The Bogle Center is pleased to present the nineteenth episode of Bogleheads® Live. Our guest for our episode is JL Collins , the author of The Simple Path to Wealth, and creator of an online content provider, known for his Stock Series, a series of blog posts that makes complex investment concepts accessible to the beginner investor. JL advocates for an impressively simple approach to investing that relies entirely on exactly two index funds – Vanguard’s Total Stock Market Index Fund (VTSAX) and Vanguard Total Bond Market Index Fund (VBTLX) – to achieve total market diversification. JL talks about his investment approach and a range of other topics including market volatility, fixed income investing, tax-advantaged accounts and early withdrawals, Black Monday and humble pie, why average investment returns are anything but, inflation and deflation, investing versus speculating, cryptocurrency, and how to talk to someone about making the switch to an index fund investment strategy.
Jon Luskin: Bogleheads Live is a weekly Twitter Space where the Bogleheads community asks questions to financial experts live. You can ask your questions by joining us live on Twitter each week. Get the dates and times for the next Bogleheads Live by following the John C. Bogle Center For Financial Literacy on Twitter. That's at bogleheads.net. For those that can't make the live events, episodes are recorded and turned into a podcast. This is that podcast.
Thank you for joining us for the 19th Bogleheads Live. My name is Jon Luskin and I'm your host. Let's start by talking about the Bogleheads, a community of investors who believe in keeping it simple, following a small number of tried and true investing principles. Learn more at the John C. Bogle Center for Financial Literacy @boglecenter.net.
The annual Bogleheads Conference is on October 12 to 14th in the Chicago area. Speakers include Eric Balchunas, author of The Bogle Effect, economist Burt Malkiel. Jason Zweig of The Wall Street Journal, Rick Ferri, host of the Bogleheads on Investing Podcasts, Christine Benz, Director of Personal Finance at Morningstar, yours truly and more. You can register at boglecenter.net/2022conference.
Mark your calendars for future episodes of Bogleheads Live. Next week we'll have Jim Dahle, aka the White Coat Investor. The week after that, we'll have Ron Lieber, author of The Price You Pay for College.
To help spread the message of low cost investing, we're doing a call for volunteers. We're looking for both podcast editors and transcribers. Shoot me a DM at Jon Luskin on Twitter if you'd like to volunteer.
Before we get started on today's show, a disclaimer: this is for informational, entertainment purposes only and should not be relied upon as a basis for investment, tax, or other financial planning decisions.
Thank you to everyone who has submitted questions ahead of time. We might not have time to answer all of them. Let's get started on today's show with J L Collins. J L Collins is author of A Simple Path to Wealth. It has sold over 4,000,000 copies and has been published in Korean, Japanese and German. It is a five star favorite. J L thank you for joining us today on Bogleheads Live.
J L Collins: It's a pleasure to be here. I appreciate the invitation.
Jon Luskin: Let's jump into our first audience question.
Audience questioner Malik: I know that you're a proponent of the one fund approach to achieving financial independence. Do you feel the one fund approach, as in being all in the Total Stock Market Index, is bad for long term investing, since we're concentrating too much in our home country and have a sense of home country bias?
J L Collins: Malik, that's a great question. And when it comes to answering this question, I tend to talk out of both sides of my mouth. That is to say, when I'm talking to a US.audience, like I believe this one is predominantly, I'm very comfortable saying all you need is VTSAX, Vanguard's Total Stock Market Index Fund, or a Total Stock Market Index Fund from another provider. The reason I don't feel a need for international for US investors is because the index is cap weighted, which means the largest companies in the index account for most of the money invested. Most companies are by definition international businesses. So I certainly believe there is money to be made in the international economy in other countries. But I think we have it covered with the US companies that are doing business in those countries, and we have the best regulation around those companies and those kinds of investments so you can avoid that kind of risk.
I don't feel the need to have other funds around the world. When I'm talking, for instance, to a European set of investors or anybody else around the world, I tell them to go into a world fund because the US is the only country that is large enough and dominant enough in the economy and in the stock markets where you can get away with what I just described. I would never recommend to Britain that they invest only in England or to a German only in Germany, or even that they invest only in Europe.
