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Portfolio Management & Financial Planning Need to Work Together for Your Clients

financial planning, collaboration, wealth management

A key pillar of Invariant’s Investment Philosophy is that portfolio management and financial planning need to work together. It sounds nice, but what does it mean? For advisors who outsource their portfolio management, this begins with communicating with the portfolio manager to ensure that the client’s portfolio is appropriately matched to their respective planning scenario. In this post, I will discuss a few hypothetical scenarios – beginning with a simple risk assessment scenario and finishing with scenarios involving liquidity needs and concentrated holdings.

Matching Portfolio Risk with Client Risk Tolerance

The most important starting place for this conversation is matching client risk tolerance with the risk of the portfolio. If the drawdown and volatility profile of a model portfolio or asset allocation exceeds the client’s tolerance, the risk of a behavioral error increases drastically. Behavioral investment errors are capable of derailing even the most optimal financial plan – for example, if a client whose drawdown tolerance is 15% was in an equity-heavy portfolio at the beginning of 2020, the drawdown may have led them to take losses at an inopportune time. Very few financial planning scenarios can overcome selling equities in March of 2020 and sitting in cash as the equity markets eventually make new highs. To minimize the risk of this happening, advisors can showcase stress tests of different model portfolios (Covid-19, Global Financial Crisis, etc. – the standard Riskalyze report has this feature) to clients and then discuss with them about potential worst-case outcomes before they happen.

Liquidity Needs

Liquidity needs play an important role in determining which model portfolio is appropriate for the client. Consider this scenario: the client’s willingness to take risk is high, but they view their private market investments as their primary wealth creation vehicle and their public markets portfolio as a means of capital preservation and modest appreciation. The private market investment opportunities arise sporadically, and the best opportunities often emerge in times of stress when equity markets are in a drawdown. If the capital required to make the private market investments comes from the public market portfolio, a portfolio with a lower volatility/drawdown profile may serve their needs better than a higher risk portfolio – despite the client’s high willingness and ability to take risk. Being forced to raise cash from the public markets portfolio during a drawdown in order to do private market deals can harm overall long-term returns – and make it more difficult to come up with the capital necessary for deals when the best opportunities arise.

Concentrated Holdings

A client’s concentrated holding(s) can have significant portfolio management implications. While there may be a long-term plan to diversify away from the concentrated holding, it may not be realistic or desirable in the short-term (taxes, liquidity, it is the client’s primary wealth creation vehicle, etc.). The portfolio management can be “built around” to this in several ways, namely:

· Creating a portfolio that either less or uncorrelated with the concentrated holding (i.e. holding defensive equity sectors and asset classes if the concentrated holding is more cyclical).

- Creating a hedging strategy (protective puts / put spreads, collars on the underlying or a security that is highly correlated with the underlying) to mitigate the possibility of unrecoverable drawdowns.

· Devising a plan to diversify out of this holding over time, if desired.

The Bottom Line

In summary, it is not enough to have only the portfolio management or financial planning in order – they both must work in tandem to achieve successful client outcomes. At Invariant, we are committed to working with our wealth management and advisor clients to ensure that their portfolio matches their unique financial planning needs to create the greatest odds for success.


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