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Working With Today’s Investors

Make a difference with your clients by helping them focus on their long-term goals and buttressing their financial plan against the inevitable market dips and drops that the future holds.

By Dave Willis

“Everyone’s assuming the rosy times we have had during the past few years—this Goldilocks economy—are going to last forever,” says Pat Corsey, CFA, director of stock analysis for Chicago-based Morningstar Inc. “But if there’s one thing we know from history, it’s that neither the bad times nor the good times last forever.” Although it is true that nothing lasts forever, Corsey does sense some complacency in the market right now. “There are almost no bears out there at all,” he says. “There’s no worry. There’s no fear.” This lack of worry and fear is what worries him.

The role of the advisor
According to Corsey, today’s market is one of the flattest he’s seen in a long time. Nothing in particular is overly expensive and nothing’s extremely cheap, either. In this kind of market, he says, something unexpected could happen and throw everything off. That’s where financial advisors come in. “It’s the role of the financial professional to point investors to not where they are looking but where they should be looking,” Corsey says. That’s because investors tend to chase performance—they put their money into what performed well during the past few years.

For instance, he says, large-cap equities—large-cap growth stocks, in particular—“have stunk for the past few years.” Nobody wants to buy them. But that’s precisely the right time to buy, he notes. It’s the right time to pare back on small-cap funds and emerging-market funds that ripped the cover off the ball the past three years.

In a situation like this, when anything can happen, advisors need to step forward and help their clients. “The more uncertain the times, the more certainty people demand from their advisors,” says Don Connelly of Don Connelly & Associates, a Sarasota, Fla.-based sales training and mentoring firm. Connelly, who retired last year as senior marketing officer for Putnam Investments, notes that since financial data has been commoditized by the internet and a proliferation of financial programs on TV, investors can learn virtually anything about the technical aspects of investing, but still need the opinion of an experienced advisor. “Opinion has become very, very important,” he adds. “I’d certainly want my advisor to have an opinion.”

Jim Silver, CLU, ChFC, of Framingham, Mass.-based Silver Investment & Retirement Services, agrees with Connelly. “Many advisors meet with clients and are almost afraid to take a contrarian view to what the client wants to do,” says Silver, a Boston AIFA member. “But advisors get paid to ask the tough questions and help their clients make the tough decisions.”

Build relationships
For advisors to have their opinions valued—whether they are contrarian or not—takes time and work. Connelly says too many advisors today want to go out with a laptop and a “scatter gram,” talk about diversification and allocation, and close the sale on the first appointment. That just doesn’t work.

“Give clients a friend they can trust,” he says. “Mom and Dad, when they get in the car after meeting with an advisor, don’t talk portfolios. They don’t talk asset allocation, either.” Rather, they ask, “Do you trust that guy?” or “Do you like that gal?” So relationship is very important, according to Connelly—and it’s the foundation on which trust is built.

Relationship-building requires an innate understanding of investors. For example, he believes many more people are afraid of being poor than they are desirous of getting rich. “A financial advisor has to understand that,” he says. “Most people don’t get rich in the market. If they go to an advisor, it’s to not be poor.”

Help them sleep at night
Advisors must also assess and consider their investment clients’ comfort level and tolerances and not expose them to things that make them nervous. It’s not the retiree’s job to worry about money—and that’s true for any investor. “An advisor must help people sleep at night,” Connelly says. A good advisor should be able to say to his clients: “You’ve hired me to worry about your money. Now go about your business.”

Keep expectations in check
In addition to providing a sense of comfort, one of the toughest things an advisor must do is to keep his clients’ expectations in check, especially during the up market we have been experiencing. “Clients get giddy when they see things going well,” says Silver.

He encountered that situation earlier this year. “I went to see a client who retired a year ago,” he says. A fairly conservative investor, the fellow was fortunate enough to have done reasonably well recently. “The first words out of my mouth were, ‘Bob, I’m not this good,’ meaning he shouldn’t expect this performance every year,” Silver says.