As time goes on, even Americans will want to switch to that international fund. I don't think that's going to happen for me, or in my lifetime. But I have this conversation with my daughter, who is of course a lot younger and has many more decades ahead of her. Basically the trend I see happening is from the end of World War II, when the rest of the world was literally in ashes and we were the only industrial country that was still up and running, the world economy was fundamentally the US. We had almost 100% of that pie, but of course the rest of the world rebuilt. In fact, we worked hard to help them rebuild. And that was good for them, it was good for us. And the net result of that is the pie itself has gotten bigger and bigger and bigger, and the US slice of that pie has gotten smaller and smaller. That's not a bad thing for the US, because our economy has grown pretty dramatically. It's a classic case of being better off having a smaller piece of a bigger pie than all of the smaller pie.
I see that trend probably continuing. Perhaps sometime in the future the US will not be dominant enough that I would be comfortable saying you can only invest there. For the foreseeable future if you're in the US. And like me, you don't see a need to be in other countries, I think you comfortably do that.
Jon Luskin: That answered another question that we had from the Bogleheads forum from the username carousel.
J L Collins: I'm psychic.
Jon Luskin: Yes. So Carousel, you had your answer to your question. Let's jump to our next audience question.Audience questioner: My question for you is actually about my parents. So my folks are still pretty young, in their early 50s. My mom's looking up to be a retired school teacher so she has a pension locked in. My dad is a pretty blue collar guy, but he's a high earner, always skeptical of the stock market, like a lot of folks are. And my mom recently approached me about having a conversation with my dad again, who's in his early 50s, about beginning to take the approach that we took about investing in index funds. Any suggestions that you might have about having a conversation with someone who is a little bit later on in life, but hopefully still has a good bit of time ahead of them, of investing?
J L Collins: I don't think I would have any comments to provide to them because they're a little later in life and 50, as you point out, is still very young. I think what I'd focus on instead, if they have been nervous about the stock market, if they have been unsure about it for it sounds like quite some time, I would be very careful about guiding them into it. And I try to be very sure that they understood a few basics. And the key basics that they need to understand is that the market is volatile. If they invest in the stock market, they can expect to wake up one day, or as we have in the last several months, wake up over the course of months and find that their stock account is down 20%. And actually 20% is a fairly mild drop. As these things can go, it could be 30, 40, even 50%. And it's critical that people understand that volatility, in order to attain the handsome returns the market can provide over time, you have to be willing to accept that volatility, and you have to tie yourself to the mast, so to speak, so you don't panic and sell.
I tell people all the time, if you are not absolutely sure that you can endure a market decline when it comes and not panic and sell, you don't want to follow my advice. If there's any chance at all that you're not going to be able to endure that, you're going to sell, my advice will leave you bleeding at the side of the road. For anybody entering into the market, but particularly for somebody in their middle age, who has been gun shy of the stock market and the scene that is risky. I would make sure they clearly understood that long term there are wonderful benefits and profits to be had, but the price you have to pay is you have to ride up those downturns.
The analogy I use is if you live in Florida, there's wonderful weather to be had. Living in Florida can be a wonderful lifestyle, but you have hurricanes and you should never be surprised if you live in Florida when there's a hurricane. Hurricanes come with the territory. They can be very scary, they can be very destructive, but they never last forever. And that's the same thing with market declines. They come with the territory. They're a perfectly natural part of the environment and we always recover from them. That's where I'd focus my attention with your parents.
Jon Luskin: J L, you made a great comment. The price you pay is volatility. That's a normal part of the investing process. If you can't stand that, I would be very careful about any investment alternative that promises high returns, but without that volatility. You have a phenomenal line in your book that speaks to just that and I'll read that to the audience right now. “Benign neglect of all things financial leaves you open to the charlatans of the financial world.”
I'm going to jump to our first question on bonds. This one is from username, AlwaysLearningMore, from the Bogleheads forum, who writes, “Mr. Collins, in your book The Simple Path to Wealth, you recommend the Vanguard Total Bond Market Index Fund for fixed income exposure – fixed income is a way to say bonds for all those who aren't investing nerds – How did you come to that recommendation rather than a short term treasury bond fund or intermediate term treasury bond fund? Thank you for considering this question.”
