By Mark Hulbert, MarketWatch
Would better education lead to retirements that are more financially secure?
That question was prompted by the federal government’s recent recommendation that financial literacy courses become “mandatory” for college students. The motivation for this recommendation, from the government’s Financial Literacy and Education Commission, is “empowering [individuals] to make optimal financial choices.”
It is of course difficult to argue with that laudable goal. But how much will the situation improve by making financial literacy courses mandatory?
I am skeptical. In my experience, the biggest obstacle investors face is not cognitive but behavioral. Even when they have sufficient knowledge, they still do the wrong thing. No amount of education will overcome that.
Perhaps we should mandate that college students see a therapist.
Consider one of the more outrageous examples of egregious investment advertising in my four decades of tracking investment newsletters. The ad claimed that the adviser in question had devised a market timing system that turned $10,000 into $40 million over a 13-year period. Since my Hulbert Financial Digest had been carefully auditing the performance of this adviser, I knew it wasn’t true.
But you wouldn’t have needed my auditing to know that. No one, not even Warren Buffett, the most successful investor of the modern era, had ever produced a 13-year record anywhere close to being that good. Indeed, the best 13-year stretch in Buffett’s storied investment career would have turned $10,000 into “just” over $317,000—a far cry from $40 million.
What’s relevant about this example to the question of mandatory financial literacy courses: When I talked to clients about this particular advertising claim, they all assured me that they knew it wasn’t true. Yet they nevertheless were intrigued enough to subscribe to his newsletter, on the theory that even if only a fraction of his alleged performance were true it would still be impressive.
This example reminds me of a joke Warren Buffett recounted a number of years ago: An oilman dies and is told by St. Peter that while he deserves to get into heaven, there is no more room since there are already too many oilmen there. The oilman asks if it’s OK for him to try to convince some of the oilmen already in heaven to go to hell, thereby opening up a spot for him, and St. Peter agrees. The oilman finds a convention of oilmen in heaven and yells to them that oil’s been discovered in hell. Pretty soon there was a steady stream of them headed straight to hell, surprisingly with our newly dead oilman following fast on their heels. When asked why he was turning down a spot in heaven, the oilman replied that, you never know, the rumor about the oil discovery just might be true.
These investors’ willingness to believe shows that their problem wasn’t one of education but of a gullibility borne of greed. What kind of financial literacy curriculum would help them overcome that?
Undoubtedly it would help investors if they knew simple math, like how to calculate the long-term impact of compounding. But, beyond teaching simple math, it’s unclear what else that a financial literacy curriculum should include.
Take diversification, which you might otherwise think is one of the most important of investment principles to be taught in a financial literacy course. But in developing the curriculum for that course you would soon discover that Buffett, along with other legendary investors, reject what he refers to as this diversification “dogma.” In his 1993 letter to Berkshire Hathaway /zigman2/quotes/208872451/composite BRK.A -2.89% /zigman2/quotes/200060694/composite BRK.B -2.31% shareholders, for example, Buffett says that only if you are a “know-nothing” investor should you follow the conventional wisdom on diversification. Otherwise, if you are a “know-something” investor:
“Conventional diversification makes no sense for you. It is apt simply to hurt your results and increase your risk. I cannot understand why an investor of that sort [a know-something investor] elects to put money into a business that is his 20th favorite rather than simply adding that money to his top choices—the businesses he understands best and that present the least risk, along with the greatest profit potential.”
How would you incorporate that into your financial literacy curriculum?
This challenge becomes even more intractable when you consider that perhaps the most obvious book to include in the syllabus for such a course is Benjamin Graham’s The Intelligent Investor. Graham, of course, is widely considered to be the father of fundamental analysis; he had a phenomenal track record over many decades. Yet more than half of the lifetime profits of his firm came from an outsize investment in just one company—GEICO.
In fact, Graham broke many of his own rules in allocating such a big portion of his portfolio to that company’s stock. In a postscript to the fifth edition of The Intelligent Investor, Graham writes that his firm’s investment in GEICO was in no small part dependent on “dumb luck.” One of the morals he drew is that “one lucky break, or one supremely shrewd decision—can we tell them apart?—may count for more than a lifetime of journeyman efforts.”
How would you teach that investment lesson?
And let us not forget the perennial challenge on whether to begin taking Social Security at 66 or age 70? Even the most highly educated and sophisticated financial planners often disagree on the answer to this age-old question. How would you teach that?
I could go on and on, of course. The sad and sobering truth is that the graveyards of Wall Street are filled with individuals who had been incredibly smart, with Ph.D.s from prestigious institutions. Remember Long-Term Capital Management , led by Nobel laureates?
So go ahead and take all the financial literacy courses you want. But don’t kid yourself that more knowledge will lead inexorably to a financially more secure retirement.