If you if you're gonna give us a proprietary index that's hypothetically back tested, and I can't understand it, you won't explain to me how it works. To me, that feels pretty close to a black box. Welcome to How to Retire On Time, the show that answers your retirement questions. We're here to move past the oversimplified advice that you've heard a 100 times. Instead, we're gonna get into the nitty gritty because the truth is there's no such thing as a perfect investment product or strategy.

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Hey, Mike. Which is better? Dynamic indexes that change with the markets or static indexes that don't really change?

Yeah. So an index, in my definition, is just a lot of something.

Okay.

So think of a lot of stocks.

Alright.

Or you've got a lot of stocks and funds, bond funds, you know, you got a you got a lot of something in there. Okay. A lot of commodity exposure, a lot of there's maybe gold and silver. There's there's just a lot of securities Alright. In some sort of ticker that you can buy.

Well, not really that in that. An index is kind of the the definition of what is for this group or this system. The tickers or the investments are funds that will try to match that index or that that that definition, that strategy, that baseline, that benchmark.

Okay.

So let me give an example. You cannot invest in the S and P five hundred. What you can do is you can invest in an ETF or a mutual fund that seeks to mimic the performance of the S and P five hundred. Do you see the difference?

Yeah. And how do they do that though? How do they, what do they do to mimic the performance?

Yeah. It's, it's just replication techniques. They'll just take it and they'll basically invest as closely as it's currently allocated. Then they'll make slight adjustments to it or try to lower their fees as much as possible because they have to get paid to do this. But they're trying to net of their fee match the performance of the index.

Okay.

So if the index grows 16% in one year or one month or whatever, they're trying to match.

They're trying to match that.

Okay. So

that is a static index kind of.

Okay.

The S and P 500 actually changes all the time. So the bottom, you know, 100, those stocks can come in and out of the S and P 500. The top ones pretty much stay in there for a while for long term. Like they don't really change. I don't see Apple ever leaving the S and P 500.

Right.

Okay. So that's a that's more of a static index. My define static as it's not really moving a lot. It's kind of boring in a good way. Then you've got, you know, other statics, you know, the the Russell 2,000, you've got the Dow Jones Industrial, you've got the Nasdaq 100.

These are for the most part, just it is buy and hold. As of late, I say late, you know, really in the last decade that I've noticed there's been and this has been true for for as long as I can think of. There are indexes that are built around an algorithm or a formula or a philosophy.

Okay.

So this is this is now the dynamic side of things. So it might be that this is an index that daily rebalances. So every day they then go back to a certain rebalanced formula. So if some stocks go this way or that way, they then they keep things pretty tight. That's different than buy and hold like the S and P 500, which is what we're used to.

Okay? That's the daily rebalance. There are some indexes to where based on certain metrics or indicators, they might rebalance to commodities and then they might go over to the American market and then they might go to the European market or they might then go to the Japanese market in different places. So it's a dynamic index and you think of it as back in the day, had money managers, mutual funds to where they were kind of making adjustments. These are ETFs or indexes that are more technologically like built around something.

There's still a manager making decisions, but it's more on systems that can shift things around. Are you with me so far? This is a little bit more technical.

Yeah. It sounds like, it's in the name, right? Dynamics. It can change like on a dime, right?

Yeah. So the reason why this is an interesting question is because of something called hypothetical performance. Dynamic indexes are often launched with marketing material around the hypothetical, what it would have done. Well, that's nice, but past performance is not indicative of future returns or future potential or future growth. So what would have happened backtested hindsight's 2020 doesn't guarantee that's going to continue to happen.

And so there are a lot of indexes specifically. I see this a lot in the insurance business because when you buy like, life insurance, for example, like index universal life, which is around an index, or you buy an annuity, which is allocated around an index, they will create new indexes that look really, really good. But then they launch them and then you're invested in them. And then what happens? Reality sets in.

Sometimes they work, sometimes they don't. And I'm not suggesting that insurance companies are out to make bad performing indexes. That's not the case at all. They actually put a lot of money into these indexes to try and make high performing low cost ways to invest your money to grow. They want to grow your money.

But it's really difficult to do. I mean, I think quantum physics might be easier than trying to get something like this in order.

Just because of the why? Because of the unknowns of what the market's going to do?

Well markets are emotional. Yeah. It's based on human sentiment. It's based on human invention. It's based on humans.

How predictable is that? I mean, last time I checked physics doesn't change, but humans are all over the place.

Oh yeah.

So, I mean, how do you quantify that? Let's say it's 1995. How do you quantify that in fifteen years or so people are going to start getting really greedy and manipulate the housing market? You know, the boring old mortgage backed security. And that they're going to create synthetic securities around this so that it creates this explosion and that creates then eventually, you know, more than ten years later, but, 02/2008, the financial crisis.

How do you put that in your equation? Sure. Right. So very difficult to do. The reason why I think this is interesting is there are people today that I have met, I'm not saying this is everyone, that have been sold an insurance product that they believe will almost keep up or outperform the market.

