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Tips for Investing

Frequent communication, strategic thinking and principal-protection products will help your client stay the course.


It was late summer 2004 and Jim Kelley’s client had a problem. A Washington, D.C., attorney with a $1.1 million portfolio heavily invested in U.S. equities markets, the client had just four years left until retirement and only a moderate tolerance for risk. But the stock seemed stuck in a protracted slide and with rising interest rates, bonds were taking a beating, too.

Kelley, a registered representative with America Group, an affiliate of Ohio National Life, decided it was time to act. “We put some of the client’s money into real estate and commodities funds and also bought some investments in foreign bonds,” says Kelley, a member of North Central Ohio AIFA. “We didn’t want to have that dependence on the U.S. markets going up and down.”

That strategy yielded rewards that were beyond financial: It also buoyed the confidence of Kelley’s client and helped him stay the course in his overall financial plan. “It smoothed out the ride,” Kelley explains. “When U.S. markets were going south, we were able to see his other investments going up in value. Being willing to look outside traditional investment classes gives clients confidence when they’re looking at down markets and thinking, ‘Gosh, there’s nowhere for me to go to make money.’”

Outside-the-box thinking is just one way advisors are helping investors regain and maintain confidence in markets that seem sky-bound one minute and hell-bound the next. Advisors nationwide are educating clients, involving them in strategic planning, managing their expectations, employing principal-protection products and helping clients tune out the noise of talking-head TV—all in an effort to keep client confidence on an even keel despite the changing seas of equities markets.


Trends in confidence
Investor confidence is on the upswing, though there’s still plenty of room for improvement. Last November, the Securities Industries Association (SIA) released its annual survey of investors’ attitudes toward the securities industry. Conducted by Wirthlin Worldwide, the study measured responses among a representative sample of 1,500 investors.

The good news: Perceptions of the securities industry are more favorable than they were recently and confidence in reforms is on the rise. Sixty-four percent of investors reported a “very favorable” or “somewhat favorable” view of the securities industry—a jump of 9 percentage points over 2003, and a total favorability rating that parallels investor attitudes during the boom years between 1997 and 2000.

The bad news: Stung by the turn-of-the-century bear market, followed by 9/11, followed by the malfeasance of Enron, et al., investors still seem inclined to view the industry somewhat askance. Only 15 percent said they held “very favorable” impressions of the equities industry.

Market reforms seem to be helping. According to the SIA survey, 57 percent of investors have “a lot” or a “moderate” amount of confidence in securities industries reforms, an increase of nine points over 2003. Still, a huge chunk of investors—43 percent—reported little or no confidence in reforms.

Herd mentality
It’s all part of the bull market hangover. Most investors—and even most advisors—didn’t dive into U.S. equities markets until the early 1980s. By the time the market crashed in 2000, they’d been the beneficiaries of an 18-year bull market. Unknowingly, they’d also been the victims of a herd mentality. The Wall Street bubble falsely inflated investor confidence as the market soared toward new heights, but provided no parachute once it plummeted over the edge of a cliff. Today, says Jay Branson, there’s a new herd mentality undermining investor confidence—one that is driven by the financial press.

“One of the most frustrating things I have in dealing with clients is that when they’re just living their normal day-to-day lives, they’re bombarded with investment information,” says Branson, a principal at Branson, Fowlkes & Co., a Houston investment firm. From TV talking-heads to clickable web pundits, “all these people have opinions and need something catchy to grab attention.”

Branson’s main concern isn’t the credibility or the expertise of media finance people. It’s their habit of firing off advice shotgun-style, with no clear target in sight. Saturday morning financial pundits will say retail investors need to be in this stock, that bond, gold coins, halibut futures—you name it. But, Branson notes, they rarely append the caveat that their tips may suit only a certain type of investor—either long-term, short-term or high-risk, for example.


The long view
How do you maintain investors’ confidence despite the financial press’ incessant yack-yack-yack? “The job of the advisor is to take clients away from that short-term focus and focus them instead on a longer-term view of investing that should be aligned with their objectives,” says Doug Mangini, senior vice president at NFS Distributors Inc., a Nationwide company.

