The author advocates for a broader definition of the investment function of
wealth management in order to align it more effectively with the reality of
client objectives. He offers a practical methodology for making that
adjustment.
Catalyzed by the 2008 financial market meltdown as well as an increased understanding of
investor behavior, which reinterprets perceived risk as the probability of failing to
achieve an investment goal as opposed to the volatility of returns, financial advisers
are modifying their processes accordingly. With strategic asset allocation increasingly
driven by a mixture of client goals, a new framework of wealth management operations
spanning the totality of financial, estate, and investment planning needs can have
practical value for practitioners.
The author argues that within the complexity of multidimensional family wealth planning,
the investment decision-making component has traditionally focused too simplistically on
searching for an appropriate risk–return utility function. It is more effective to
translate allocation techniques in terms of the reality of client imperatives, such as
maintaining a desired lifestyle over an intergenerational planning horizon.
Illustrating the implementation of a dynamic goals-based asset allocation process, the
author explains that its key initial distinction is between internal and external
assets, with a family dividing its assets into the two buckets to split those it will
manage itself, such as a family business, from those assigned to external managers.
Although superficially simplistic, this split compels a fundamental division of labor
through which all parties (asset owners and their agents) can concentrate on their most
suitable means to create value.
The bulk of the discussion examines the external branch of this division, which is
handled by investment advisers. First, practitioners help by identifying assets needed
to support clients’ lifestyles in the short and long term. The author notes that a
“declining-balance portfolio” (in contrast to an endowment approach) that
funds a discrete spending period with a 15-year planning horizon is a common choice.
Once fundamental consumption objectives are addressed, attention can be directed at
nonlifestyle goals. Although possibilities can be infinite, ultimately clients’
aims fall within three generic categories: personal, dynastic, and philanthropic. Each
has its associated implied risk profile, and all must reconcile the trade-off between
capital preservation and growth. Questions related to growth involve the five issues of
unexpected inflation, protection against generational fragmentation of assets, potential
lifestyle changes, transparency of future needs, and investment performance
measurement.
To make these concepts concrete, the author presents a detailed practical model that
illustrates how family goals can be pursued when they are matched with the specific
policy portfolio and investment instruments to attain them. The model uses nine modules
across the lifestyle versus nonlifestyle goals, covering all major subobjectives of
income generation, capital preservation, growth, and an “opportunistic”
category to capture potentially attractive but unknown possibilities. Asset
amounts/shares are denominated for each category. The allied policy portfolio designed
to deliver these results is presented and summarized in terms of both related-dollar
amounts and percentage allocations. Although the model of goals is tailored to
particular family circumstances, the policy portfolio can, in principle, conform to
“mass customization” across the nine modules and thus provide a multiclient
practice with some economies of scale. The policy portfolio also has the flexibility to
adjust to both the tax statuses of clients and their preferences for traditional versus
alternative investment vehicles.
This process is described as synthesizing the independent dynamics of family goals and
capital market realities. It deals with the complexity of the former, which can entail
associated diverse asset mixes, concentrated (sometimes low basis) positions, and
ingrained investment preferences, by using a simple, standardized portfolio structuring.
Although he acknowledges it is not an all-purpose, universal solution to the wealth
management challenge, the author stresses that the process’s
“bottom-up” appeal may provide real hope for mapping assets to goals with
more transparency and may reduce the chance of emotionally driven missteps.