Monte Carlo Simulations Now OK For Brokers To Use With Clients

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Brokers just received a Valentine in the form of a new regulation permitting them to use investment analysis tools such as Monte Carlo simulations in discussions with clients.

The interpretation of National Association of Securities Dealers Rule 2210, IM-2210-6, takes effect on Feb. 14. The Securities and Exchange Commission gave its blessing to the self regulatory organizations proposal on Sept. 28, 2004.

Previously, NASD members could not make predictions regarding investments or investment strategies. Now, however, they can use analytical investment tools such as Monte Carlo simulations to do so.

Monte Carlo simulations input variables and generate as many as several thousand simulations in an attempt to mimic the randomness of securities markets. The technique differs from a deterministic approach, which selects a non-moving assumption such as an interest rate.

The new provisions will make it easier for companies to explain products with complex designs, says Joseph Weiss, actuarial advisor with Ernst & Youngs insurance and actuarial advisory services practice in Hartford, Conn.

Non-moving assumptions such as a single established rate of return do not take into account the order of returns, Weiss explains. For instance, he says, an investment may offer an 8% return one year and different rates in subsequent years.

The Monte Carlo investment tool offers a way to educate a client, but there needs to be adequate disclosure that it provides simulations and not actual results, Weiss says.

The method can give clients a better handle on what they need to do to secure their retirement, says Theodore Yoos, a certified financial planner with Back Bay Financial Group, Boston. It can help them understand how changes in variables they control such as saving and spending can impact retirement planning, he adds.

But, it is important to remind clients that these are assumptions and the “real world could play out differently.”


Reproduced from National Underwriter Life & Health/Financial Services Edition, February 11, 2005. Copyright 2005 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.