The Legends of WealthTech with Paul Samuelson

Jack Sharry: Hello, everyone. Thanks for joining us for this week’s special Legends edition of WealthTech on Deck. We’ve had a handful of legends on this podcast, I think we’ve had ten so far. And as always, we look for someone who has changed the industry for the better and can provide some history and context about how those changes came about. I’m very pleased to have my friend and colleague Paul Samuelson on this week’s show. As you will hear, Paul has had the good fortune of spending time with many of the great investors of his time. That’s not an exaggeration, as you’ll soon hear. It starts with his dad, also named Paul Samuelson. Paul’s dad was a Nobel Laureate in Economics and advised five presidents. He also helped make MIT one of the leading institutions for economics. Paul will share stories of the many notable investors he got to spend time with and what he was able to do with those learnings over time. So, Paul, welcome to WealthTech on Deck.

Paul Samuelson: It’s great to be here. Once, I was the youngest guy in the room, and suddenly, I’m the oldest except for Jack.

Jack Sharry: Oh, you know, if it wasn’t true, I wouldn’t like that. But I guess it’s true. So. But thank you, Paul. In case people are wondering, Paul and I are of similar age. I just have him by a year. So.

Paul Samuelson: Yes.

Jack Sharry: So, Paul, you spent time with many of the investor greats of the era. Please tell us about about them and the lessons you learned.

Paul Samuelson: Okay. I basically took my first steps into modern finance in 1975. And I was lucky enough to arrive at MIT at exactly the time when the options pricing model was being created. And my father, you know, had a minor part in its creation. He had a very clever graduate student who is named Bob Merton. And Bob had found himself a lost soul at Caltech, doing astrophysics. So he dropped an application in themail. And my father’s most eccentric colleague was named Harold Freeman. And he was a coal miner’s son, discovered by his high school math teacher, who somehow found his way to MIT, and was the first modern member of the department. He, in fact, recruited my father to MIT.

Jack Sharry: Paul, what year… just to give people a context, what year are we talking about? And when you talk about the options, you’re talking about Black-Scholes?

Paul Samuelson: Yes.

Jack Sharry: Yeah. Why don’t you… if you could just fill folks in a little bit on that.

Paul Samuelson: Okay, I arrived at MIT in 1975. And that was the two years after the official birth of the Black-Scholes option formula. So, you know, there were a number of hurdles in modern finance, in that period. One was modern portfolio theory, which actually got developed primarily away from MIT by two men who became Nobel Laureates. One was Bill Sharpe. And then the second was Harry Markowitz. They were both great guys, and quite different. Bill was just the nicest man possible. I met him in the late 70s, at conferences, and he always had a very young colleague, speak to the audience about Bill’s work, because he thought it would be of more help to the young colleague than he needed at that point. Harry Markowitz, on the other hand, was much more blunt. And to give you an example, I once called him to get a reference on a fella that we were quite excited about hiring. Harry said to me, “We’re not having this call. We didn’t have this call. I signed a non disparagement agreement with this fellow. Don’t hire him under any circumstances.” We didn’t hire him. Harry and I talked about other things, including modern portfolio theory. But because it’s timely I will tell one story in a different way than some others have told the same story: anti semitism at Harvard, it’s been in the news. And one of the episodes that is brought up by some people was that my father was not offered a job at Harvard after he was their outstanding student during the 1930s. Now, my father had a best friend named Bob Solow, who also won a Nobel Prize…

Jack Sharry: By the way, Paul, it seems like you only hang out with Nobel Laureates, is that the deal?

Paul Samuelson: No, but I just happened to be around at the right time.

Jack Sharry: Yeah, yeah.

Paul Samuelson: But Bob, also went to Harvard. But he went to Harvard as a freshman in 1940. And he came from Brooklyn, and he thought he landed on the moon. But he was interested in economics. So he was well on his way, until Pearl Harbor. And because he was 19 years old, he joined the Army infantry, eventually fighting in Italy. Luckily enough for him, and for everyone else, he survived. And after he survived, he went back to Harvard, finished his undergraduate degree and got a PhD. And he, like my father, was looking for a place to land. So he really knew the terrain at Harvard during that period. And he lists off four reasons for why Harvard made a, you know, tremendous mistake in sending my father down the river, where the premier economics department was established for, you know, a half century or longer than that. And so the first reason was, there was some anti semitism. Bob didn’t think that that was a very compelling reason. The second reason was that my father had used math in his dissertation. And that was new to them. And kind of scary.

