Konstantin Litovsky of Litovsky Asset Management specializes in providing small business owners like private practice doctors and dentists with comprehensive financial planning and retirement plan consulting services, and is one of the tiny number of advisors who provide flat-fee comprehensive retirement plan services. Konstantin is one brilliant guy and he talked to us about:
- How medical professionals are penalized by asset-based fees and the astronomical amount he estimates asset based fees steal from your wealth over time
- How his math background and engineering background helps him to consider his clients’ finances as a system with many moving parts, and how all parts of the system have to work together
- His 5 Point Investment Plan that lays out very basic guidelines that you can use to keep more of your wealth and allow for better planning opportunities for your retirement
- The myths and realities of investment management and why knowing these will blow your mind
Josh Mettle: Hello and welcome to the Physician Financial Success Podcast. My name is Josh Mettle, and this is the podcast dedicated to advising physicians how to avoid financial landmines. Today, we’ll be talking to Konstantin Litovsky from Litovsky Asset Management in Newton, Massachusetts. Konstantin specializes in providing small business owners like private practice doctors and dentists with comprehensive financial planning and retirement consulting services via competitive flat fees versus typical asset-based fees. Of course, we’ll ask him to dive into that a little bit more. Konstantin, welcome to the show. How are you today?
Konstantin Litovsky: Hi, Josh. I’m great. Thank you for having this podcast. I think you’re doing a valuable service to medical professionals, and I do hope that this information will be useful to all those listening.
Josh Mettle: I appreciate it. That is exactly what we shoot for, so hopefully we can uncork or uncap some interesting facts today and bring some value. With that, my friend, I’d like to start off with maybe just a little bit of background about yourself. Tell me just a little bit about Litovsky Asset Management, and maybe how you got started down the path of serving dentists and physicians.
Konstantin Litovsky: I got first interested in investment management around the year 2000, so I spent the following decade learning on my own, using online investment class materials, reading research papers, and pretty much any investment books I could get my hands on. I tried to study the best practices from the top investment managers in the business. My father and my wife both have their own businesses, so eventually my interest turned to helping small business owners in areas other than investment management.
Josh Mettle: Sure.
Konstantin Litovsky: So, I learned as much as I could debt repayment, insurance, tax planning, and retirement plans. When I got started working with doctors and dentists, I had a pretty good idea of the areas where they might need help. Just to give some background about how I came to do what I do, so because doctors make good money, save a lot, and pay high taxes, they needed advice in areas such as after-tax investing with individual municipal bonds and retirement plans, which are specifically designed for small practices run by high earners.
Josh Mettle: Yeah.
Konstantin Litovsky: One big problem that I found is that many doctors’ advisors rarely offer comprehensive advice, so their CPA may simply do their taxes but not tax planning.
Josh Mettle: Yeah.
Konstantin Litovsky: They may also be working with a broker, who is sometimes, often called a financial advisor, who sells products but does not offer the right type of advice. Even most advisors, who are so-called fee-only, they might charge an asset-based fee for managing investment, yet very few actually provide advice on retirement plans, work with their clients’ CPAs on tax planning strategies, or recommend the right type of insurance. So, medical professionals are penalized by asset-based fees because such fees can eat up a huge amount of their wealth for no added benefit. My estimates are these fees can range and eat up as much as $1 million in extra fees over 25 or 30 years.
Josh Mettle: Wow.
Konstantin Litovsky: Often, many firms that charge asset-based fees also charge extra planning fees on top of the asset-based fees if they do any planning at all, because it is very, very lucrative to just manage assets‑
Josh Mettle: Right.
Konstantin Litovsky: Or charge asset-based fees.
Josh Mettle: Right.
Konstantin Litovsky: To offer the right level of advice, I realized that I have to be a fiduciary, so I have to work in the best interest of my clients. To be the best fiduciary, I had to stop charging asset-based fees and switch the entirely to flat fees, which is exactly what I ended up doing because I did start charging asset-based fees like the best managers in the business. Unfortunately, that was the model at the time. For a single flat fee, I’m able to provide both comprehensive financial planning services and also retirement plan consulting services, so the big thing here is obviously retirement plans. I’ll mention that at some point in more detail, but that is how I got started and what I ended up doing.
