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Dave Ramsey Gives (some) Bad Advice

Way To Wealth

 

Way To Wealth

 

Dave Ramsey Gives (some) Bad Advice

Luke DeBoer, CFP®

I like Dave Ramsey, I really do. If we were to make a short list of the most influential people in the world of personal finance in the last 50ish years he'd likely be in the top 5 and definitely in the top 10. Honestly, he has positively impacted a staggering number of lives and we should all be thankful for the work he's done.

Dave Ramsey has blended simple (though not easy) to implement personal finance tactics, community or group based delivery of his messaging, some excellent advice as it pertains to behavioral finance (in particular budgeting and debt), and a marketing arm that is truly enviable to the rest of us in personal financial advice. What's great about his organization is that what it delivers has made both parties - Dave's organization and his clients - wealthier ... and in Dave's case, likely extremely wealthy. 

With all that being said, there are areas of his "guidance" that are truly cringe-worthy. Things that I so wish he wouldn't say or tell people because they're either outright falsehoods or, at the very least, twists of the truth.

Before the list begins, a couple of disclosures should be added:

1.) Though the following items I either personally disagree with or are completely false, I still firmly believe that the vast majority of people would be better off attending, and implementing the tactics learned therein, Dave Ramsey's Financial Peace University. I have been co-facilitating FPU for a number of years now and have seen first-hand how the system changes lives for the better. You can likely find a course at a local church. 

2.) This is important. Dave Ramsey and his organization are not a not-for-profit. They absolutely are in the business to make money. This is not a bad thing. In fact, the profit-motive has likely been the key to its advancement and its overall societal good. However, it also helps explain many of the below items, errors, and poor guidance. 

So what are the things that Dave says that should make you think twice?

1.) Investment Allocation

Dave routinely suggests a portfolio that is equally divided into the following categories: 

- Growth and Income

- Growth

- Aggressive Growth

- International

The problem? There are some kind-of-made-up or at least opaque terms there. Growth and Income and Aggressive Growth in particular are absolutely not normal terms in the industry. You will be hard pressed to find many investment options that are labeled as such. This makes it difficult to just go out and purchase them from the fund family of your choice. However, it does make it easy for you to buy from one particular fund family.

You see, context matters here. The reason he advises these is that a certain mutual fund company (the name of which I won't use here) has used these terms in the names of their own funds. Additionally, Dave Ramsey has long pitched the idea that the populace should only invest in what are called loaded mutual funds (definition here), which this particular fund company is largely known for. So we have the blend of fund terms that this one particular company offers plus the advocacy for a particular fee-structure that this same company is known for. 

Furthermore, for a long time, up until a little over a year ago actually, Dave had an ELP (Endorsed Local Provider) network - which were a group of Financial Advisers that were "preferred" - for investment representation. The ELPs paid Dave Ramsey's organization to be an ELP. These ELPs, interestingly enough, almost always sold loaded funds up until the very recent past. So there was a direct monetary link between Dave and his investment advice. *The ELP program for investment advice has been replaced with the SmartVestor program, though it works in a very similar fashion.

Now, it's not a problem for Dave to get paid. Dave should get paid for what he does. The problem is that his messaging sure does come across as if it's for the main benefit of the FPU attendee. This arrangement was very much a conflict of interest. If a better portfolio could be constructed he wouldn't suggest it because he didn't necessarily get paid this way. In fact, by keeping it simple and giving advice of buying very specific loaded funds only, he was largely greasing the wheels of his ELPs, as, and no offense is meant towards them, commissioned financial advisers don't have the best of reputations in the industry when it comes to always providing actual financial advice (they got paid to sell products, not give advice). *This is not to say that all commission-based "advisers" are bad, just that there are many bad commission-based "advisers." Using "advisers" as a very loose term here. 

A much better investment allocation build-out comes by personalization. It's actually an odd and interesting situation, as one of the key components of a personalized investment allocation is the recognition that we are human and have different tolerances for potential loss; or put another way, two people who might otherwise look like they should have the same portfolio maybe shouldn't because we manage for behavioral tendencies vs. just pure objectivity (i.e. will a specific person freak out if losses get too large?). It's odd because so much of FPU is about capitalizing on somewhat irrational human behavior, yet in the investment guidance area he almost completely ignores this. 

So please, think long and hard about following his investment advice. 

2.) Actively Managed Mutual Funds

Dave actively and regularly recommends actively managed mutual funds (definition here). Now, not all actively managed mutual funds are bad. I personally own a couple. However, for many people, passively managed ETFs and/or mutual funds (definition here) are a more prudent approach. They are lower cost and allow for easier and more accurate planning, in my opinion. At the very least they should be considered in building a portfolio, yet Dave strongly recommends active funds. See point #1 for my somewhat cynical interpretation of why, as passively managed funds aren't typically loaded but many actively managed ones are.

3.) 12 Percent Returns

While on the topic of investments, it's also important to note perhaps the single most ridiculous thing that Dave Ramsey says, and that is that 12% returns can be expected from the market. This claim would give compliance representatives at investment companies heart attacks if their advisers made them. However, Dave is not an investment adviser. I once did some research in which I looked at the 30 year average return when starting on every single day from 1926 and on (to the extent possible). The geometric returns mostly clustered around 8-9%, with some higher and some lower. It would be so much more prudent and accurate to use these numbers (though it's still dangerous to claim that future returns will mirror past results). Now, some people might look at 8% vs. 12% and think, "So what? They're both positive." 

The point here is not that you should necessarily avoid investing in stocks just because Dave uses a likely-inflated average return expectation but rather that you should strongly question the investment advice from someone who so commonly uses such a ridiculously high number, especially when it's so easy to look at historical returns and find his falsehood. 

4.) Long-Term Care Insurance

This one is fairly recent but Dave now suggests that everyone should buy a long-term care (LTC) insurance policy (definition here) when they turn 60. 

In many scenarios this can be a good idea. However, in many, maybe even most, it's terrible advice. Long-term care policies are wrought with issues, mostly as it relates to the ability of the insurance company to change premiums without corresponding changes in benefits. A recent Wall Street Journal article articulated this issue a lot better than I can. 

This is not to say that all people should avoid LTC policies. For many it's a good decision. However, Dave doesn't benefit as much if he says that only some people should buy it. You see, part of Dave's paid ELP program is taking monthly fees from insurance agents to be a part of the network. Insurance agents sell LTC policies. LTC policies are very expensive. Expensive insurance policies are very lucrative to insurance agents. Insurance agents who get paid lots of money to sell expensive products are willing to pay lots of money to people who will feed them more leads. Dave Ramsey feeds his ELPs lots of leads. You see the problem here. 

5.) Debt Elimination First

Dave says that all debt should be eliminated before investing. While this makes financial planning easy and sequential, it also causes significant missed opportunities. Debt is generally bad. However, there are "less bad" forms of it. Many of these forms are perfectly healthy to have in conjunction with saving and investing. 

There are other areas of FPU and Dave Ramsey's advice that I disagree with from time to time, but admittedly those are things that I think reasonable people could disagree with; as such, I won't bring them up here. 

Overall, Dave Ramsey's Financial Peace University is a great thing. It provides hope for so many and has been a force for societal progress. However, please don't be suckered into thinking that because Dave Ramsey's program itself is generally good that every piece of his financial advice is also good.

Mostly good? Yes. Wholly good? Hardly.

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