Jack Sharry: Interesting.

Paul Samuelson: The third reason was said he was a Keynesian and that was also new to them, the notion that government spending could be used to offset a depression in the economy. But the fourth reason was what Bob thought really mattered, which was that my father was not stupid. And most of the members of the economics department at that time, and he’d taken courses from them, were really quite stupid. And they didn’t want someone who’s going to be too smart.

Jack Sharry: Gotcha. How does he wind up at MIT, how does that come about?

Paul Samuelson: Because Harold Freeman was just sort of hiring people. My father had moved a lot as a kid, and didn’t want to move. So he could maintain the same apartment in Harvard Square, and just ride three stops on the subway, as opposed to walking to Harvard Yard.

Jack Sharry: So, Paul, so your dad winds up at MIT and at that time, I think MIT didn’t even do economics, did it? It’s become a powerhouse since, but tell us about how all that got started?

Paul Samuelson: Well, it was a service department at the time for engineers. So it’s as if the engineers were learning a little bit of accounting. They were supposed to learn a little bit of macroeconomics, which really meant labor economics at that time, because unions were new and very important. My father broadened the curriculum. It still took, I think, another decade or more in order to get any graduate students. But he did write his textbook, for which I will always be grateful along with my five siblings, since.

Jack Sharry: Yes, for our audience that may not be familiar or younger. Certainly for some of us who have been around for a little bit. That was the textbook of record. If you were taking Economics 101, you read the Paul Samuelson textbook, right?

Paul Samuelson: Yes. Although, there were some challenges to having it adopted at various universities, including MIT.

Jack Sharry: Oh, really?

Paul Samuelson: And the challenge at MIT was that it included too many modern views of economics. And people in the engineering school were a little wary of some of the Keynesian arguments that went over their heads.

Jack Sharry: Interesting. Wow. To proceed, I’m also curious in this sort of as things evolved, when did the Nobel kick in? So just, just give our audience a sense of that. So essentially, he gets to MIT. There, there’s essentially no, no economics department of note, he spent 10 years working with other colleagues, would love to hear about them because I think there’s a couple of Nobel laureates kicking around by the time you guys get down the… they get down the road. And then your dad won a Nobel. So talk about that, how that evolved, because that sets up where you come in later as a student and as hanging out with the folks that you grew up with.

Paul Samuelson: Well, it was necessary, that there is a long delay in receiving a Nobel Prize, because there was no Nobel Prize in Economics until 1968. And so they, because it was a Swedish committee, choosing the prize winners. They chose a couple of Swedes, the first two years. And then my father was the first American. And many people thought he was chosen because of his textbook. His textbook was only a very solid moneymaker for several decades. Just as an aside, if you ever want to make a lot of money off of books, you should have children’s books, like Roald Dahl’s books, where the revenues that my father made were always exaggerated, but the revenues that the Dahl family has made off of those books, Broadway shows, and movies is about 1000 times.

Jack Sharry: Gotcha. Gotcha. But your dad, your dad did all right, with the book, and you guys did all right with the book, right?

Paul Samuelson: Yes. And occasionally, my children had the bad taste to complain about the price of textbooks, which I always reminded them that they were on the right side of very expensive textbooks.

Jack Sharry: Yes, yes.

Paul Samuelson: Anyway, arrived in 1975 at MIT, and that was just when Black-Scholes formula options formula was being developed, or maybe a couple of years afterwards. And my father’s role in the options formula, was that, you know, he thought these were kind of fun. And they probably could be easily valued if someone had better math than his 1930s math, which was, at the time, 40 years old. And so Bob Merton took on the task. But my father, once Bob made some progress along with Fischer Black and Myron Scholes was able to name the two types of options. One were options where you could only exercise them when they expired, and they were pretty easy to value. So my father called them European options, because he thought that even Europeans were capable of understanding and valuing them. The other kind of options, you could exercise early, which meant just before a dividend was being paid. And they were more, slightly more complicated to value. And they require American know how. So they were called American options.

Jack Sharry: Gotcha, good.

Paul Samuelson: And everyone was very excited about this. I was only a master’s student. So I went off to one of the very small number of investment jobs that were available in 1977, because growth stocks had crashed badly. And I went to Citibank as a junior officer, and learned a few things. One was, you should always start projects, even if they were stupid, because you would have moved on long before they failed. The second was, in some large organizations, don’t worry too much about your boss, because I happen to have six of them in one year.