Josh Mettle: Yeah. I’ve been doing a lot of reading lately in regards to the cumulative effect of fees on one’s retirement balance at the end, and I find it interesting that you’ve kind of run those numbers. I have read multiple newsletters, multiple analyses of that recently as well, so I love that, and I know you have some more information on your website about that. We’ll give that out as we go wrap up today. Another thing I found interesting about you, Konstantin, is that you have a background in electrical engineering and mathematics. Just tell us a little bit about your background there. Does that translate at all into how you view or how you manage your client’s portfolio risk today?
Konstantin Litovsky: Very interesting, very good question. I worked as a radar systems engineer in the defense industry for about 10 years. As an engineer, I worked on system-level design. As a result, I always consider my clients’ finances as a system with many moving parts, and all parts of the system have to work together.
Josh Mettle: Wow.
Konstantin Litovsky: That came from engineering‑
Josh Mettle: Sure.
Konstantin Litovsky: and looking at everything as a system and not just everything has to work together. By using a hands-on approach and being proactive in recommending solutions as I pretty much – so I like to address the entire situation, make sure that all aspects of my client’s finances are taken care of. That kind of philosophy came from engineering. As far as the mathematics, so thanks to my math background, I was actually able to dig deeper into the theory of investing. Because I worked with statistical simulations before, this was actually part of my work, my understanding of stock market models helped me develop a conservative risk management approach based on pretty much what we understand about the stock market. There is just way too many misconceptions about how the markets work, so my role is to be the voice of reason and to help my clients manage risks, not just inside their portfolios, but also across all areas of their finances. My background definitely translated pretty good into the practical sort of investment management and risk management.
Josh Mettle: That’s very interesting. I can see you kind of looking at a client’s financial situation in front of you, you know, insurance and tax and everything, and I can see you kind of have it laid out like a radar screen in front of you, saying, “Okay. Where’s the incoming MiG? Where is the landmine here that we’re not paying attention to?” I love that visual. That’s powerful.
Konstantin Litovsky: Yeah. That’s a good one from you. Surprisingly, there’s one big thing that I just want to mention is a lot of advisors who don’t know math will try to cover themselves up with fancy simulations and fancy presentations. I don’t do that. It’s really surprising you do can do back of the envelope Excel spreadsheet, and I could tell you, I do some simulations for illustration purposes because there are big limitations. A lot of the simulations are very limited, and you have to understand how they work, but that’s another thing. It’s being very simple, down to earth, and kind of on the ground, rather than trying to impress people with fancy graphics and fancy math.
Josh Mettle: Yeah. I get it. You have a deeper understanding of how those numbers really work. That makes a lot of sense to me. I think you really kind of answered this in our first two points, but is there anything else that you think uniquely enables you to serve the private practice doctors and physicians as opposed to other colleagues in your field, and you’ve really kind of touched on that. If there’s anything else that comes to mind, I think you’ve already, in my mind, made that fairly clear, but‑
Konstantin Litovsky: Good question. Doctors are smart. They are able to understand investment management concepts at a pretty high level, so it actually makes it easier to communicate with them. They also do appreciate somebody who has their best interest in mind, so that’s pretty rewarding to have that kind of level of trust. One big area where I think I can provide a lot of value to the doctors is the majority of medical professionals will probably have most of their money inside retirement plans. I think it’s crucial to provide high-quality retirement plan services, and I’m one of the tiny number of advisors who provide flat-fee comprehensive retirement plan services. Setting up and managing plans and determining which retirement plans is best, and managing planned assets, etc., so that’s one big area.
Josh Mettle: Yeah. That makes sense. When I was researching and looking on your website, one of the things that really caught my interest that I enjoyed reading about was the five-point investment plan, and would you kind of unpacking that a little bit, just kind of broad strokes overview of it‑
Konstantin Litovsky: Sure.
Josh Mettle: And tell us the thinking behind it.
Konstantin Litovsky: Sure. I’m actually in the process of revising the five-point plan to better reflect the fact that medical professionals are actually much more sophisticated than the average person. The basic ideas remain the same. First of all, obviously, I want to create a long-term plan, and stick with it, making changes only when the financial situation calls for it, and of course making sure that the plan addresses the entire financial situation. The first kind of idea is to start with a plan. The second idea is minimize portfolio expenses and taxes. We want to invest in low-cost index funds and ETFs inside retirement plans and IRAs. We would like to use individual municipal bonds after tax, and of course, we want to use properly designed retirement plans to minimize taxes. These are pretty big. That’s huge. That’s a lot of savings guaranteed if you minimize these.