J L Collins: The short term fund is going to typically pay a little bit less of an interest rate. I'm looking for a little more. The question about whether I chose the total market rather than the intermediate one is actually a little more interesting because in some sense the Total Bond Market Fund is an intermediate fund, that is to say it invests as the title suggests bonds of all maturities, whether it's short term, intermediate or long term. Of course the net result of that is that it averages out to be intermediate term. The short term and long term tend to cancel each other out. So I suppose I could have gone with an intermediate term fund and that would have worked. I just like the idea of the broader coverage of having bonds of all different maturities.
The other nice thing about a bond fund in general, especially something like Vanguard's Total Bond Market, it holds thousands of bonds of all different kinds of maturities. So while it may hold a lot of very long term bonds, some of those are coming due at any given time because they've been held for decades. There are always bonds hitting maturity within the fund, and that of course frees up capital to reinvest in new bonds. That's particularly important in an environment like this when interest rates are rising because that turnover of money allows the fund to buy the newer bonds that are now paying higher interest rates, And therefore the return in that bond fund will steadily climb. It lags of course, but it does steadily climb. And of course when interest rates are falling that's a negative, but I hope that answers your question.
Jon Luskin: J L, do you have any thoughts about the issuer or the credit quality part of that question? The user Always Learning More, asked about your medium term Treasury Bond Fund versus Total bond market fund, which is going to have various issues of different credit quality. Any thoughts on Treasuries versus total bond market?
J L Collins: When you go in the total bond market, you're getting corporate bonds as well. Treasuries, of course, are considered the safest investment of the world, actually. You pay a price for that, a slightly lower return. Corporate bonds are rated from AAA on down. Any given corporate bond can have a different risk portfolio. High quality corporate bonds tend to pay slightly more. And I think that with how many bonds are held in these funds, I personally am willing to accept a very slight extra risk of expanding beyond treasuries.
Audience questioner Billy Dee: J L, thank you so much for your time today. When I started at my company four years ago, I opted into our 401-k but didn't realize I had an option to choose between a Roth versus traditional. So by default I was opted into the traditional 401-k. Do you recommend I change it to a Roth? Is it okay to keep it traditional since I'm already maxing out my Roth IRA?
J L Collins: Thank you. Billy Dee. That's actually a very complex question. The blog Can I Retire Yet? Chris just wrote a great post on comparing Roth versus traditional. But really quickly, if you think of just the basic math, in a certain sense it doesn't matter as long as your tax brackets are the same. But if your tax bracket is, let's say, 15% today and decades from now, when you're retired, you're pulling the money out, your tax bracket is still 15%, then the math works out exactly the same. It really doesn't matter.
To a certain extent the real question that you have to ask yourself is, what is my tax bracket going to be when I'm pulling this money out? Is it going to be likely to be more than my current tax bracket, in which case you want to go with the Roth. Is it likely to be less, in which case you want to go with the traditional. With the traditional, of course, you get to take your tax deduction today. With the Roth, you don't get any current tax deduction, but you pull it out tax free, whereas with the traditional, that's when you pay the taxes on it. There are a lot of nuances to this, but the most fundamental question you need to ask yourself is, do I think that the tax rate I'm going to pay when I take it out is going to be higher or lower than the tax rate I'm paying today.
The simplest way to look at that is if you are at the beginning of your career and making relatively little money, then you probably want to be in a Roth, because presumably you will be more prosperous decades from now. If, on the other hand, you are particularly well paid now, your peak earning years, that current deduction, if you're, say, in the 35% tax bracket and you figure when you retire and your earned income goes away completely, you're going to drop into the 15% tax bracket then pretty clearly you want to do the traditional. There's a lot of moving parts and then there's a lot of guesswork in terms of looking into the future. And of course, nobody could clearly see into the future. That's one of the things that while I recommend people take advantage of these accounts I am philosophically not a fan of them.
Jon Luskin: J L, I think you said, well, no one can see clearly into the future. We can't know what your future tax rate is going to be. For that reason, I generally tell folks, since these are unknowns, if you do the Roth or the traditional, either is fine just make sure to take advantage of that tax rate and max out those accounts. I certainly worked with folks who are in the highest tax bracket, and they were adamant that future tax rates are going to be higher. So for them, they were all in on Roth accounts, making the maximum contributions to those accounts despite being in that highest tax bracket. And given that the future is unknowable, that is a perfectly reasonable approach, as would be the opposite, making the maximum contribution to traditional accounts.
