401k? Ok Boomer.

We're ODing on retirement accounts

Time does not exist - at least not objectively. And I find that fascinating. As humans we’ve evolved to the point where we can make decisions very quickly. This feature, not a bug, of the human experience serves us well when, say, we’re driving anywhere in New Jersey. Since we have to make so many decisions so quickly, our brains have real trouble conceptualizing the extremely small and the extremely large because at the edge cases, decision making becomes more complex.

It also doesn’t help that our frame on time is set by our own life expectancy, which is laughably short in the context of how long the earth has been around. It’s why no one truly understands just how long 4.543 billion years is.

I recently found out that the oldest stretch of exposed earth is only 2 million years old. We know (because, science!) that the earth has been around for 4.543 Billion. That means that the only patch of earth connected to, what we consider, ancient history, that we can actually see, has been exposed for only .044% of the time the planet has been around. Ok so then, what came before?

And that’s a question we almost never ask about markets. Gurus will pitch new ‘strategies’ and show you simulations that tell us how well the strategy worked over the last X number of years. The problem with this approach is survivorship bias.

Survivorship bias is a logical error that occurs when analyzing data from a selected group of people or things that have "survived" some process, while overlooking those that did not. This bias leads to an overly optimistic perspective because the analysis is only considering the successful outcomes and ignoring the failures.

We have no way of knowing exactly how many civilizations came before us. Maybe there was a whole race of lizard people that were far more advanced than us. Perhaps this was a planet of the apes. Of course we’d like to think we’re special and unique, but given just how long this planet has been around - it’s hard to believe that’s true.

When thinking about investing your money, don’t get overly optimistic about any one strategy or any one idea. There is an infinite range of possibilities that can play out from any single decision. Thousands upon thousands of businesses close every year. But if we are trying to figure out what will happen next by analyzing what’s happened before, we have to keep in mind that eliminating all the failures artificially makes the data look better than it is. We should consider and remember those that have come before - making the outlook a little more realistic, and a little less frothy.

Thank you for your service. Speaking of remembering, this week starts with Memorial Day. Our nation was born out of war, but let’s not forget that armed conflict is always a last resort. As we reflect and remember our fallen, the chart below suggests that investors are betting on the defense industry to continue its rally.

These two defense and aerospace ETFs invest over $40 Billion into these two industries. And since January, the rate at which that number is growing has sped up. Generally, in bull markets, defense does not do as well; but in down markets, defense can offer a way to hedge risk. Investors are putting more money into defense - that should give us some pause, perhaps things aren’t as cheery as NVDIA would have us believe?

You can’t take it with you. Last week I touched on retirement accounts, but I wanted to get back to that because the chart below makes me uneasy. To understand why, let’s meet Ted. Ted was an employee benefits consultant in the late 70’s. Back then, if you were married and had an income of $203,200 or more, then your marginal tax rate was 70%. (and here you thought 32% was bad!)

As you can imagine, this did not sit well business owners because they were the ones making that much money. Plus, interest rates were ridiculously high, so trying to operate a business in an environment with high taxes and high interest was a nightmare. Business owners were not happy in the early 70’s.

In 1974, business owners tried to figure out ways to literally give their employees more money to pay less tax (no joke, they tried to bootleg profit sharing plans). Congress said, “hey…stop that” so they did, but then they went out hit up their boy Ted. Or really, Teddy hit them up.

Ted Benna, the father of the 401(k), set up a profit sharing plan in his own company and then went around to all his other business owner friends telling them about how great his plan was. Then they all got together and went to Congress, and in 1978 it enacted the Revenue Act, which included a provision—section 401(k)—that allowed employees to defer taxation on a portion of their income if it was set aside in a retirement account. Initially, this provision was intended to clarify the tax treatment of profit-sharing plans. However, it soon became apparent that it could be used to create a new type of retirement savings plan.

And it worked like gang busters. Companies replaced traditional defined benefit (pension) plans with 401k profit-sharing plans. Today the maximum an employee can contribute is $22,500 and many employers will match those contributions up to a certain percentage of salary. However, the business owner - assuming he or she receives a salary reportable on a W2 - can contribute as employee and then contribute more up until the point that they are putting away $66,000 or even $73,500 a year away every year before tax.

Compounding the unfairness, higher income wage earners are going to be able to put money into these accounts. Yet, if you listen to the financial ‘gurus’ out there they will brow beat you into contributing the maximum to your 401k because that’s what they were told to say.

Taking a closer look, we can see that these accounts are, after a time, a raw deal. That’s because when 401k’s were created tax rates had no where to go but down, and that’s jut not the case today. We are now deferring the payment of tax to a time when taxes have far more room to move higher than lower. As times change, so should we - otherwise we’re stuck living in the past.

Don’t get me wrong, I am all for strategies that minimize tax and save for retirement. There are a lot of good ones out there that do not involve these ‘tax advantaged’ accounts. Though I would argue that using just one strategy to accomplish a big goal like saving for retirement is folly. We’ve over indexed on these kinds of retirement accounts and now with laws like the SECURE Act 2.0 taking aim at IRAs, it seems the game is up on these tax deferred retirement schemes.

If your money is locked up most of your life, it’s hard to enjoy your life. Moderation then seems to be a better path. Pairing these accounts with other tax efficient strategies to generate retirement savings/income without having to put your money in a vault where you can look at it, but you can’t touch it.

At the end of the day, these accounts were tailor made for business owners and well compensated executives; yet those making six figures are locking away their money because that’s what their boss told them to do. It’s time for a change in thinking.

For more on how bad this experiment has failed, read this really interesting report.

There are levels to it. It’s a short holiday week where we honor those who came before, I thought it’d be a good as time as any to take. look at what the market has been through the last five years. There is no way to predict what the market will do next, but we can use some tools from technical analysis to use a rough guide.

This is a chart of the S&P 500 index. One thing that has been in the news lately are all the new highs the markets are making. That’s because from a technician’s perspective, new highs signal a bull rally and a trend that will continue upward. On the chart below I’ve drawn two horizontal lines so we can clearly see some important price levels.

The first is at the bottom there around the 3500 mark. We hit those lows back in October of 2022, but if you look back about 2 years you can see that we actually hit that level as new highs for the market back in 2020. So we know that when the market makes new highs, if it breaks through that level, it will likely become a level of support of the market, where it won’t go below that price again…or if it does, it’s big trouble.

Now, those new highs back in 2020 did become a level of support for the market back in October 2022, when the price action bounced back. From a market psychology perspective, we see that back in 2020 we tested that 3500 level twice before breaking through - it took us some collective effort to get past that level after a disastrous start to the year. When that happens, we can typically expect a bounce off of that level of support.

And we can see that we then spent rest of 2022 and all of 2023 not making any more new highs. Rather the market was almost stuck between these two levels one at about 4500 and one at 3500. But now, in the first part of the year, we’ve blown past what has been a “resistance” level for the last few years. We can see that in the top golden line, we tested and almost broke through that 4500 level in 2021 before the market came back down.

So I’m watching that 4500 level pretty closely. If this rally fizzles - and that happens in bull markets, we do have corrections - I’d be watching to see how close we come to that 4500 level and then look for buying opportunities, but then again, this isn’t investment advice and you should do with this information what you will. But the next time you see a chart on a screen, take a look for some patterns in the price action and you can start to see the group think of the market at work.