in income. On the surface, this seems like a bad trade, but the client is now enjoying her job and feels like she can continue in it much longer. If she works longer, she may not need to save as much. More important, though, this was not an irrevocable decision. If the client wanted to, she could go back to 3 a.m. phone calls. Many physicians are not willing to make the trade because they think the financial price is too high, but what is the value of continuing in a job that you enjoy and gives you meaning?

Maintaining flexibility is a key to planning around what matters now. Although there has been much written about sustainable withdrawal rates, much of the discussion has been three-dimensional—initial rates, inflation, and returns. But the conversation is far richer than this. We all need guidance as to a starting point, but the starting point is not the ending point. Kahneman writes, “We pay more attention to the content of the messages than the information about their reliability, and as a result end up with a view of the world around us that is simpler and more coherent than the data justify. Statistics produce many observations that appear to beg for causal explanations but do not lend themselves to such explanations.”2

When our firm looks at withdrawal rates, we incorporate certain analytics: three-year portfolio values, percentage of the portfolio a client would like to leave as legacy to children or a charity, and variability of returns. We also use alarms that may slightly restrict spending during dramatic portfolio revaluations.

But more important than the analytics are the connections with the clients. Flexibility and adaptability can be created in a number of ways. When clients retire, we try to drive down their fixed costs as much as possible so they can adapt much of their spending for when they feel richer or poorer. Most of our clients don’t spend the same amount of money when their portfolios have lost value. We like to raise cash up to three years in advance of their spending. When markets appear rich, we will go the full three years; when they appear undervalued, we may drop down to 18 months. When clients come in with a lump sum of money, we will target investing using a combination of date-certain or market corrections—for example, we split up the money into 12 scheduled tranches, and accelerate the investment on 3 percent market corrections.

What Am I Going to Do About It?

The challenge is to develop relationships with clients that will allow them to weather the storms that inevitably appear in any long-range plan. In my opinion, this challenge can only be met through regular interaction and connections. It involves engaging the clients when they are most concerned as well as most optimistic. And it involves tempering our own emotions during these extreme times. It means that we need to readily accept what we don’t know and help our clients see alternative outcomes.

In many ways, this is about attention. We need to improve our ability to notice things in our clients and ourselves. For example, Kahneman talks about the “conjunction fallacy, [where we inadvertently] think that the conjunction of two events is more likely than the singular event.”3 We may conflate the potential collapse of the European Union with a massive sell-off in U.S. stocks. That is only one of the things that could happen if the EU were to collapse. Things like Shiller P/Es are tremendously useful for thinking about long-term prospective returns, but they are statistically insignificant for shorter time frames. To me, this means that you pay attention to these types of metrics by gradually recalibrating your holdings rather than making huge market calls.

Attention to ourselves and our clients is especially important during these volatile times. Noticing our responses or reactions to issues and the environment can help us better see how we are getting in the way of sound planning.

Observation takes what is and gradually polishes it into what can be. It allows us to connect more closely with our clients and do better work for them. When we are really observing ourselves, we can see that our way is not the way. We don’t need to predict the future; we just have to get better at looking at the present and becoming comfortable that things will keep changing.


  1. Kahneman, Daniel. 2011. Thinking, Fast and Slow. New York: Farrar, Straus, and Giroux. 220.
  2. Ibid., p. 118.
  3. Ibid., p. 158.
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