Jack Sharry: Yeah, yeah.

Paul Samuelson: But what was most memorable to me was being in an audience of 500 bank officers. And Walter Wriston was head of the bank, and the most important banker of his generation, who’d had to earn it. David Rockefeller was also an important banker, but was his family’s bank. So he didn’t really have to earn it. But Walt said, you know, we’re not gonna lose any money on our Latin American loans that are guaranteed by governments. And I thought this is crazy. You know, they were completely underwater, but he knew Citibank’s past, and they’d always gotten bailed out. And so they did get bailed out on those loans. And then they’ve gotten bailed out several times subsequently, on bad loans. So, you know, bankers often know more than, you know, 24 year olds, because they don’t just know what the fundamentals are. But they know what the politics are.

Jack Sharry: Sure.

Paul Samuelson: So I moved on to the Ford Foundation, because Fischer Black recommended me as someone pretty reliable, and I was still very young and cheap. And we hired two pretty well-known investors now, but not so much then, to do international investing for us. One was Dean LeBaron, who was doing a pretty simple task, which was just index investing, and mostly had confidence in him, except for the fact that he was such a salesman. And so he emphasized to us and we didn’t need to hear about it, that he had a really big computer in his office in a glass box. And that meant that they were doing really smart things. And then the second thing he emphasized was that he had a private jet that would take us anywhere in Asia and Latin America, if we just wanted to get out of the office for for some fun. We didn’t care. But Dean also had worked with Jeremy Grantham of Grantham, Mayo, Van Otterloo. And each of them spent a lot of time disparaging the other. And it got boring very fast.

Jack Sharry: Yeah.

Paul Samuelson: Because both were both were successful. Both had dominant personalities. But otherwise, you couldn’t really tell that much difference between the two. We also had John Templeton come in for an international stock picking strategy. And we thought this is going to be great. But he comes in, he’s an older guy, of course, 20 years younger then than I am now. But he kind of freaked us out. Because at a meeting with about a dozen people, he began the meeting with this very long prayer. And we all had to hold hands around a table and we didn’t, we didn’t know whether we made a terrible mistake or yeah, just something he did.

Jack Sharry: Is that your first and last time seeing a prayer over a conference table?

Paul Samuelson: I think it is. Yeah, I’ve definitely done some odd things that conference tables, gone around to union members and very deferentially tried to introduce myself, but if they were eating a sandwich, they didn’t look up most of the time. Anyway, I went back to graduate school and Merton was still there, Fischer Black was at Goldman Sachs and unfortunately, died, really, unfortunately young. And so, Bob, while I was there, got a Nobel Prize along with Myron Scholes for the Black-Scholes Merton formula. And they became part of a large hedge fund, which was called Long-Term Capital. They really participate primarily with their names as opposed to any ongoing management. However, with their extremely large, unhedged positions, they almost brought down the entire financial markets.

Jack Sharry: I remember that, Long-Term Capital. Yeah.

Paul Samuelson: Yes. And they caused a very serious market crash in 1987. But since I’ve seen them recently, on the 50th anniversary of the options model at MIT, if you don’t complain about things in the past, and you don’t try to explain about them, you can perceive rather handily, so that they, you know, had no apologies about things that went well, or things that hadn’t gone so well.

Jack Sharry: So Paul, as you’re going along, you’re a portfolio manager at the time. What are some lessons learned as you’re watching these Nobel laureates with brilliant ideas, but you were you were responsible for putting them into portfolios and being measured by your performance. What are some lessons learned along the way, good and bad?

Paul Samuelson: Well, I mean, you know, one lesson is that you want to be all in. To be associated with a firm on some advisory basis is not what I would recommend to many players, because you really have some accountability and no authority whatsoever. So that, that would be a cautionary tale. On the other hand, I will say that people can be very helpful. And sometimes it’s just giving a little bit of direction. So for example, when Michael Benedek and Mark Hoffman, and I were… had sold one company that had done individual account tax management upstream technologies, we were debating what to do next. And at the time, there were plenty of companies that needed just risk management advice. But there really was no one who was developing software to support household investing. And since my father had both held IRAs and brokerage accounts and had complicated restricted stock, in particular, Berkshire Hathaway, and then had essentially directed his children’s accounts, and grandchildren’s accounts, except for my accounts and my grandchildren, because he thought I was capable of doing it. He said, you know, look, help people out who really have a complicated problem. And Bill Sharpe, besides doing the original, modern portfolio management, wrote a lot about lifetime investing, and said it was really a very challenging problem. And I knew up close that managing the taxes was challenging. I knew a little bit less about achieving some sort of diversification when you had concentrated positions, because I happened to have dumped most of my concentrated positions by giving away a lot of money. And so that’s the easiest way to avoid taxes.

