The personal finance industry is about security when we’re old, ill, or both. That’s a comparatively recent societal problem, and we’re still searching for answers. (More)

Pound Foolish, Part III: Searching For Security (Non-Cynical Saturday)

This week Morning Feature considers Helaine Olen’s new book Pound Foolish: Exposing the Dark Side of the Personal Finance Industry. Thursday we considered the history of personal financial advisors, and how their advice is too often worthwhile only for them. Yesterday we saw how the demise of pensions and the rise of the 401(k) created a profitable and powerful industry that resists even basic consumer protections. Today we conclude with why education and self-discipline are not enough to ensure financial security.

Helaine Olen is a journalist who wrote and later edited the “Money Makeover” series at the Los Angeles Times. She writes the “Where Life Meets Money” blog at Forbes, and her work has been published in the New York Times, Wall Street Journal, Washington Post, The Atlantic, BusinessWeek, and several online news sites.

The cost of progress….

Our search for security when we’re old or ill is, ironically, the cost of progress. Two hundred years ago, “retirement” as we now know it was vanishingly rare. Instead, people worked until they died, or until relatives took them in, usually in exchange for babysitting or other light domestic work in a multi-generational household. Illness and injury were more common – due to poor public sanitation and dangerous working conditions – and more life-threatening. All in all, healthy people didn’t live as long as they do now, and life expectancy was even shorter for those who were seriously ill or injured.

Industrialization, urbanization, sanitation, better diets, and modern health care changed that millenia-old pattern. A serious illness or injury was less often about hoping for divine mercy and more often about turning to doctors and new medical technology. And as more of us began to live longer, fewer of us wanted to support our parents or be supported by our children in retirement. The search for how to enable seniors’ independence when their monthly earnings could no longer meet their monthly expenses was born.

Bismark and Roosevelt

As Olen notes, that began in the 19th century, when Otto von Bismark proposed to stave off the rise of Germany’s socialist movement by offering state pensions for those too old to work in the fields or factories. Bismark set the retirement age at 65, a rather canny figure as the adult life expectancy in Germany was only 62. When Franklin Roosevelt copied Bismark’s plan – as Social Security – he proposed the same retirement age of 65. By then, the adult life expectancy in the U.S. was … 63.

In other words, as first enacted both in Germany and in the U.S., more than half of the nation’s workers would pay taxes toward a pension benefit they would not live to collect. Even so, Social Security was intended to supplement pensions that workers earned on the job.

And in the U.S., in the 1960s and into the mid-1970s, the combination seemed sound. The growth of the postwar economy kept most public pension funds sound, and Baby Boomers were entering the workforce and paying taxes to support their parents’ and grandparents’ Social Security benefits. Indeed the oft-hailed budget surplus of the late 1990s happened largely because so many Boomers were in their peak earning years, boosting both the economy and federal tax revenues.

“The money will come later”

Yet the rise of radical individualism in the Reagan years spurred a search for a different solution. Individuals, not government or unions, should provide for themselves, including their own financial security in retirement. Even as the median wage stagnated and more of our nation’s earnings were funneled into ever fewer hands, employers switched from pensions to 401(k)s and shifted both risks and costs onto their employees.

That approach might have worked well had most workers had the financial savvy, time, and disposable income to invest in building and monitoring their personal retirement funds. Instead many lacked the time and income, and those who had both demonstrated what behavioral finance experts Brad Barber and Terrance Odean called “perverse security selection abilities.” That’s finance-geek-speak for consistently picking bad stocks and other investments.

Not to worry, the booming financial services industry told and still tells us. Take an online trading course. Get an account. Do some analytics. Even a sarcastic baby can do it.

But as Olen reports, the vast majority of people who try to play the market will lose. She describes Daryl White, who got burned in the dot-com bubble of the late 1990s and was back in 2011, having spent thousands of dollars in the meantime on classes and products that promised to make him a better trader. When she asked him how much he had lost, he replied: “I’m still learning the rules. The money will come later.”

“You need to get in the game!”

Thus yelled Jim Cramer, the host of CNBC’s Mad Money, on the day Olen visited his studio. She describes the set as “half man-cave, half Disney Playhouse, filled with objects of bright primary colors and clutter of mysterious province.” Cramer was yelling not at Olen but at his audience, through the camera:

It doesn’t help at all that pundits and professionals are constantly telling you it’s impossible for you to manage your own money effectively, to consistently beat the S&P 500. Don’t listen to the naysayers. I know you can do it. I know you’re capable of picking winning stocks and holding onto them.