Josh Mettle: Sure.
Konstantin Litovsky: The next is obviously use the right strategy. Buy and hold with low-cost index funds and diversify across multiple asset classes. Managers they only add value by using a buy-hold approach with index funds and not try to beat the market or time the market. That’s extremely important, and a lot of people forget that, even a lot of advisors. The final concept is you want to manage risk by minimizing portfolio volatility, so many investors actually fail because their portfolios are too risky, so they pretty much quit at the bottom. Also, volatile portfolio can be dangerous when one is near retirement.
Josh Mettle: Yeah.
Konstantin Litovsky: A sudden market crash can result in having to sell the bottom, which is the worst thing, a worst-case scenario. Any portfolio has to contain an appropriate amount of fixed income, whether bond funds or individual bonds to allow for better planning. So, decreasing volatility and also better planning, and also manages the risk, so put it all together, and this is something that has nothing to do with the markets or the prevailing investment strategy. These are very basic things that anybody can do at anytime that will help them keep more of their wealth and allow for better planning opportunities.
Josh Mettle: I think all of those are important, but one that jumps out to me because it’s one that I struggle with is creating that long-term intentional plan and sticking with it. What tends to happen is emotions creep in, right?
Konstantin Litovsky: Yes.
Josh Mettle: Fear and greed. If you don’t have that long-term plan, if you haven’t had a real buy-in and a real cognitive thought process up front as to where you’re headed and to the ups and downs there within that journey, then you can succumb to the emotions of ‑
Konstantin Litovsky: Exactly.
Josh Mettle: Buying too much and getting greedy or selling too much and being fearful, and you tend to do those two things right at the wrong times, right?
Konstantin Litovsky: Exactly.
Josh Mettle: When the market hits the point of capitulation and bottoms, I want to sell.
Konstantin Litovsky: Exactly.
Josh Mettle: When my account is high and stock evaluations are at their highest, I want to contribute more. I like that you’ve thought that out. I like that in your flat-fee system, you looked to create a plan and minimize emotion and maximize logic. I can appreciate the way you’ve thought through that and you advise your clients that way.
Konstantin Litovsky: That’s right, and also as another example, some of this does require some pretty sophisticated calculations and modeling. I mean it’s not all kind of – and also, when you create a plan, you also have to realize that there’s some advisors who create these financial plans, 100-page plans printed out and give it to their clients. But any plan, as an engineer, I understand it really well, so any complex system that you let you run for long enough, there’s going to be changes that are going to create a big difference, such that the original plan becomes pretty much worthless. Every plan has to be adjusted periodically, so this is actually my role to monitor the plan. I want to make sure that the time to adjust, it gets adjusted, but wisely. So, if I just give this to a client, even if it’s the wisest plan in the world, but if they’re not kind of in the same frame of mind as I am, they’ll eventually make enough mistakes to kind of blow the whole thing up. That’s one big role that an advisor should have is to guide the clients, to make sure that they get to where they need to be without making a lot of mistakes along the way.
Josh Mettle: Right. Absolutely, I agree. Another thing that struck me as I was reviewing your writing was a seminar that you gave, and the title was Myths, Realities, and Implications of Prudent Investment Management. I love to blow up myths, and I love to expose realities. I was wondering if you might just share a few of those myths and realities and maybe tell us something that might shock or surprise us or teach us that we wouldn’t have known or thought through.
Konstantin Litovsky: Well, very interesting thing to know is that our brain is not designed to deal with complex statistics. It’s very linear and very kind of we would like to make things predictable, and the stock market is rather complex, so even the simplest models of it can cause big problems for investors as they try to understand how to make sense of it. We are pretty much fooled by randomness, which is by the way the title of a book by Nassim Taleb, which I highly recommend to all medical professionals to read. It is important to differentiate between real facts and myths, passed as facts that are not based on any mathematics but rather on wishful thinking and just ‘repeat a lie long enough’.
