Passive me against my pension fund

Let's see how my passive investment strategy did when compared to my active pension fund in 2018!

The bull run

Most of my colleagues have their pension actively managed by our pension fund. This is the default option. This means Nationale Nederlanden puts your pension money in their NN first class return fund. This fund is currently a mix of actively selected stocks (70%) and bonds (30%). This can always change in the future. Whatever the wise experts decide.

I am one of a few that has taken matters into his own hands. I am fully invested in a passive tracker. Stocks only, worldwide. I reported before that my returns have been consistently higher for years on end. While my costs are lower. We started using this defined contribution pension in 2014 and my total return is more than double that of the pension fund. Passive wins active. No surprises there.

The cool thing is I am in the pension steering committee. So I got a chance to address  their poor performance. "Why do we pay you fees to pick stocks that underperform the market average?". They had a clear answer. My risk profile was too high and the only reason they underperform was because of the bonds. 

They were derisking as they expected some turmoil on the markets. In a turmoil I would loose more money. My risk profile was wrong and I just got lucky because of the long-lasting bull market. I would reason they are timing the markets and this is a loser's game. But anyway; turmoil there was in 2018. Great opportunity to put them to the test!

The bull shit

Indeed my pension strategy did not work out great in 2018. My ishares developed world index fund yielded -5.53%. And now for the NN first class return fund -drum rolls-; they managed to go up by..... -5.80%. They have again failed to keep up with a passive strategy. 

I am not great at statistics but just picking random stocks should have given them a winning year by now. It is actually quite an achievement they did worse than a passive strategy every year since 2014. Can't wait till the next meeting with them!

Parental leave or part-time prepension?

I have been on parental leave since our oldest was born. With the youngest starting school halfway next year many colleagues assumed I would show up full-time again soon. With the news leaking out I will not, I got some interesting questions (interrogations!?) showcasing how stuck most people are in their old-world ways.

Parental leave in the Netherlands

Many people over here use their right to parental leave. Unless you are a government worker the leave is unpaid and both parents can take up to 26 weeks. The original idea being that if both parents would work 0.5 fte you can be at home for the first, intense year. Most people including us seem to use it differently. Both parents work 4 days and they typically do so until the youngest one goes to school at the age of 4. 

By that time you run out of days and you automatically fall back to your contractual work week. Unless you indicate you prefer to decrease the size of your contract and only show up 4 days a week for the rest of your life. Makes sense to me.

You lazy bastard!

Not all my older, white, male-dominated colleagues are agreeing. Some call me lazy. I disagree. They seem to forget their wives don't work. This brings their family workload to 5 working days a week. We do 8 working days equally shared between the 2 of us. We also equally share the family workload. Sounds fair and not lazy at all to me. Feels busy enough anyway.

You will have a lower pension!

This I cannot deny. If you work 80% your pension will be 80%, plain and simple. However, this is old-world thinking. You spend all your money every month and your life style requires a similar amount of income after retirement. Not us. We have a savings rate of 35%. While both working 4 days. No need for more pension. I have no interest in pumping more money into a broken system.

What are you gonna do all day long?

No offense but these kids drain your energy and time. Although I have no concrete plan what I'll do when I finally have some own time again, I am sure I will enjoy it! I might do more sports. I might use my bad knee as an excuse not to. I might cook more from scratch. I might decide after the first attempt that making your own pasta is too much work and never do it again. I might write more posts. I might binge watch Netflix. I might find a new hobby. I might sit on the couch staring in the distance enjoying the silence.

I have no concrete plan but I am convinced I will enjoy my part-time, prepension every Friday!

Playing with FIRE without getting burnt

Living your life with a FIRE strategy essentially means there are two phases. You'll first have to accumulate money to invest by spending less than you earn. At times this can be difficult as spending money can be a lot of fun. On top of that the markets can be turbulent at times (for instance, right now!) which makes you wonder even more why you are doing this to yourself. Luckily at the end of the rocky road you'll reach your FI number and enter the next phase; early retirement! Can you now relax and enjoy? Let's have a look at the numbers.