Many more people are afraid of being poor than are desirous of getting rich.

In this vein, advisors should counsel their clients about what returns they should expect over time, Silver notes. “Talk to him about 7 percent to 9 percent,” he says. If a client gets 14 percent or 15 percent, Silver explains to him that the market is doing well, and that he’s no Warren Buffet.

It’s often too easy to overpromise. “If an advisor does hypotheticals today, it shows a 16 percent return, based on performance of the last several years,” says Richard Cox Sr., CFP, ChFC, CLU, CWM. But that won’t last.

The discussion on expectations is a tough one, admits the NAIFA-Chattanooga (Tenn.) member, who is chief investment manager of Chattanooga-based Cox Wealth Management. For many advisors, especially younger or newer ones, it’s a discussion that might cause fear. “If advisors can be brutally honest with people up front and manage their expectations, they’ll have happy clients over time,” he adds.

Connelly believes clients are generally reasonable people. “I’ve found that when advisors sit down and have the ‘What do you expect of me?’ conversation, client expectations are relatively modest,” he says. “The advisor tends to think investors want quantum leaps. Every move needs to be a home run.” Instead, clients are generally happy with a series of singles and doubles.

Stay focused on priorities
It’s sometimes hard to aim for singles and doubles when the market has consistently delivered triples or more. But that’s precisely the time to do it. According to Silver, the most important thing any advisor can do in the middle of a four-year bull market—one that looks like it may keep going, perhaps with a correction or two—is to make sure clients don’t let greed cloud their long-term objectives.

“That’s especially true when dealing with folks who are a bit older, as I do in my practice, where we try to make sure preservation is a priority,” he says. “We need to be very proactive in rebalancing returns.” Silver runs into this situation quite often. Recently, he met with a woman in her mid- to late 70s. Her objective is to have one-third of her portfolio in domestic stocks, one-third in foreign stocks and one-third in cash and bonds. Positive growth in the equity markets led to an imbalance. “She had 34 percent domestic stocks, 40 percent international and a little over 25 percent in bonds,” he says. “I suggested she take money out of the international.” Her response: “Why would I want to do that?”

Silver explained that her primary objective at this stage in life is capital preservation. Second is income. Third is growth. He reminded the client that, especially in qualified plans or IRAs, when she takes money out of “winners” and puts it into something that’s out of favor at the moment, she guarantees that she’s buying low and selling high. It took some prodding—and a reminder that he documents all of his recommendations and his clients’ responses to them. But he prevailed, and the client agreed to rebalance.

Assess positions
Cox also believes the current market makes it important to continually assess positions. “When markets become variable, then a careful review of the allocation model may reveal opportunities,” he says. For instance, a particular sector or sectors may have over or underperformed during the holding period. This may result in the need to move back to the original model percentages.

“Too many times I see portfolios not being rebalanced at all, or they’re on automatic rebalancing—quarterly or annually,” Cox notes. “They’re not being rebalanced during times of market volatility.” When advisors let this happen, they miss out and their clients do, too.

Advisors should look at individual investments inside a portfolio. “If one investment is down 10 percent and another is up 15 percent, it’s time to rebalance,” he explains. “What I see too often is an advisor will buy and hold. But if they’re being paid to watch it, they should do that.”

Keith Muth, CPA, CFA, CFP, shareholder and chief investment officer of Richmond-based Virginia Asset Management, recommends assessing asset-allocation models from time to time, aligning account risk levels with a client’s risk tolerance. Look at international vs. domestic exposure, he suggests. And consider making real estate, hedge funds and commodities part of the mix. “These seem to be the hotter topics right now,” he says. “Don’t be afraid to tweak the asset-allocation mix. You can make a slight adjustment, depending on the client’s situation.”

Take time to educate
Helping clients capitalize on market opportunities and take advantage of rebalancing strategies often requires a great deal of education. “Advisors need to first educate them on how the markets perform,” says Muth, a Richmond AIFA member. “Then, they should show them how their investment plans fit with that, and how using a diversified, disciplined asset-allocation strategy can work better than trying to time the market and miss.”