Audience questioner: My question relates to something that appears to be commonly understood amongst the investment community, and I think Jon touched on this earlier, how market volatility and maybe the implied emotional distress associated with that is the price we pay to participate in this wealth building machine. Can you provide any personal anecdotes or examples where you really paid that price? Any time did you ever start having second thoughts, or really check out of the wealth generation machine, we all invest in?
J L Collins: You're putting me on the spot and I have to tell a story that's a little embarrassing for me--but I told it before and written about it. I mentioned in responding to an earlier call about the gentleman's parents, the key thing was to make sure they would stay the course when the market dropped. That's something I talk about a lot in my book and my blog and my interviews. One of things that I've wondered is, can people really take that to heart and learn it just by hearing it? Or do they have to live through it and make the mistake of panicking and selling? And I know that, speaking for myself, I had to make the mistake and panic and sell. And that happened to be in 1987. There was a thing called Black Monday, the single largest percentage drop in the market in history. Larger than anything that has come before, larger than anything that has happened since in terms of one day drop. It was about 20% to 24% somewhere in that range in a day. In those days--this was before the internet, of course, and before computers were even that common – I had a stockbroker, and just by coincidence, at the end of that day, I finished my work and I called Wayne and I said, “How are you doing?” There was this long pause on the phone and he said, “you're kidding, right?” And I said “No, why?” And he proceeded to tell me what a horrible day he had and what had happened on the market and I knew what I should do. By the way, I hastened to say, it's not like I didn't know what the right path was. I did know and I stayed the course for a couple of months, but the market kept grinding down and grinding down and grinding down and it's been a long time., so I may have the date details not quite right, but it seems to me that Black Monday happened sometime in October and by December I threw in the towel and sold out.
And of course, if it wasn't the absolute bottom, the day I sold out, it was close enough. And then, as the market always does, it turned around and started to march steadily back up. And as typically happens when people sell out and even if they guess right, they sell out before a market crash and they happen to guess right, you tend to sit on the sidelines unsure of when to get back in. And I did that probably for the better part of the following year. And when I finally got back in, the market was higher than it had been previous to the crash.
That was a very painful and somewhat expensive thing to go through, but I learned. That's why when the ‘07 - ‘08 came around, which was longer term worse, I was able to ride that out with the level of confidence and comfort that I did.
Jon Luskin: I think that's a pretty normal part of the investing process. I don't think anyone is born knowing how to be a perfect investor. Speaking personally, I've done lots of working with mistakes in my own investing journey. Before I dove into countless books on indexing, on investing I chased the best performing mutual funds in the last quarter, bought it and I went into it poorly. I sold it and moved on to the next. So that's to say your experience, J L, is all certainly part of the investing journey.
Audience questioner: I can't believe I'm speaking to J L Collins. It's unbelievable.
J L Collins: I can't believe I'm speaking to you!
Audience questioner: I'm in the UK. I have a question about your views on international investment. I read a post you made a couple of years ago where you advocated for, I think it was the VWRL which is the World [fund] by Vanguard. Is that still your view? What do you think about 50 years and 50 euro distribution?
J L Collins: We touched on this a little bit in the very first question. For somebody like yourself or anyone outside of the US, I do favor a world fund. Vanguard – they have one and you have to be a little bit careful because they have a lot of international funds and some are excluding the US and some are including it – but I'm looking for the World Fund that includes the entire world, so it includes the US. And last time I looked at it, and it's been a while, the US was about 50% of the fund, and I want to say Europe was maybe 25% and Asia was maybe another 20%. And then into the other smaller markets. If I had access to it, that's where I would go if I were anywhere other than in the US.
Andre: So I would like to add some information about the Vanguard's Total stock Market Index fund, VT. Because of European financial regulations, VT is actually not available in Europe. Vanguard created a couple of special European ETFs, especially for the European markets. And the closest thing you can get in Europe if you want to get VT is actually VWRL and it's basically VT minus the small caps. So I guess we had a listener who said that he was looking into VWRL and that actually is, I think, the best ETF you can get on the European market. I just wanted to add that.
J L Collins: Andre, would that be the equivalent of the S&P 500 when you say it doesn't have the small caps, or is it broader than that?