30 years of investing

Let's assume someone started a career at the age of 25. She starts pumping €500 into an ETF from day 1 and does so for 30 years. It is 2018 now, where does this leave her?

€500/month investment in VWRL using historical data.

Well, obviously in a much better place than someone who had mindlessly spend it all! Almost €700,000 in the bank. Let's assume this is 25 times her yearly post-retirement spending number (€28,000). Based on the 4% rule this is enough to pull the trigger and retire. The ride probably felt rocky with 2 major market crashes but hey, you made it, congrats! 

Retirement is nerve racking!

After early retirement you'll have to stay in the market. Otherwise you will run out of money. The dampening effect of buying low when markets are low is not available to you any more. You don't have the income to buy more stocks. Therefore it makes sense to not go for 100% stocks anymore. To partially avoid volatility you can go for 50/50 stocks and bonds. 

What will happen? Off course we don't know. Many scenarios have happened in the past, depending on when you retired and what the market did next. I used the Trinity study to produce the graph below.

After retirement volatility!

The volatile of the line from the first graph (accumulation phase) suddenly looks very stable. What happens afterwards (dots on the right) is where the scary volatility is. The median of what could happen to your €700,000 in the first 30 years after retirement is that it grows to almost 2 million. You could get lucky and end up with more than 3 million. Mind you, this is while using money from the stash every month even increasing your income with inflation.

You could be unlucky and run out of money after 20 years. Yikes! Not sure how relaxed I would be with the different scenarios being so, well, different in how they impact on the rest of your life. If you feel uncomfortable with the current minor market correction, imagine what you would feel like when your income fully depends on it!

A way out

If you think you might not be able to handle this insecurity and the vastly different outcomes your retirement might have, there is a way out. You can buy a traditional pension from your €700,000. Retiring at 55 like the lady in our example would mean you receive €2227/month (best offer I could find here). Not bad and fairly close to your 4% withdrawal rate. You get this amount guaranteed until you die. The catch? After that the money is gone. Nothing left, guaranteed! Peace of mind is expensive. But might be worth the money for some.

Pension gate - paying fees for bad performance

My defined contribution (DC) pension has an option to invest in the passive ishares developed world index fund. This is what I obviously do but most of my colleagues have Nationale Nederlanden to actively manage their pension. This means they buy into the NN first class return fund. A fund with a name like that must surely outperform the market! Let’s have a look at the actual, shocking numbers.

Did they really underperform every year on record!?

I can’t go back further than 2014 as the NN fund became operational in that year. I used performance data from Morningstar and initially compared the NN fund to the ishares developed world index fund as these are the two options I have within my pension. The passive tracker outperformed the higher cost active fund each year. Simply investing in all stocks in the developed world resulted in a more than double yield (69.72% vs 32.82%) compared to “experts” picking stocks for you…

Performance (%) of NN active fund vs. passive strategies (1-10-2018).

You could argue I just got lucky as the developed world outperformed the developing world in the last 5 years. Bringing VWRL (passive whole world tracker) into the mix proves that argument wrong. The developing world is relatively small and only has a minor negative impact on the still impressive performance (66.62%), and still hugely outperforming the "experts".

You could also argue the NN fund is not only investing in stocks but also in different categories like real estate (stocks anyway), a hedge fund (mostly stocks again), as well as commodities and bonds. All these positions are acquired by buying into their own funds again, let’s at least hope they don’t charge fees again inside the NN first class return fund. 

Play it safe
Why they try to play “safe” by diversifying out of stocks is beyond me. While you get older they throw larger proportions of bonds into the mix anyway (via 3 separate funds to complicate things further). Plus if anyone can bare the risk of going 100% stock for young people it is pension funds, as the risk is shared with participants from all generations. 

Anyway, as 30% of their positions were outside stocks in the 2018 Q2 report, I added a VWRL:bond (70:30 mix) into the equation just to show it still outperforms the NN fund by quite a margin. I used the best performing bond NN has on offer (ishares core euro corporate bond) so this is as much help as I can offer them. 