One way to do that is to actively involve the client in identifying his investment objectives. “At the end of the day, the client should realize that investing is a tool to reach his goals, not a goal in itself,” Mangini says. He adds that the advisor’s attitude is critical: “If you allow the relationship to be framed as ‘I’m going to do better than the market for you,’ or ‘I’m going to help you grow your money,’ that really isn’t speaking to the client’s needs.” But once the client is focused on long-term goals rather than short-term gains, the advisor can inspire confidence by building a financial plan and helping the client stick to it.

That process is strategic, not tactical, Branson says. His firm uses a multilevel approach, diversifying by asset category (U.S. large and small stocks, international stocks in developed and developing countries, real-estate securities, and foreign bonds, for example), constructing a portfolio with exposure in all those areas, then rebalancing periodically. “It’s a long-term view,” Branson says. “Our strategic allocation is a target portfolio that remains constant, no matter what the market is doing.”

Constant yet flexible
Advisors can maintain clients’ confidence by being a constant beacon amidst shifting market seas. But, says America Group’s Jim Kelley, they must also retain clients’ confidence by being willing to make course corrections when it is reasonable to do so. The price of rigidity is that your clients may jump ship and sign on with another advisor. Kelley has taken aboard clients who’ve done just that.

“They were disillusioned because their advisors … weren’t willing to make changes when their portfolios were going to hell in a hand basket,” Kelley says. “I’ve let my clients know that I’m happy to hear whatever ideas they may have, and that if Plan A isn’t working, that I’m willing to take a different approach.”

That willingness, though, goes hand in hand with reasonable client expectations, something Kelley says is the advisor’s job to manage. Though many retail investors have dialed down dreams of the year-over-year, double-digit returns that were common during the late ‘90s, there is still the lingering hope that today’s market is in a trough and that the lofty returns of yesteryear were “normal.”

“Even with the nice year we had in 2003, it seemed like investors were willing to get right back into that mode of expecting 15 to 20 percent returns,” Kelley says. “Going forward, advisors who can manage client expectations, and let them know they’re probably going to receive 7 or 8 percent, are going to have happier clients.”

Keep in touch
Clients will also be happier and more confident, says Mangini, when advisors communicate with them clearly and often. There must be a meeting of the minds, he says, on goals, risk tolerance, the investment amount needed to take the client from start to finish and the plan for getting there. “I can’t think of one example of an investment plan gone awry in which the foundation of the problem was not in some way miscommunication. Confidence is a state of mind, not something tangible. So the advisor needs to focus very closely on the state of mind of the client if he or she wants to maintain that confidence.”

Branson agrees. He recommends touching base with clients on portfolio performance, not only to keep them apprised of performance (monthly statements can do that), but also to turn their mental sails back into the wind. “What happens is clients forget the initial strategy and need to be reminded on a periodic basis why the portfolio is invested as it is.”

Building confidence
Specific investment products can also temper the temperaments of clients who want to get back into the market, but lack the confidence to do so. For high-middle-income and high-net-worth investors, David Kovach recommends exchange-traded funds (ETFs). These are bundled securities that, like some mutual funds, track a specific index. But unlike any mutual fund, ETFs trade on the markets like stocks and allow shareholders to use options to hedge against risk to principal.

Kovach, president and CEO of Capital Management Investment Services in Boca Raton, Fla., uses ETFs to build client confidence. “I do that by showing them how they can sleep through the night by not having 100 percent of their equity at risk. I’m able to give my clients peace of mind.”

By using options—“puts” and “calls”—on particular ETFs, investors can hedge against market downturns—and also turn their investments into a source of monthly income.

Puts? Calls? If you’re an insurance advisor with investment experience mainly in mutual funds and annuities, don’t let your eyes glaze over before you read on. True, a great chunk of Main Street investors would prefer a “set-it-and-forget-it,” wealth-building strategy to anything that smacks of speculation. But for a certain class of investors—Kovach describes them as “upper middle class and beyond, anybody who can afford to buy 1,000 shares of something”—ETFs may offer the best of both worlds.

