Attracting affluent investors: Use Saks, not Walmart strategiesArticle added by Jason Lampa on September 24, 2010
Jason Lampa MBA

Jason Lampa

New York, NY

Joined: January 31, 2008

When a seasoned executive sets aside $25,000 to buy a new wardrobe, she asks her executive assistant to schedule appointments with her three wardrobe consultants: Shiela at Saks Fith Avenue, Donna at Nordstroms and Ted at Walmart. Having scheduled the first two appointments, the executive assistant makes more than 25 calls to different Walmart outlets in the area, asking to speak with the head wardrobe consultant. After the 26th call it becomes apparent to the first-year executive assistant that Walmart doesn't have wardrobe consultants.

What are the chances that someone looking to invest $25,000 in a new wardrobe is going to spend their time shopping at Walmart? The answer is obvious: slim to none. Why would anyone who can afford a $1,500 handbag want to buy a handbag of lesser quality at Walmart?

Though this scenerio may sound ridiculous, it goes on every day within the financial services industry. Many investment professionals hoping to attract affluent and ultra-affluent investors, position themselves as specialists in asset allocation, utilizing low-cost mutual funds and a Nobel Prize-winning strategy. If Walmart was an investment product, it would be a low-cost mutual fund, sold by a sales consultant whose fashion sense equates to the effectiveness of Modern Portfolio Theory. Do you follow me?

The most successful advisors with whom my firm partners focus on generating absolute returns with investment vehicles not available to most other investors. Moreover, these advisors are focusing on what matters to their clients: capital preservation and net returns. Though costs and liquidity are important to them and their clients, it is not their central focus. This is in stark contrast to past discussions with financial advisors utilizing low-cost mutual funds (I say past, because my firm is not a fit for advisors with that perspective).

The process of creating a compelling story that will attract affluent investors begins for a wealth management firm when they release themselves from the burden of competing on cost, and stop utilizing mutual funds as the core investment vehicle for their clients. In our experience, wealth management firms who understand portfolio management utilize different combinations of ETFs, options, and futures for beta exposure. These instruments are neat because instead of a client being charged 100 to 150 basis points on the mutual funds (trading costs included), the exchange-traded fund may charge 25 to 50 basis points.

In order to best illustrate the process of creating value for these affluent investors, let’s walk through a real world example of how wealth management firms can benefit from adjusting their focus on absolute returns and exclusive high-end financial products.

Company A: $100 million of assets under management (AUM).

Core offerings: No-load funds, customized asset allocation

Risk management: Established sell discipline, active management between securities, fixed income and cash

Annual fees: Average 1.10 percent with a minimum annual retainer of $7,000.

Case study: 50-year-old executive with a current account value of $3,000,000. His biggest losses occured in 2002 and 2008, experiencing a drawdown of 17 percent in 2002 and 28 percent in 2008, respectively. This client has experienced an average return of 5 percent annually during the past 10 years — 300 basis points higher than the S&P 500. The client was moderately pleased with his wealth management firm until he had dinner with a collegue, similar in age, salary, etc.

Around the same time that the aforementioned executive utilizing firm A began investing, his colleague invested a similar amount of money with firm B, which, 10 years ago, had barely one-third of the assets under management held by firm A. Recently, however, firm B passed the $1 billion mark in assets under management.

Company B: $1 billion in AUM

Core offerings: Hedge fund of funds, structured settlements, life settlements, ETFs, and real estate

Risk management: More than 50 percent of client assets are placed in product offerings not affected by the gyrations of the equity and fixed income markets.

Fees: 2 percent and 25 percent of performance

The minimum investment that company B will accept is $1 million. All clients are put into a private equity fund in which Company B strategists direct allocations. The private equity fund has an outside third-party advisor for each segment of the private equity fund. In an effort to increase their clients' comfort with the program, Company B utilizes a top alternative investment fund administrator and custodian. Company B relays their investment decisions to the custodian, who then distributes money to one of 20 unique investment strategies.

An additional benefit that clients experience when working with company B is access to creative funding solutions. In fact, 90 percent of clients with company B never had to sell a single security when initially transferring their account. Because of the relationships that company B has in the marketplace, the majority of clients were able to use their existing securities as collateral, giving them the ability to borrow up to 80 percent loan to value (LTV).

In the case of the executive working with company B, he was able to utilize his initial $2 million in concentrated stock positions to infuse his portfolio with an additional $1.6 million (80 percent LTV). Structured as a line of credit, the $1.6 million was provided to him at 2 percent annually, which in he invested in a structured portfolio (private equity fund) which locked in a minimum of 7 percent annually. While his equity holdings of $2 million only increased by 4 percent annually during the 10-year period, he was able to get a net spread of 8 percent on the $1.6 million provided by the line of credit. This created an average annual total return of 12 percent during a decade where the equity markets were flat.

If given the choice between company A and company B, most people would go with company B, even though their annual fees and participation allocation may come out to be three to four times higher than company A. They are able to do this because they are utilizing their creativity, intellect and opportunistic mind-set to create opportunities most investors never hear about.
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