The conclusion is NN heavily underperforms a passive strategy, whichever way you look at it.

Listen to Jim!

Jim Collins is the author of the legendary stock series posts and the book the simple path to wealth. In essence his advice is to avoid stock picking, market timing, and fees. Many people in the FI community follow his advice. NN is clearly trying to pick the winners which I show here is a fool’s game. Along the way they charge fees to keep the stock picking circus running. 

At least they are not timing the market, right? They simply invest the money that comes in from the salaries of their participants every month instantaneously. Or are they? I noticed cash funds are showing up in the investment list of the NN first class return fund lately. This implies they keep cash inside their fund. Effectively they are trying to time the next market crash. Three basic rules of investing, all broken!

Business as usual

NN did what any pension fund does, or in fact anyone offering active funds. After underperforming for a few years, you slightly tweak the fund and give it a new name. NN send everyone a letter explaining they tax-optimized the fund and added a “I” to the end of the name. 

This comes in handy as rating websites like Morningstar  cannot connect the dots anymore and your fund gets a fresh start. If you are lucky the first couple of years you can even start an ad campaign on TV showing off how much you outperform the market. 

Sadly, in the case of pensions, most people don’t have any choice but to play along and hope for the best. When investing in personal accounts, it should not be a surprise I avoid active funds like the plague.

Why Suze Orman loves the FIRE movement...outside the US

A recent "afford anything" podcast episode created a lot of buzz. Suze Orman hates the FIRE movement and thinks it is stupid to retire with anything less than $10,000,000. Here is why I am not bothered by her remarks.

Who is she anyway?

Suze Orman is a very successful personal finance guru in the US. Successful in the sense that she got rich out of doing it, I did not bother to check whether her clients feel the same. She has authored books and had a long-running TV show. She made a fortune out of her business.

Why does she hate the FI community?

She thinks we are stupid because we underestimate how much costs go up in life as we age. "When you get older things happen" she said. "You're hit by a car, you fall down the ice, you get sick, you get cancer. Things happen."

The rage goes on to even include full-time care of a disabled family member ($250,000/year). If you would spend another $100,000 yourself you would need $500,000 pre-tax income, hence the $10,000,000 as she seems to use a 5% withdrawal rate.

This is excellent news if you are not American! 

This is very good news for anyone from a country with a decent social system! Look at the rage above, it is all health care related! We don't need $250,000/year to take care of loved ones here in the Netherlands. Also I feel Suze could have a critical look at the $100,000 personal spending in this example, flying private jets and owning private islands are not exactly frugal. 

What is the alternative anyway?

You could say Suze has lost touch with reality. For the majority of us ever gathering ten million is so far out of reach we would give up trying and just spend all our money. Not really a viable alternative. Much better to safe what you can, anything is better than nothing. 

I get comforted by the table below. I used data on Dutch male life expectancy combined with the Trinity study data. Just use the 4% rule for withdrawal from your ridiculously small stash of money and the chance of dying is bigger than the chance you run out of money. Eat your heart out Suze if you can afford the surgery to have it put back in like us Europeans!

How I get paid to build up my pension

As discusses here I am a big fan of my current defined contribution (DC) pension and have moved one of my ex-employer's defined benefit (DB) pensions into it to increase my anticipated pension substantially. This post discusses the yearly expense ratio of my DC pension.

What is the yearly expense ratio of a DC pension?

I can only talk about my own pension here as I do not know the numbers for any other DC pension. I currently participate in the Essentiepensioen from Nationale Nederlanden, although it will not be long before it merges with BeFrank. Essentiepensioen offers 3 full-service profiles with different risk profiles (defensive, neutral and offensive). Moreover, participants have an option to run their own show and buy their own funds. 

Fund choice is limited but includes one low-cost index fund, namely the ishares developed world index fund. I put my full pension payment in this fund every month. It has a yearly expense ratio of 0.17%. Very decent, especially considering the fact that all other (actively managed) funds are around 1%. 