Andre: It's broader than that. It's actually all the developed markets, including the S&P 500. It also includes the emerging markets, China and Taiwan and things like that. The only thing it doesn't have is the small caps in both the developed and the emerging markets.
Jon Luskin: That's great to know. Thanks for the information.
Audience questioner: My question today is about if you have any tips or tricks when you're speaking with someone and explaining your investment approach and they've been particularly successful in their life, maybe they've gone to a top university, they've landed a fantastic job, and they've felt that they've had a lot of success. Now you're trying to explain to them the concept of settling for the average market returns and just kind of conveying that philosophy when this person might be accustomed to going to the top doctor in the area or going getting the absolute best of everything. And now we're trying to convince them that they actually want the average. And if index investing, as you say, isn't the sexiest thing and it's not going to make fine cocktail party conversations, thanks.
J L Collins: I think the problem comes in the word average. When we're talking about investment returns, it means something different than we're talking about, say, the best doctor. If you look at all the doctors in your area, do you want the average one? Well, no, of course not. If you can get the ones that are the top and that's what you want to go for. When it comes to investment, we're not talking about that kind of average, we're talking about the return the market provides overall through the index when you invest in everything. That is to say the average return of the S&P 500, the top 500 companies in the US, or the average return of the total US stock market, the 36 odd hundred companies that make up the US stock market.
And that's a very different thing. And that average, quote-unquote is about the top performance that you can expect to get because active managers who are trying to beat that average fail 80% of the time, and that's only one year. The further out you go, the fewer active managers succeed in outperforming the market. In fact, I think Vanguard did a study – if you go out 30 years, the percentage of active managers will outperform the broad based market that we buy with an index fund, that average return, the percent that outperform, that is less than 1%, which is to say statistically zero.
When we're talking about average returns, we are really talking about the absolute top returns you can reasonably expect to get, certainly in the top 20%. When you're talking to your friends, you can disabuse them of the way they're thinking of average and explain that we're talking about the return of the market overall, that average, and that return is better than 80% of the active managers trying to best it.
And that's the further out you go and you should be a long term investor, the higher that position goes. The average return in this case, seems to me, is in the top 20, top ten, top five, you go out 30 years, top 1%. So that's pretty good.
Jon Luskin: With the quote-unquote money printing that happened over the past couple of years, do you have any thoughts on the macro environment with the dollar? Anything that would impact philosophies that you've subscribed to?
J L Collins: The inflation doesn't change my views or my investment approach. If I were writing a book today, I wouldn't be writing anything substantially different. The dollar has been losing value for a long, long time. You can go on the internet, find an inflation calculator, and you can look at what a dollar was worth at any given time in modern history and it'll tell you what it's worth today.
And I enjoy doing that. If I'm reading a novel, for instance, and it's set in the 1950s that says, oh, this guy won $15,000 in a card game. Well, I'm always curious as to what that will be today. And roughly, by the way, it's about ten times today, as my memory serves. Now I know, OK, this character 1951, the equivalent of what would be $150,000. The dollar has obviously gone down in value for a long time, and has done consistently and will continue. The kind of inflation we're having now is very unfortunate, but until very recently the government for probably since the early 80s when they broke the back of inflation from the 1970s and into the early eighties, the bigger risk has been deflation. The government has been trying to put some inflation into the mix and usually they're looking for about 2% because a small amount of inflation is like lubricant in the gears of the economy.
This kind of inflation, though, is not a healthy thing. Overall, long term, I'm not worried about it. And the decline in the value of the dollar is not something new or even necessarily something bad at modest doses.
Audience questioner: Every week I invest the same $500. Every day. actually, every day I buy $100 of VTSAX every day. Instead of doing like, two times a month, I'm doing, like, every day, same hundred dollars. So am I overthinking? I'm not changing. No matter what happens, I'm doing it like it's automatic.
J L Collins: I applaud you for routinely putting in money on a regular basis. When you do that, when the market declines, as it has for the last few months, you are taking advantage of that. You are buying more shares. You're buying it on sale, if you will. The fact that you're putting money in on a regular basis and you're not worrying or trying to figure out what you should do with the market moves, I absolutely applaud that.
Do you have to do it every day? Probably not. Nobody knows where the market is going in the short term, so I don't think you have to do it every day. If you do it twice a month, or every other week, or even once a month, I think you're fine. But keep doing it.
