Continue to talk protection to your clients

By Don Wilkinson

DFW & Associates


I don't have to tell you, but these are stormy times in the market. It's important you gauge your clients' portfolios correctly in order to weather these spotty climate conditions. It's not easy, as the present economic climate has put wealth managers on the defensive concerning the best course of action to both protect and grow their clients' portfolios.

One way you all know about is the universal financial building wealth strategy of encouraging clients to "buy and hold" their investment wealth, hoping to average a respectable return annually by not buying and selling in their portfolios over the long. As an advisor, you have no doubt recommended this passive investment strategy in which your client holds his or her investment portfolio for a long period of time, regardless of fluctuations in the market.

Lately, as you know, clients who have been following the buy and hold strategy lost 30 percent to 45 percent of their portfolio value in late 2008 and early 2009, as the recession pummeled both stock and bond values. In spite of that, I am here to tell you the reports of the death of buy and hold investing are greatly exaggerated, if you can disregard the dead cat bounce rantings of the financial media.

Nevertheless, the S&P 500 fell more than 37 percent in 2008, the worst single-year performance since 1932. Last year wrought a lot of pain to a lot of people, so it's only natural for clients to wonder if they should give up the age-old strategy of staying in the market, year in and year out, as the best way to build long-term wealth.

Things did not change much in the new year. The S&P fell further to begin 2009, but in March, the in and out investor would have missed out on one of the sharpest rallies in stock market history. After surging 45 percent from the lows in early March, the S&P 500 is now up over 11 percent this year.

It's not surprising that the theory of buy-and-hold is being questioned in the wake of a brutal bear market. We hear very few cries out of clients when the market is rising, making holding easy when client wealth is increasing each quarter. When it is not, then you experience the roller coaster ride most advisors have seen with their clients over these past many months.

This is why a wealth manager worth his salt should consider for his clients the downside protection side of asset management in addition to the past proven long-term theory of buy and hold. You will recall that downside protection is a cushion against the potential loss resulting from a price decline in a security or market.

Through the use of index puts, clients concerned about a declining market do not have to liquate their holdings, giving them two advantages: no taxable gains in taxable accounts and reduced transaction costs.

Furthermore, in case the market remains loose, the index put recommendation allows the portfolio to participate and appreciate in the rising market. History shows that after a down market, the market can rebound very quickly, as we say in March through August of this year.

Hedging with tactical asset managers is another good and popular way to help reduce losses for clients in a choppy or down market. Tactical as an overlay on a long-term strategic approach makes a lot of sense, and separates you from the crowd, which is the key when gathering assets.

They are designed to enhance the performance of a strategically allocated portfolio that is typically designed to achieve a specific goal (accumulation for retirement, charitable giving, etc.), rather than outperforming the market.

Another strategy is inverse ETFs, which can be used in certain indexes in sectors or industries or within the context of a separate account portfolio. You have to watch the real returns because of daily compounding.

Offering these kinds of "protection" techniques for prospects and clients in a dropping market is a flexible indicator of true wealth management advice matched with the traditional buy and hold strategy. There is no reason that these counter strategies cannot coexist, if market conditions dictate.

The proven way to do this is in a Unified Managed Account (UMA), the latest in high-end asset management. The advisor can blend institutional managers and ETF's with downside protection on the same platform. Also, this comes with a timely 24/7 view of your account that is called full transparency, something Madoff did not offer to his clients. Wonder why?

Most wealthy and affluent clients want to preserve capital first and achieve returns second. Put options and inverse ETFs, plus tactical asset managers, are able to reduce losses in down markets and provide an excellent hedging approach in tough times.

Be sure you are up-to-date with these techniques. The buy and hold days are not over but presently, portfolios need to be fully supported by downside protection which, if communicated properly to your clients and prospects, will bring in more assets.