Do you remember 1969? I remember bits and pieces since I was only 11 years old at the time but most notably I remember the Miracle Mets beating my beloved Baltimore Orioles in just 5 World Series games. I was heartbroken for months. The Orioles had assembled what I still consider one of the finest teams in the history of baseball and yet the underdog Mets had prevailed. This tale is meant for the underdog. It’s meant for people that have a finite amount of money that must last them the rest of their lives. If they make a mistake they’re out. They run out of money. To these people I suggest that they read A Tale of Anarchy as well as A Volatile Tale and that the lessons are ingrained. This tale is a quiz to see if you have learned your lesson and before you answer let me give you a hint. Bet on the underdog.
In tribute to the Miracle Mets let’s assume that it is now the first day of 1969 and you just retired with one million dollars in your investment account at age 65. You are given a crystal ball that lets you see the future perfectly and so you look to the last day of 1993, 25 years from today and clearly see that the best performing mutual fund over the 25 year time frame ending in 1993 is The Fidelity Magellan Fund. Your crystal ball also shows you that there is another fund called The American Mutual Fund that is also pretty good, it doesn’t make anywhere near the rate of return that Fidelity makes over the 25 year period but it makes it’s returns in a more consistent and predictable fashion then the Fidelity Magellan Fund. In other words it is less volatile or more predictable.
Here’s the quiz. If you had to invest your one million dollars in one and only one of these 2 funds and you had to withdraw money every year for living expenses, which one is better? Which one do you choose? Let me give you a little bit more information to make the quiz more realistic. If you didn’t withdraw money and reinvested your profits every year over the 25-year period your initial one million dollars grows to about $52 million with Fidelity Magellan by 1993 but only to about $17 million with American Mutual. If you were looking to accumulate wealth, you would surely pick the Fidelity Magellan Fund. But you are not. You are looking to invest in the fund that will provide you with an income for life that keeps up with the cost of living.
So if you must choose one fund and one fund only at the start of 1969 and you were to take out 5% every year for living expenses and every year thereafter you increase the amount that you withdraw based on the actual rate of inflation, which fund do you choose? Put differently, if forced to make decisions with your money the way people with finite amounts of money must make every day what would you do? Would you invest in the best performing volatile fund or a steadier more consistent fund? Remember, you have perfect knowledge while most people in this situation don’t have this luxury. What’s your answer?
Most people choose to invest in Fidelity Magellan because they don’t understand volatility. They don’t appreciate that consistency or steady returns are critical when you are living off of your investments. So how did Fidelity Magellan do for the retiree? If you chose Fidelity Magellan you would be broke well before 1993. You would have been out of money by 1990. Had you chosen American Mutual, you don’t go broke and actually had almost $900,000 left by the end of 1993. Like the 1969 Orioles learned, this is compelling evidence that sometimes what appears on paper as a sure thing is in fact just the opposite. The mathematics of recovery as well as volatility matters when you are withdrawing money and it must last a lifetime. The same rules do not apply as when you are building wealth. If you are building wealth you certainly prefer the Fidelity Magellan fund. Learn this concept or suffer the consequences.