What's hot and what's not. Like most things, building wealth for your clients is ever changing. That's not to say the old ways never worked, but today, there's better methods and strategies to expand their wealth.
Take the traditional buy and hold portfolio theory. It's outdated. Remember 2008? That rollercoaster market is history now, but if you rode it out, you may have lost as much as 40 percent of your portfolio. There's a better way to handle cash today. Read on.
Mutual funds are but another financial vehicle that, year after year, have been a gross injustice for most investors. When you examine the fact that more than 90 percent of mutual funds have underperformed the stock market as a whole for the past five years, it's a no-brainer.
In spite of the millions spent on marketing hype by funds companies and brokerages trying to convince you that selling mutual funds is the best way to build wealth, it isn't necessarily so. There are much better returns-generating vehicles that are more secure, more transparent financial strategies like exchange traded funds (ETFs), and unified managed accounts (UMAs) that put the genie in your corner and more dollars in your clients' pockets.
Let's look at some more examples:
Old way: Commissions on every transaction by brokers leaving your clients wondering where their money was going and why?
New way: Fee-based management. Clients pay one flat fee for all services rendered, based on the value of their portfolio to the advisor, rather than a broker. The fee-based system gives the incentive for the advisor to increase the value of their portfolio. They make money; you make money. Makes sense doesn't it?
While we're talking about those fees laid on by the fund companies, the old way was a complete lack of transparency. Anything more than paying for services was all the investment companies wanted the investors to know.
The new way: The Internet and the digital revolution peeled away the veneer of secrecy investment companies have inflicted on your investment clients for decades.
Today, complete transparency is available to every investor. They have complete access to their portfolio, and are even able to track buys and sells by money managers on a real time basis. Insist on full transparency. It's another new way for you to discard the old and get on board with the new ways of doing business.
But nowhere in financial management is the shift from the old to the new more critical than in the area of asset allocation. How critical is it? Asset allocation, market timing, and security selection were tested for the variability of returns in a sample of 90 large U.S. pension plans by Brinson, Hood and Beebower in 1986, with a follow up study in 1991. It was found that over time, asset allocation decisions are more important than the other factors in determining how a portfolio performs.
If that's true, the mix of stocks, bonds, cash in asset classes, and how you're your assets are positioned are key in determining if your portfolio is "strategic" or "tactical".
Strategic asset allocation is an asset management strategy based on portfolio theory. As you know, when a portfolio is set up, a base policy mix is selected based on projected returns and risk tolerance of the client. Then as time goes by, the original mixes are rebalanced yearly or quarterly to maintain the long-term financial goals of the client. This is essentially buy and hold, and has served many investors -- including Warren Buffett -- well.
However, this tried and true strategy offers promise of more stability while still maintaining a strategic outlook for the individual investor. This is utilizing a tactical approach to move among various asset classes to take advantage of short and intermediate market inefficiencies to increase returns. Our asset of choice is ETFs.
Tactical money managers (TMMs) use a systematic process to evaluate different asset classes on a short timeline basis. They take advantage of favorable investment valuations. This is the way they work. For many reasons, good investments will often become undervalued. This undervaluation may be the result of economic forces, lack of investor confidence, or any number of the other factors. However, when circumstances change and the factors that caused the undervaluation disappear, the investments' price will rise to more favorable levels. Hence, the investor's returns will be improved.
Thus, this strategy allows the TMM to create extra value by taking advantage of certain situations in the marketplace. It's a moderately active strategy since the TMM(s) returns to the portfolio's original strategic assets then move elsewhere when desired short-term profits are achieved. This is sometimes called an opportunistic approach.
So, just as believers in modern portfolio theory accept that investors should diversify across asset classes, we believe the investor should also diversify across asset classes. However, the new way is to diversify further. Use a given percentage of your wealth to hire a TMM upon advice of your advisor to take advantage of the rise and fall of a cantankerous market (i.e., 2008 and early 2009) to boost returns on a tactical basis. This means tactical money management can work in tandum with strategic allocation to provide diversification on an increased dimension. Thus, the investor can be provided with the opportunity for better returns while reducing risk, if you have both strategies within the same portfolio.
Thus, you have positioned your client strategically (long-term investments with periodic rebalancing) and tactically (short-term inclusions in the market) when conditions dictate trades in undervalued market opportunities.
Now, let's talk about the financial structure you should implement to gain the most returns on their wealth and reach the best comfort level with your risk adverse strategy. Certainly, we don't advise purchasing buy and hold mutual funds, which historically have dealt investors high capital gains taxes, lackluster return, lack of transparency and high/hidden fees.
The best new strategy to come along lately for the astute investor is the UMA. Just like SMAs, the UMA rewards the client with asset customization, professional money management and, most important, reduced tax liability.
Both SMAs and UMAs are asset management portfolio strategies managed by independent money managers under an asset based fee structure called a platform.
The UMA structure is simpler. It provides comprehensive asset management in a single account. It removes the need for multiple accounts and combines all the assets into one. Best of all, the UMA can also include most other alternative asset management vehicles (i.e. stocks, bonds, and ETAs). Again, the portfolio is arranged purely as one single account -- with full transparency under a fee management system. The retiring baby boomers are looking for simplicity.
Thus the UMA approach using separate account managers and ETFs with access to both strategic and tactical models is the way to go for the future. Sure beats the old way!
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