Muth says the effort needed for this education varies, depending on the client. “I find there are two kinds of investment clients,” he says. The first group includes those who, as he says, “come to us because they don’t have a clue as to how to do any of it.” These clients don’t pay a lot of attention to the markets or the financial news. “They are pretty easy to work with in the sense that they’re not questioning anything,” he adds.

It’s important to educate them a bit, but the bottom line is they must trust the advisor to do what he wants them to do. “You need to put them in an asset mix that’s comfortable to them and represents the right risk tolerance for their personal and financial situation,” Muth says.

The second group includes those who are more attentive to the market. “They constantly ask me questions like, ‘Should we jump into small caps? They seem to be doing well,’” he says. With these clients, advisors need to consistently reinforce the philosophical underpinnings of asset allocation and diversification, along with the importance of taking a long-term approach to investing.

Advisors should counsel their clients about returns they should expect
over time.

Although some advisors might describe these clients as just knowledgeable enough to be dangerous, Muth welcomes them because they keep him on his toes. These are the clients who grip the remote and flip between financial shows on cable at night. They also notice early-morning infomercials that promise quick and easy strategies. “We get questions all the time about these,” he says. “One of these things hits the air, and you have people asking about it right away.”

Muth says these calls offer him the chance to take clients back to the basics. “I’ll pull out some periodic charts that show which asset classes have been up and down each year, and how one will move from the top to the bottom,” he says. One chart he favors shows that, over a 20-year run, rebalancing can deliver a return that’s 150 percent of that realized by going with either the top- or bottom-performing class in the starting year.

“It makes the point that while something might be hot today, if we put your money there—even if we chase the best performance each year—you’ll still be better served by diversifying your assets across all classes,” he says. That’s because you just don’t know what will happen next.

Silver says dealing with this type of client isn’t always easy, particularly in today’s environment. “Years ago, there was the daily newspaper and a five-minute recap of Wall Street on the radio at 5 o’clock every afternoon,” he recalls. That was it. The way people get their information is so much different now. “That means there’s a preponderance of noise out there,” he says. “What I try to do is help clients factor out the noise.”

Use dollar cost averaging
Cox believes there are certain circumstances or market environments that may call for the use of specific strategies. One such strategy is dollar cost averaging. “Many of the fund and annuity companies have a dollar-cost-averaging option that should be considered when the market is over-extended,” he says.

The theory, he explains, is that all markets tend to return to their mean average. “So when the market is overextended, the mean would be lower and the situation would warrant using this tactic to pick up additional shares as the price goes down,” he says. Depending on the outlook, the allocation to cash could be as much as 100 percent of the portfolio. A less drastic prognosis could call for moving as little as 10 percent to cash. In either case, Cox explains, the advisor systematically moves the client back to the prearranged allocation model over time—up to three years perhaps—depending on the severity of the economic forecast and the expected length of the downturn.

Explore other options
Another strategy involves purchasing put options against an index exchange-traded fund as a way to hedge the client’s portfolio. “If the market goes down, the options would increase in value, offsetting the downturn,” Cox says. “If the market goes up, the options would expire worthless, and you’re simply out of pocket the cost to purchase the options.” Put options can work with individual stocks, where a client has a large stock portfolio, he adds.

Some annuity products offer living benefits that also could be used as an income hedge, Cox explains. “Most of the newer contracts have an income guarantee based on the amount contributed, which is separate from the subaccount values,” he says. A contract holder will contribute a lump sum to be invested in an allocation model according to the client’s risk tolerance. This contribution becomes the benchmark guaranteed amount for calculating a current or future income guarantee—usually around 5 to 7 percent annually.

While these carry added costs, they may be appropriate for an investor whose primary concern is income protection. “They offer a way to invest through the annuity subaccounts with a reasonable expectation for long-term growth, while protecting needed future income in the event of a market downturn,” Cox explains.

Dave Willis is a freelance writer and regular Advisor Today contributor.



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