There are some outstanding financial planning tools and some very poor, misleading tools.
Your financial future is a bit like your health—it is complex and multi-faceted. As in healthcare, the tools used for financial diagnosis and the practitioner who interprets the results need to be up to the task.
Consider the following points when using financial software or calculators:
- Expect to input quite a bit of information about yourself to get any meaningful results. You can’t just drop-in your investable assets and current age and expect anything substantive to come out of it.
- You can’t produce meaningful retirement income projections without an accurate and realistic accounting for Social Security. Avoid software that does not dig-in to the complex Social Security component.
- The same can be said of the output or results—it should be pretty meaty. There is no magic number.
- Beware of the black box. The software developer should be forthright about the processes that are used to generate results.
- Consider the source. Is the software developed by a professor at a reputable educational institution or other competent, objective and credible source?
- Beware of single numbers. Output or results should be presented as a range of possibilities—not as a single magic number. If there are single numbers, they should be accompanied by percentiles or otherwise expressed in terms of confidence levels and probabilities.
- Remember the Great Recession if Monte Carlo simulations are used. Capital markets are highly volatile, and the historical data used to generate Monte Carlo simulations often does not capture the true nature of this volatility. Ask your advisor about stress testing, fat tails and black swans if Monte Carlo simulations are involved.
- There is no certainty. Remember that the results of any software or model are uncertain and should be considered as just one part of the decision making process.
Glossary:
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