Collective discounting brings my expense ratio below 0!

The cool thing is that my company negotiated 0.2% discount on the expense ratio. >95% of people are in one of the full-service profiles so they still pay somewhere around 0.8%. Nationale Nederlanden seems to have overlooked the fact that there might be one or two smarty pants who pick their own funds AND go for a 100% ishares developed world index fund. I guess this is mostly caused by their old-world thinking, you need multiple old-school funds (real estate fund, new energy fund etc.) for diversification purposes. As there is only one cheap option it seems they assumed everyone would also buy at least one of their more expensive funds, averaging the cost to above 0. 

But with the developed world index fund I own stocks of 1000s of companies in the 23 developed countries of the world! No need for further diversification. My costst are -0.03%. I get paid as a thank you for them taking care of my pension!

Costs are killing dreams

Pension funds charging above 2% fees are not unheard of, see a comment by Bart here. Needless to explain the FI community how devastating this is but I still added a chart showcasing just that. Someone with a job paying a bit above the median will pay around €500 of his gross salary into his pension fund. If that pension fund had invested this amount into the MSCI world index 30 years ago, this is what had happened with real returns of that index. Just over €217k down the drain after 30 years by charging 2% fees... This is what happens if you feel a €2 fee for every €100 you want to invest sounds reasonable. You get hammered by the lower interest compounding!

I am happy to show off how well my pension fund is treating me 😉 However, the real point I am trying to make is that it is well worth investigating the different pensions you have from different previous employers and move them to your new employer if this makes financial sense. Unfortunately it is not always easy to establish the cost structure of a pension. A lot is hidden (on purpose?) and I would not be surprised if there is a “pension gate” around the corner even before we have fully dealt with the “woekerpolis” issue here in the Netherlands. It strengthens me in my firm belief sorting out your own financial future is by far the best way to go.

Accumulating the American dream pension

A defined benefit (DB) pension is most common in the Netherlands but defined contribution (DC) pensions are becoming increasingly popular. Here you can find a guest post I wrote for cheesyfinance.nl explaining why I love the DC pension at my current employer and how I moved one of my DB pensions from an earlier employer to my current DC one. This post discusses why I allow myself to include the value of my DC pension into our net worth which speeds up our journey to FI. 

Withdrawal rate of a DC pension

A DC pension is like a 401k in the USA. At least mine is, I have full control in the sense that I buy a low-cost ETF every month and I can login to check the current net worth of my portfolio. Most Americans striving for FI include their 401k in their net worth calculations. I do the same with my DC pension.

On specific websites like this one you can check how much pension you can purchase from a lump sum that you have saved in your DC pension throughout your working career. By modifying your date of birth you can mimic different retirement ages. E.g. if you have €100,000, the best deal I can currently find pays €5448/year from 68 years of age onward. Applying the 22.95% after-pension tax bracket will leave you €4198 in hand. In other words you have a withdrawal rate of 4.2%. It is perfectly save as it will be paid until you die. Nothing left for your heirs afterwards though. Sounds pretty similar to the 4% you are supposed to maximally withdraw yearly from your personal stock account after reaching FI.

Adding up the numbers

To see how far we are in the journey towards our FI number I add up our emergency cash fund, our personal ETF position, AND the value of the DC pension (consisting of an ETF). Like many, I consider a 4% withdrawal rate on the total position safe. I could access the DC fund earlier than at 68 but this will be taxed in a higher bracket so this is not the plan. 

By the time we reach FI the personal stash is twice the size of the DC pension and there is around 15 years to bridge before the pension payments kick in. So if we would ignore the DC pension, I am withdrawing 6% from the personal stash which has a 99% chance of being OK for 15 years in a 50% stock - 50% bond portfolio according to the Trinity study. We’ll  be fine until the DC pension kicks in! At least the chance of dying at work accumulating more money is bigger than the chance of ever running out of money, time to take the plunge! Especially considering the fact we are still ignoring state pensions (AOW) and DB pensions we have as well. We just made the journey to FI shorter!