Jon Luskin: It sounds like we're sitting on a bunch of cash and we haven't done some investing. If you want to really nerd out, know that when it comes to the question of, hey, should I put all my money slowly over time, or should I do it in one big lump sum, then know that you probably want to do it all at once, for the same reason that we invest in the market at all: on average, it goes up. Depending upon what time period you're looking at. Maybe you'll find data that it goes up 75% of the time, maybe it goes up two thirds of the time, but on average, you come out ahead by doing that lump sum investing as opposed to dollar cost averaging.
And average is why we invest in index funds. Certainly there is a tiny chance that we’ll do better by paying more to invest, but the odds are pretty terrible. That's why we use low cost funds.
J L Collins: If it's a lump sum, I absolutely agree with your analysis just now. If you have a lump sum for all the reasons you just described, you are better off putting it in immediately. There is a chance that will be the wrong decision because something like 25% of the time the market will go down and you would have been better off dollar cost averaging. But anytime you give me a bet where 75% of the time I win and 25-30% of the time I lose, I am going to take the bet on the side of the 70-75%.
But the key point that I want to make is that dollar cost averaging a lump sum doesn't really mitigate the risk that people are trying to mitigate. Here's what I mean by that. The risk they're trying to mitigate is the fear that if I put all this money in in a lump sum today, tomorrow will be the day I wake up and the market is down 20% or 30% or 40% and that would be a really bad day. And of course that risk does exist. They say, well, I'm going to mitigate that risk. Let's say we've got $120,000 and I'm not going to put it all in at once, I'm going to put 10,000 a month in for the course of the year and that way if the market plunges that at some point I solve that risk.
The flaw in that thinking is the moment you make that last investment – at the end of the twelve months – the next day could be the day that the market plunges 40%. You may have delayed the risk, but you haven't eliminated it. And the more important thing to understand, which goes back to one of our earlier conversations, is that the moment you are invested at all, you have that risk of waking up the next day in the market being down 40%, or as it is now down about 20% over the last few months. As we talked about before, that's the price of admission. You have to be willing to accept that and you have to be willing to endure it and stay the course and not panic and sell.
Jon Luskin: To echo your point, if you're asking about dollar cost averaging, maybe you've got the wrong portfolio in the first place. Let's ask J L a related question. This one comes from joe4ska - Reddit. "I'd like to ask J L Collins his thoughts on the Total Stock Market Index fund. The fund has become more cost effective and accessible in recent years. Thank you for your consideration."
J L Collins: When I'm talking to people outside of the United States, the fund I prefer over VTSAX, which is what I recommend for Americans, is that Total World Fund. And she's right that it has become more accessible and the cost of it has come down. I don't pay that close attention, to be honest. So if it's come down to .05, or when you're talking about so few basis points, it's not worth worrying about it. When you're talking about ER’s and expenses being important, that's absolutely true. But that's talking about something that's charging maybe 0.50 as opposed to .05%. But when you're talking about something that's charging .04 or .06, I'm not going to lose a lot of sleep over that. I'm going to go with the fund that better suits my needs on other parameters.
Audience questioner: My question for you is I do have a lot of clients, younger clients, for millennials, and they have the cryptocurrency, the bitcoin. Back then, when you wrote a book, the cryptocurrency wasn't the popular thing. So my question for you is, should a cryptocurrency be considered as a new asset class?
J L Collins: If you go on my blog and use the search function and you type in cryptocurrencies, you will find a post from me on the subject. Perhaps more importantly, you'll find two posts from Lucas, who has tech support on my blog, and in those two posts he makes the case for crypto. I'm not a fan. I don't own crypto. I've never owned it. It is more of a speculation than an investment. It is akin in some senses to gold. Also, I don't own gold. Gold is the kind of thing that if you buy it, you are buying it with the assumption in the hope that at some point in the future someone will pay you more for it than you paid for it. That's largely the case with crypto. You are buying and hoping that some point in the future somebody will pay you more for it.
I'm not interested in owning those kinds of things. I want something generating money. That's why I like the stock market. When I own the VTSAX, I own a piece of every publicly traded company in the United States. That means that everybody working in all those companies, making whatever products they make, providing whatever services they make, they are working to generate revenue and in effect, make me richer. And that's what I want all. I don't have to worry about whether somebody will pay me more for it in the future because the perceived value is increased. There will be some of those companies that prosper and do well and grow, and people will be happy to pay more for them because they want that engine of growth.