Maybe so, if you’re lucky. Otherwise you’re likely to fooled by “The Cramer Effect,” buying stocks that he recommends and seeing them run up in price over the next few days, only to slide later. The stock price rose because you – and other Mad Money watchers – were competing to buy the stocks Cramer picked on the air. Once that flurry passed, those stocks reverted to their market values, or worse. University of Dayton professor Carl Chen analyzed Cramer’s picks and concluded that “listeners would have been better off promptly shorting any stock Cramer deems a buy.”

Simply, there is no consistently reliable way to beat the market, unless you cheat with insider information. Ordinary investors, by definition, don’t have inside information … unless you bought it for $1000 from one company that offered online trading courses. The SEC levied a stiff fine, as trading in inside information is as illegal as trading on it. Oh, and that $1000 inside information … was wrong.

“Women, in their eagerness to give back….”

Women face special financial challenges. Most are “lacking a gene” for strategic thinking, or at least so says H&R Block heiress Barbara Stanny:

Men seem much savvier at strategic thinking. Women, in their eagerness to give back to their community and give birth to their dreams, often neglect this critical step.

Yet as Olen notes, “There’s only one problem with this analysis. It’s not true.”

Yes, women have far smaller retirement accounts than men, on average, but not because men are better investors. Women have smaller retirement accounts because entry-level female secretaries earns $1270 per year less than an entry-level male secretaries, female MBAs start off earning $4600 per year less than male MBAs, female heart surgeons earn $27,000 per year less than male heart surgeons, and female entertainers in the Forbes Celebrity 100 list earn an average $14.5 million per year less than men.

All in all, a woman without a high school diploma can expect to earn $300,000 less than comparable men over the course of their lifetimes … and women with at least a four year university degree will earn $723,000 less than comparable men. Olen quotes Mariko Lin Chang, the author of Shortchanged:

Personal finance for women falls into the whole self-help movement. There is this whole cultural thing that women need help to be fixed. In many ways, these types of efforts – I don’t say they are useless, but if you don’t have the money to save, they won’t help.

Indeed women have a slight edge on men. Although Manisha Thakor notes that “Both genders are woefully financially ignorant,” women are more likely to recognize that and avoid the kind of aggressive risk-taking that leaves many men with empty online trading accounts. Brad Barber and Terrance Odean of the University of California found that over the long term women outperform men on investments, not because women tend to make better choices, but because women tend to make fewer choices.

The mathematical implications are glaring, even if Olen never explicitly states them. If people who make more investment choices lose more money on average than those who make fewer investment choices – and the data show this is true both for ordinary workers and professional traders – then the average investment choice is a net loser.

“The solution for people who don’t want to regulate”

The solution, obviously, is better education. Starting in high school – at the latest – we need to teach young people how to manage their money. But don’t take my word for it. Ask the financial literacy industry. They’ll happily extol the virtues of your public school hiring their vendors to teach your kids. Your kids might even get to spend a day at one of those mini-villages and run a tiny Capital One bank, or a Burger King, or a Verizon cell phone kiosk. They’ll see how business really works, from the inside, and emerge better able to look out for themselves in the real world.

Or not. All of those corporate logos in the classrooms and fairs aren’t about making the experience feel more real. They’re about planting seeds in the minds of soon-to-be consumers. Susan Linn, director of the Campaign for a Commercial-Free Childhood, says the companies who sponsor these courses and fairs “are trying to create brand loyalty. Lifetime brand loyalty.”

Indeed there is no evidence that financial literacy courses and fairs produce more financially savvy adults. Says Jane Bryant Quinn: “Why would you expect people to understand the ins and outs of investing? If they were interested in investing, they would have gone to Wall Street.”

The same companies that sponsor financial literacy courses spend millions of dollars lobbying Congress to block commonsense rules that would make investing easier. As the Consumer Federation of America’s Barbara Roper says:

Education is the solution for people who don’t want to regulate, who aren’t even willing to support disclosures that might present information in a way that makes the industry uncomfortable.

“We need to talk about our money”

This is Olen’s conclusion, and it’s true enough. She includes in that not only talking about our individual successes and failures, but recognizing that few of our successes or failures are truly individual. Italics make the truth of Olen’s conclusion clearer:

We need to talk about our money.

That conversation must include how business revenues are shared between workers and investors, who pays taxes and how much, and what we hold as a baseline for the sick and the elderly. Conservative calls to heed the wisdom of our Founding Fathers miss the central point:

This is not a problem our Founding Fathers faced, or could imagine.

Few of them lived long enough to retire, and almost none retired in the modern sense. To offer better diet and health care, longer life, and retirement with dignity only to those who can afford it on their own … is to declare that modernity is a privilege of wealth and the rest of us must be cast back to the 18th century.

“We” do indeed need to talk about “our” money.


Happy Saturday!