Jack Sharry: Be a good donor of those concentrated positions.

Paul Samuelson: Yes. But anyway, we sort of bit off something that was probably harder than we knew it was going to be. And, in particular, it’s fairly obvious how to at least think about reducing investment taxes, when you have IRAs and taxable brokerage accounts. You basically try to hide the highly taxed securities in the IRAs, and then try and pursue the most tax efficient strategies in whatever’s left in the brokerage accounts, which sometimes means substitute municipal bonds for taxable bonds, sometimes means just using buy and hold strategies often, like index strategies for stocks.

Jack Sharry: So Paul, just to frame for our audience that may not be familiar with the concepts you’re talking about. And just to be clear, so that everyone knows what you’re talking about. What Paul is describing is that, at least as Paul told me before, and you’ll have to correct me if I’m, I’m off here, but Paul once told me that he and his dad would go to watch kids/grandkids play soccer, and people would seek Paul and Paul’s dad’s advice on how to invest. And I think your basic philosophy was, buy low cost, hold for a long period of time, avoid paying taxes. Did I get that right? Is that pretty much the advice?

Paul Samuelson: Yes. And what I learned both by providing advice to my siblings, and my in laws, and then certainly my friends with significant inheritances, was that it just was never sufficient. You could give people the broad guidelines. And then if they actually were trying to figure out what to do, I’d get repeated telephone calls, and they would send me a spreadsheet and it had some of what they held, other things, and, frankly, you don’t always want to know whether your friend has 7 million or 27 million.

Jack Sharry: Right, right, right.

Paul Samuelson: People… very, very few people can do it themselves.

Jack Sharry: So Paul, what you’re describing, at least the precursor and I’d love to hear more, is the beginnings of LifeYield that you were getting all these people asking for your help, you did the best you could, you know, on the back of the envelope. And it seems to have required, or as it’s turned out, sophisticated software. So why don’t you talk about that evolution?

Paul Samuelson: Yes. Well, our initial focus was on the clients which advisors favored most. And those were the clients who were either approaching retirement or were in retirement.

Jack Sharry: Yep.

Paul Samuelson: And the reason why advisors liked those clients was that they were… that was the period when they had, often, their peak assets. And so, you know, advisors naturally are attracted to clients with as much in their investment accounts as possible. The challenge, especially for people entering retirement, is that you can be somewhat disorganized with your advisors when you’re just contributing funds. But as soon as you start to take out funds, you got to become extremely organized.

Jack Sharry: Right.

Paul Samuelson: And in particular, you have to have very good advice in order to manage taxes effectively, about withdrawals from your IRAs.

Jack Sharry: Paul, if you would, talk a little bit about just the importance of taxes. I know you’ve got a bunch of ideas along those lines about… maybe touch on, during the accumulation phase, asset location, then the optimal sequence of withdrawal, talk a little bit because taxes plays such an important role. Why don’t you, why don’t you give that some… provide some context/perspective?

Paul Samuelson: Okay, well, one type of taxes is taxes on the assets in your brokerage accounts, which can include individual stocks, bond and stock funds, as well as options for the accumulating clients. And if… typical investment allocation, there might be a 2% to 3% difference between the pre tax returns and the after tax return. And that’s especially true with certain types of alternative investments that may offer quite high pre tax returns, but not have particularly attractive tax properties. A lot of the return comes either as short term gains, or as interest income. So you really need software to look at all the accounts to make sensible recommendations about where to hold highly taxed assets, hopefully, in your IRAs, as opposed to your brokerage accounts. Ongoing problems for both accumulating and retirement clients, the accumulating clients often have options, which are also taxed unfavorably, and often poorly understood, especially when individuals have long term options on their company stock.

Jack Sharry: Gotcha. And as you’re, as you’re developing your thinking on this, because you didn’t start knowing all the stuff you know today. Just because it’s kind of a unexplored… it’s been, to the extent you’ve explored it, it’s prior to you spending time on it, it was just one of those things you should probably pay attention to, but no one fully was. What did the role of your father have to do with all this? As I recall, I think you shared with me that you guys used to talk about this stuff all the time, trying to figure out what do you do about taxes? Is that right?