Of course, the other aspect of crypto is the idea of it being a currency. I have no idea whether at some point crypto currencies will become currencies, but it occurs to me that as it stands today, they are way too volatile to serve a role in a practical way as currency. It's very difficult to use a trading medium, which is what money is, to buy something when there's a distinct possibility that tomorrow the medium you're using will be worth more or worth less. This is what makes deflation and hyperinflation so dangerous. When any currency starts rising dramatically, hyperinflation, people can't wait to spend it because they know tomorrow it will buy less. But of course, the corollary to that is the people with goods and services are loath to take it because they know tomorrow what they've taken for their product or service today is worth less. Therefore that has a tendency to drive up inflation.
The corollary to that of course is deflation and this is what caused the Great Depression to be so terrible when the value of the currency starts dropping. Well, nobody wants to trade that either because tomorrow the value of their currency is different. That's where cryptocurrency is. Now, when it was on the way up, it was just too inflationary to serve as a currency and now of course, it's too deflationary to serve as a currency. An effective currency has to have some stability in price.
Jon Luskin: When it comes to currencies and commodities, the challenge is that their historic real return is zero. And folks, I just used a nerdy investment term there – real return being your investment return after inflation. And that's going to be before investment expenses. And then you also have volatility. And for those who aren't investment nerds, volatility means changes in price. So it's hard to argue for an asset that has a real return of zero and has cost but high volatility. Now certainly there are going to be those who backtest gold and say hey, there's a correlation value here. Gold will go up when stocks go down. That's going to allow me to sell my gold and buy some stocks that are effectively on sale. And yes, that certainly has been the case in the past. But the problem is that correlations are dynamic. The relationship between how investments change, relative changes over time.
For folks who want to learn more about correlations, check out episode five of the Bogleheads Live podcast. Christine Benz of Morningstar talks about how correlations can change over time in her recent research.
Given all those considerations about high volatility zero investment return before costs, I'm hesitant to recommend something like cryptocurrencies, something like commodities or gold, something that doesn't have any intrinsic value. Again, that's a nerdy term. Intrinsic value means something that's going to generate income on its own and that's going to be the case with stocks, bonds and real estate.
Audience questioner- Josh: I'm 24, pretty new to investing. I had an Edward Jones account, which my grandmother set up for me years ago. As of today, that money hit Vanguard per your recommendation. So one less Edward Jones customer. And I also convinced my girlfriend as well to get out of Edward Jones.
J L Collins: Now you have to convince your grandmother.
Audience questioner- Josh: I don't know if I'll be able to do that, but I'm already halfway there with my parents. My general question is just around building “FU” money and the order of investment that you recommend. I am pretty sold on the 403-b match and maxing out the Roth as it stands now I put about 50% of my gross income into investments. When it comes to having 5 -10 year goals, medium long term goals before retirement, would you be against putting aside maxing out the 403-b in favor of going towards a taxable account? Or would you say I need to max out the 403-b first before I ever head over to the taxable account?
J L Collins: Josh, if I'm understanding you correctly. You're concerned about maybe retiring at a fairly young age before you can access without penalty your 403-b and your Roth, your IRAs and that stuff, right?
Audience questioner- Josh: Right. I'm hesitant to locking all my money away into a retirement account that I can't touch until 59 and a half.
J L Collins: My memory is failing me at the moment and Jon will probably be able to help me on this and correct me if I'm wrong in what I'm about to say, but I think that when you put money into a Roth, you can't pull the money that it earns out before your 59 and a half without penalty. But I think after something like five years, again, my memory might be faulty on this, but it seems to me after five years, you can pull out the money that you put in without penalty. And of course, money comes out of a Roth without tax consequences. If I'm right about that, that might mitigate part of your problem.
Other than that, you're not wrong to invest in taxable accounts, that is to say, accounts that are not 401-k type or IRA type accounts. If you are anticipating needing that money before you're 59 and a half, you are certainly doing the correct thing, and making sure that you invested at least enough to get the full employer match, because that's absolutely free money. But I would look first at exactly what those Roth IRA rules are and confirm that I'm right about that or confirm that I'm wrong about it, see how those come to meeting your needs, and then consider going into a taxable account for those early retirement needs.