It's like, Oh, this thing is so great. I mean, it's getting and don't quote me on this. I'm being hyperbolic here. I'm exaggerating. Okay.

Okay. Quoting performance from anyone. But all this annuity is getting like 12 to 13% year over year. That's sustainable. That's going to keep happening.

No, it's not. Please, no, it's not. So you have to be really careful about the hypothetical black box indexes because they're new. They're not tested that well. I mean, they're tested extensively, but it's still the future performance.

You just got to be very careful about these things.

And why do we call it a black box? Cause we don't know the exact formula or

Yeah. They never really disclosed their proprietary systems. So black box, that's the oldest con. It's literally like fairs. I don't know.

Like you think of like the 1920s, like Buster Keaton time. Okay. Right. Hey, come over here. Like, look at those black boxes, something really special inside, but Hey, can't show you.

But if you put your money in here now you'll share the prize. You know, you got that like, schme or whatever they the hell ever they talk back then. Don't know. But like This is

where we need Conan O'Brien's voice. Yeah. He was good at that. Yeah.

But like back in these fairs, these con artists would create a black box. I'm not calling insurance companies con artists.

Yeah, that's right.

I'm not. But the expression comes back from people getting conned. So if you if you're going to give us a proprietary index that's hypothetically back tested and I can't understand and you won't explain to me how it works. To me, that feels pretty close to a black box. Now I know that regulators have to go through it and that regulators are okay with it, but I'm not a regulator.

Yeah. I'm not. I don't know what's going on there. So I get very uncomfortable when there's a black box that I can't explain. So there are a lot of products out there, especially in the investment or insurance space that look really, really good.

But I'm going, I don't know about this. Mhmm. Let me can I tell you a quick story?

Yeah. Please.

This is a true story. Okay. The names and places have been changed to protect the innocent.

Oh, good.

There was a new product. That's all I'm going to say about it.

Okay.

That was being marketed heavily. A lot of money went into the product like this. This company spent a lot of money trying to create a really nice product for people. They, I believe, genuinely wanted to do right for the investor. Okay.

Came across my desk and I'll look at anything. I want to know if it's good or bad. I want to know what's out there. I spent a lot of time researching new offerings because I don't want to be the guy that says, oh, I didn't know I got lazy. So I spent a lot of time with this stuff.

So I'm looking at it, I'm going, this thing can't make more than 4%. Why would I invest in it? What I recommend client companies? Oh, but no, it's great. It's consistent.

It's this, it's this, it's amazing. And then like they quote some like some PhD that's behind it and some whatever study or whatever. And it's just amazing. Said, it's a black box here. But I based on what I'm reading, I'm seeing here, this thing can't make more than 4%.

So I talked to the sales rep, he gets exhausted. So then I talked to the sales reps, regional manager, whatever he gets exhausted. Then I get some VP on the phone around this product and he gets exhausted with my questions because they can't answer them. They can't answer my questions. Then it eventually gets to the guy that invented the index that then supports the product from a very large company.

I said the name, you would know who they are. I said the company that then supported the index, you would know who it is. After forty five minutes of just asking questions, trying to understand it, he and I I don't know how I even got his attention. Like, the fact that he even took my call is pretty cool, but he spent forty five minutes with me. And eventually he said, Yeah, what do you expect it to do?

I said, Thank you for admitting that. Yeah. And eventually then I've never recommended that product. That happens more often than I think people realize, and I think the finance professionals may not all realize that as well. There are some that are jaded in the business.

There are some that are looking up bright eyed, bushy tailed. Oh, this thing's amazing. They fixed it. You don't fix economic theory. You don't hack the system on a set it and forget it index strategy.

You don't care how smart people are. The dynamic nature of the markets cannot be hacked. So, yeah, when you look at alternative indexes or dynamic indexes or things like that, it doesn't make them bad. It means maybe you should give them some time to prove their worth. We right now use some dynamic indexes in some of our clients portfolios with certain investments or products.

But I've I can look at them and say, this is how they act in the crash and actually point to historical performance. I can explain how they work. I understand that there's been enough real time data to validate it. So we don't want to go in this absolute camp of no dynamic or no index or whatever it is. It's just be skeptical of one back tested performance and two, if it's too confusing of a black box, proceed with caution.

That that is how it has to be treated, in my opinion. I do like static indexes because they also work and they're easier to predict when you're looking at projections for a client, you're looking at possibilities or probability. Because when you add too many variables to the equation, it gets more complicated. That's all the time we've got for today's show. If you enjoyed the show, consider telling a friend, leaving a rating, and most importantly, that you are subscribed to it so that you don't miss a thing.

For more resources, including a copy of my book, on demand courses, and so much more, just go to www.retireontime.com. If you want help putting your retirement plan together, go to retireontime.com and click the button that says get started. But seriously, from all of us here at Kedrick Wealth, we wanna thank you for spending your time, your most precious asset with us today. We'll see you in the next episode.