Paul Samuelson: Yes. So we talked about, which was relatively easy, was how you manage taxes. You know, for me and my siblings, when we were in our 50s, and what you did with grandchildren’s accounts. Everything gets amazingly more complicated…

Jack Sharry: Sure.

Paul Samuelson: As you age, and so where we had a learning experience together, was associated with my father aging, and finding himself with, primarily, highly appreciated stock. And what do you do? I mean, a lot of it can step up at death and that’s what happened with my father, but I’ve sensed, because my in laws were a generation younger than my father, I’ve learned about everything to do with one member of the couple dying before the other, putting appreciated stock into a separate account so it steps up at first death and, and it’s really quite complicated, even if you don’t have a large estate to manage.

Jack Sharry: So Paul, you’ve had the good fortune to spend a lot of time with a lot of Nobel laureates. I don’t know anyone, can’t think of anyone who has spent more time with more Nobel laureates than you. Certainly your father was… as the first Nobel Laureate in economics, he led the way. But many followed, and many were his either colleagues or students. And you had that benefit, and you’ve learned a ton, I know, culminating in the work that you’re currently doing at LifeYield, which is, in my view, not… biased, but I’m not wrong. And that is that it’s transformational, what you’ve developed at LifeYield. That all said, what are some lessons learned? What have you learned along the way, over the decades of hanging out with super smart people on a topic of economics?

Paul Samuelson: Well, one thing I’ve learned, unfortunately, this was my father in law, who was very successful economics professor at Yale. And that is, if investing is not your expertise, it doesn’t necessarily help you, and it may actually hurt you to be an expert in other areas of economics.

Jack Sharry: Gotcha.

Paul Samuelson: So I mean, that’s one thing. And then the second thing is that you need software for everything. Because everything depends on the exact numbers. And you really need good tax calculating software. So you know what brackets you’re actually going to use. You’re not even in the game, in terms of managing IRA withdrawals, unless you have a good tax calculator. And then, in terms of risk management, you think it would be not so difficult, but there are so many investors who have restricted positions, and then it becomes much more challenging. And part of the challenge is that you’re carrying some extra concentration risk, that if the particular stock you hold does better than other stocks in its sector, that’s great, but it may do worse.

Jack Sharry: Yeah, yeah.

Paul Samuelson: But the other thing, which is sometimes harder to work around than others, is that you can have exposure, for example, if you have a tech stock, to the technology sector, and it’s really quite hard to work around that. And you can, when you’re buying stocks, you can buy anything but tech, but it can still increase your risk significantly. So if you look at what challenges clients present to advisors, there’s really a wide variety and the advisor needs to understand what the recommendation is. And he needs to be able to tell a simple story to his clients, so that they can agree to follow his recommendation or her recommendation, and continue to do so when their friends suggests them, “I have this great advisor who visits me on Nantucket,” etc. But if I think about having been in the investment business, both as a portfolio manager and as someone providing software to advisors, I am reminded that some things I’ve learned that were really useful are just obsolete, and one of those things has to do with shoes. When I visited clients who had graduated from West Point, and I was in the airport, I always got my shoes shined. When I visited London, I never wore brown shoes. In this day and age, things have gotten much more casual, so I don’t have to worry about… I don’t have to worry about that anymore. I don’t go to meetings dressed as if I’m on Zoom call, you know, with a very nice coat and tie and blue jeans. But you don’t have to worry about your shoes as much as I once did. But I’m amazed at how much modern finance both informs understanding investors’ problems, but gets used… the Black-Scholes formula gets used if someone holds any options at all, in a very significant way. The modern portfolio theory gets used to estimate household risk. Frankly, where the finance, you know, the academic finance profession has let people down is that they haven’t looked at taxes very seriously. And there should have been better formulations of tax calculations, formulations of different ways to manage taxes, both before retirement and after retirement.

Jack Sharry: Yeah.

Paul Samuelson: So that’s really where the industry has had to build it themselves.

Jack Sharry: So Paul, on that very important note, thank you for the good work you’ve done because you’ve really led our industry in this… with regard to taxes and I, I suspect many will follow although they’re gonna find it a lot tougher than they might have wanted it to be. I want to thank you for being on the show. And thank you for all the good work. For our audience, if you’ve enjoyed our podcast, please rate, review, and share what we’re doing here at WealthTech on Deck. We’re available wherever you get your podcasts. Thank you again, Paul. It’s been a real pleasure as always.

Paul Samuelson: Thank you, Jack.