I’ll mention several of the common ones. Past market returns are 10 percent, which is true for the S&P 500. Over a hundred years, the past returns are around 10 percent. If you hold it long enough, you’ll get 10 percent return in the future. That’s a huge myth. It is wrong. Past returns don’t translate into the future, and there’s absolutely no math that says that this has to be so, but many people wish it was. As I said, past returns are around 10 percent, but any decade can have a huge range of returns from negative to positive, so markets can change past averages seemingly on a dime within a year or two, and returns can basically move past, sort of the past average up and down significantly. I’ll give you an example. In the decade from 2010 to 2012 – well, it’s a longer decade as it look longer than a decade, but let’s say you went from 0.4 percent in 2010, so the end of the decade, to over 7 percent in 2012, which was only within two years, you changed the average return for the whole decade. This was the annualized return from nothing to 7 percent. This is how the markets work. That’s why sort of past returns don’t really have a lot to predict about the future. That’s one big misconception.
I guess the corollary to this is the mean reversion myth. That’s a huge myth, saying, it came up, it’s going to come down. It’s again our wishful thinking. It’s our sort of linearization of what really happens. It’s not true. The markets just happen to do that, but mathematics has not shown, there has been lots of research, and nobody has been able to find this mythical mean reversion or a mechanism by which it happens. It just kind of our mind says that’s what it is. A lot of the thinking on the Internet basically is erroneous, unfortunately.
Another one that’s very, very important especially for medical professionals is because they do accumulate large portfolios, the longer you hold, the smaller the risk. The saying goes, it goes like this, after 30 years, the risk of losing money in the market is small, to zero. This is how the thinking goes. None other than John Bogle, Vanguard CEO, got tripped by that one. Why is this wrong and completely wrong? That’s not even close to being right. It’s just a misinterpretation of the facts. Annualized returns averaged over longer periods of time are indeed positive, so the longer the period, the higher the annualized return, and they’re positive. That’s true, but the actual risk, so how far you are from your starting point and how far your total return can fluctuate actually increases with time. This is based on mathematics, and this becomes obvious if you look at the chart. So prices drift, up, down, sideways and the spread actually increases with time. Where you end up can vary quite a lot, depending on the market and how volatile your portfolio is. Over 40 years, you probably will not lose money relative to your starting point, but you could certainly lose a lot of money because the longer you’re exposed to high risks, the more likely you’ll experience losses. If you’re planning to have $5 million and ended up with $3 million, that’s a huge miss, even if you made money. This is another one of these myths. It kind of makes a lot of these people into doing the wrong thing. You have to be very careful.
Another one, the last one I’ll mention today basically it goes like this: you need to take a lot of risks to have high return. That may sound plausible, but that actually turns out to be quite false. Again, when I say false it’s in a probabilistic sense, so it can be true sometimes, but it can also be false sometimes. There are times when conservative portfolios catch up and even beat very aggressive ones. This might be counterintuitive, but it is a fact. So, a less volatile portfolio may actually do well as an aggressive portfolio, if one happens to land in a recession like what happened the past recession, it turned out that a fifty-fifty portfolio, so 50 percent stocks, 50 percent bonds, actually ended up having annualized return close to the 100 percent stock portfolio, which on a good day, would beat the more conservative one, but if you just have been through a recession, well, you’re out of luck. This is why it’s important to understand that when you accumulate a lot of money, being a little more conservative can actually be a good idea.
Josh Mettle: Yeah, absolutely. One thing I find with physicians and dentists in both private practices and employed physicians and dentists, but their problem is not really to accumulate savings. That as long as they’re on a decent budget is going to happen. They don’t have to necessarily hit the homerun. What they have to avoid is that catastrophe. I find it interesting you started in 2000 down this path, and of course, that was an interesting year. You came in right in the middle of a catastrophe, but I think that’s the biggest thing to avoid. I think as you go through these myths, and what I found really interesting is past market performance 10 percent and that all depends on where you start taking out your money.
Konstantin Litovsky: That’s right, exactly.
Josh Mettle: How else do you manage that risk? I mean if we know that’s a myth, and we know that depending on where you take the money out, that can vary widely. How do you manage to that as an advisor?