Jon Luskin: As always, check with your tax professional. Basis in a Roth IRA, the amount of your original contribution, is always withdrawn penalty free at any time. So if you contribute $6,000 to Roth IRA this year, you can withdraw that tax free. The five year rule that you're thinking of J L there are a couple. Firstly, there's going to be a five year rule for converted dollars. This is frequently going to be used for the Roth conversion ladder strategy popular in the FIRE movement. To convert a traditional IRA to a Roth IRA, you can withdraw the amount of the conversion tax free within five years. The second five year rule is that you need to have a Roth IRA in existence for at least five years and have reached age 59 and a half, where you can take earnings out of a Roth IRA tax free.
All that being said, there are several strategies that allow you to access money in tax advantage retirement accounts penalty free before age 59 and a half. There's going to be that Roth IRA conversion ladder strategy I just mentioned. There is going to be section 72t, also known as Substantially Equal Periodic Payments. That one can be pretty tricky. There's a lot of rules you have to get right on that one. There is going to be taking out distributions from your health savings account for qualifying medical expenses. J L, you talk about that in your book.
And then also there's leaving money in a qualifying workplace retirement plan such as a 401-k that allows you to withdraw money penalty free after separation from service at age 55. For that reason, I generally tell folks, don't be so afraid to max out the tax advantage retirement accounts because there are multiple strategies for getting money out of these accounts penalty free.
That being said, financial planner Cody Garrett, who we had on episode eleven of the Bogleheads Live podcast, likes to say, and he said this on that very episode, that the taxable investment account is one of the most underrated investment accounts out there. So by all means, go ahead and put money into that too. That's going to give you a lot of flexibility.
To touch on that comment, hey, I've got to get grandma over to Vanguard, Rick Ferri talks about this on the first episode of Bogleheads Live. I'll link to all those episodes I already mentioned in the show notes for those folks who want to check that out. Rick says in that first episode, you're going to have to give someone a hundred touches when it comes to talking about low cost index funds before you finally get them to turn over. So don't give up. Keep touching, keep talking about low cost investing, and eventually we'll get all these folks to save money on their investments.
J L, any final thoughts before we let you go?
J L Collins: Just on that last comment you made. Just a tailing on that. It can be very hard to leave an investment adviser. The thing that I always hear is, but we're friends and he's a nice guy, or she's a nice person. I've come to believe that for an awful lot of investment advisors, their skill is not in helping you maximize your financial situation. Their skill isn't being your friend, isn't being that nice guy. It's nice to have friends, but that's not what you want when it comes to your money.
Jon Luskin: Absolutely. Certainly I get this too working with folks who realize how much they're paying their asset managers and then they make the decision to do it themselves. They certainly have to have those hard conversations. It's not necessarily always easy. There is that personal relationship to consider. Gosh, I've even had folks who willingly put a part of their portfolio into one of these advisor managed portfolios knowing it's going to underperform to preserve that relationship, to keep that relationship going.
That's certainly going to be a tough one. Whether you want to subsidize lifestyle for your friendship, that's your personal decision. That's your money, you can do whatever you want with it. But the important part is at least that they understand the impact of cost, that they go eyes wide open into the decision.
J L Collins: As long as they understand the implications of their decision, then it is their decision.
Jon Luskin: Yes, absolutely. Money is a tool. So if you want to subsidize your friend's lifestyle, who am I to judge?
Well, folks, that's going to be all the time we have for today. Thank you to J L Collins for joining us today. And thank you for everyone who joined us for today's Bogleheads Live. Our next Bogleheads Live will have Dr. Jim Dahle, a White Coat Investor.
The John C. Bogle Center For Financial Literacy is a 501(c)(3) nonprofit organization at boglecenter.net. Your tax deductible donations are greatly appreciated. For our podcast listeners, if you could subscribe and you write the podcast on Apple, Google, Spotify, wherever you get your podcast. Finally, we'd love your feedback. If you have a comment or get a suggestion, tag your host at Jon Luskin on Twitter.
Thank you again, everyone. Look forward to seeing you all again next week, where we'll have Dr. Jim Dahle answering your questions. Until then, have a great week.