Using them, retail investors can employ two strategies to insure against loss of principal while also earning income. First, to hedge, they can buy “puts” on their ETF shares. A put option is basically an insurance contract that guarantees the investor the right to sell his shares at a fixed price, no matter what the market does. In other words, the investor buys the right to sell high. Second, to generate income, the investor can sell “calls” against the stock he buys or already holds, earning a premium on those sales.

The put strategy can build investor confidence by protecting against downside risk. For example, a client with a $1 million portfolio in ETFs could buy enough puts to ensure that only 10 percent of his principal is at risk. By contrast, a $1 million mutual fund portfolio is 100 percent at risk.

Meanwhile, the call strategy spins off income without impacting principal. “The client can use his portfolio to drive income on a monthly basis,” says Kovach. “If the client is working with an insurance advisor, he can earmark that cash flow into variable universal, long-term care or disability income insurance, things he might not otherwise have the cash to afford.”

Sound complicated? It isn’t, particularly when insurance advisors team with financial planners and brokers who have an appropriate technological platform, such as brokersXpress, an online brokerage that specializes in options.


Offering guarantees
Meanwhile, certain deferred, variable and fixed annuities with downside protection features such as guaranteed minimum income benefits, are a newer way to boost the confidence of nervous clients, plugging them back into the market’s upside potential while minimizing risk.

Bruce Ferris, senior vice president of sales and marketing for investment products at Hartford, points out that VAs with principal guarantees didn’t even exist before his company introduced them in 2000. Now, the 15 top sellers of annuities offer them. “Their widespread acceptance in the marketplace shows that investors had not lost their fear, and that one of the basic notions that investors identify with is protection of principal,” he says.

  • Help your clients think outside the box.
  • Encourage them to take a long-term view of investing.
  • Educate them and manage their expectations.
  • Communicate clearly and often.
  • Use principal-protection products.

Chris Dannenfeldt, of Dallas-based Senior Advisors LLC, bases a hard-hitting collateral on that very notion. His flyer for equity-indexed annuities (EIAs) kicks off with a tantalizing headline: “How to Participate in Stock Market Gains, Yet Avoid All Market Losses.” The piece asks nervous clients: “Have you lost money in the stock market? … Would you like a guarantee that a falling stock won’t ever hurt you financially again?”

After explaining how EIAs are linked to indexes such as the NASDAQ and the S&P 500, the piece goes on to explain the instrument with a layman’s example. “Think of it this way: You go to Federal Stock Market Casino and visit their regular blackjack table. If you bet $1,000 and beat the dealer, you win $1,000. If the dealer beats you, you lose your $1,000 and start over.” At the Equity-Index Casino, Dannenfeldt’s flyer explains, the client/player makes only $600 on a $1,000 winning bet, but he suffers no losses if the dealer wins. “Now how much would you bet at the Equity-Index Casino?” Dannenfeldt’s piece asks. “How about everything, because you can’t lose?”

Investing in education
A complex product brought into clear focus with a colorful example. Investors want more of that, according to the Securities Industry Association’s 2004 survey. A whopping 84 percent of investors strongly agreed (52 percent) or somewhat agreed (32 percent) that the securities industry should do more to educate them on, for example, different types of stocks, and how to use financial tools, read financial statements and research companies.

Mangini recommends educating clients on the key features of how the market operates and Hartford’s Ferris says a brief history lesson can often help clients overcome their market fears. Hartford advisors make ample use of charts showing that since the stock market’s inception, 67 of 69 of the 10-year rolling periods and all 59 of the 25-year rolling periods have yielded positive returns. “When you’re able to demonstrate that over time the markets have helped investors reach their objectives,” you can build investor confidence, Ferris says.

And though clients typically think in the short term, Mangini says, they need to understand where we are in what he calls “the big trends.” That, for example, we’re closer to the bottoming out of interest rates from a cyclical standpoint, and how that affects the bond market. Mangini says, “You don’t have to make the client a Ph.D., but a bit of understanding can maintain investor confidence by giving them a reference point when the marketplace turns volatile.”

Lynn Vincent is a frequent contributor to Advisor Today.


In the event that readers may have thought that our February 2005 cover article, "Investing with Confidence," was related to T. Rowe Price and its slogan "Invest with Confidence," please note that T. Rowe Price owns that slogan and the title was not meant to suggest a relationship with T. Rowe Price.


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