Konstantin Litovsky: That’s a very good question. The best approach is to do the following. I start everybody at a much more conservative portfolio than is typically recommended, so maybe a 50-50 would be a good start, but then eventually there’s only so much you can put in retirement plans. Even if you use cash balance plans you put away $200,000 a year, some dentists make way more than that, so they start accumulating large after-tax holdings. Sometimes they invest in real estate, sometimes but again to diversify, I recommend that they use individual municipal bonds. Eventually as that portfolio grows, their overall share of stocks versus bonds falls. That happens kind of naturally as they accumulate more after-tax income or after-tax assets. Eventually, the stock portion as they get older becomes what I would say insignificant in terms of hurting them. If it doubles, quadruples, great. They’re going to get the benefit. If it crashes, then, they’re not going to be hurt by it, so instead of having to sell at the wrong time‑
Josh Mettle: Right.
Konstantin Litovsky: okay, if they have a 100 percent portfolio. Basically, they don’t have to do that. They’re going to have, not only they have after tax individual bonds, they’re also going to have their bond index funds to balance their portfolios inside their retirement plan. They have plenty of resources to draw and let the stocks ride where they go. That’s basically a very, very kind of –there’s no way to blow that up, okay. You don’t have to time to market. Yes, there are some issues with how to manage bond portfolios in the low interest rate environment, but that’s again. I definitely specialize in that, and it’s definitely something that can be done. Actually in that example, portfolios can be designed to withstand the interest rate risk and inflation risk and all that, but that’s smaller risk to dentists, than these catastrophic losses. Even though a lot of them are afraid of inflation, yet that’s probably not going to be, like you said, it’s probably not going to be a huge problem. They’ll have enough savings, but for them, it’s going to be preserving sort of the principal as much as they could, rather than trying to gamble –
Josh Mettle: Right.
Konstantin Litovsky: And see if they can double it because in the process, they can half it.
Josh Mettle: Yeah, interesting. That makes a lot of sense. Anything else that you want to share with us, having to pertain to the small business owner and particular land mines that you see them falling into or nuggets that you might think they might get of value?
Konstantin Litovsky: I think the big thing is small business owners, it’s really about retirement plans. I think it’s all about retirement plans because as I mentioned before, most medical professionals, are going to have most of their money inside these plans. They may have the best investments sort of outside, but if they don’t take care of their retirement plans to make sure that they’re low cost, that they have the right investments, and also if they have employees, the big thing is there’s this whole issue of fiduciary liability, which most companies serving small clients they don’t ever get into, and that’s a new one. That’s basically, you can’t buy insurance against that.
Josh Mettle: Right.
Konstantin Litovsky: The only way to protect from fiduciary liability as a plan sponsor for a retirement plan, is to hire the right type of advisor to make sure that the plan is set up properly. Actually, is what’s interesting is if I set up one of these plans, there is really very little worry because as a fiduciary it’s pretty simple to make sure that these plans are compliant with all the regulations and employees get their services and dentists and medical professionals get their plans designed right. The fiduciary liability is a big one, and of course, they have to make sure that these plans are designed right. A lot of these companies that sell these plans, they may start you with the basic cookie cutter plan but what medical professionals need, it’s really custom-designed plans that change as their needs to save more money change. That’s another big area where I think a lot of medical professionals are not getting the right level of service. In a nutshell, I think that’s basically covers it all.
Josh Mettle: Great. Well, I appreciate your time today. It’s been great sharing with you. You really do have a great website with lots of information and extremely detailed reports. You can certainly see in your reports your background and the engineer in you. If our listeners would like to get some of that information and potentially reach out to you, can you give us the best way for them to do that?
Konstantin Litovsky: Sure, my website is my last name management, litovskymanagement.com, so L-I-T-O-V-S-K-Y management.com, and my email is firstname.lastname@example.org, K-O-N-S-T-A-N-T-I-N, and my cell is (508) 292-8380, and they’re welcome to browse my blog. That’s where I put all the detailed reports, articles. That’s the best way.
Josh Mettle: Yeah. I can attest, there is a plethora of information there, just a world of knowledge. Konstantin, thanks again. I appreciate you sharing your time with us, your thoughts, and bringing such value to our listeners. Thank you very much.
Konstantin Litovsky: Thank you, Josh, and good luck.