Using Variable Universal Life In A Tactical Asset Allocation Strategy
Different markets demand different products. In todays environment, when the subject of variable universal life insurance is discussed, many clients ask whether the cash value of their VUL may be managed to grow even if the market continues to fluctuate up and down and, ultimately, remain flat over a period of years.
In markets that consistently fluctuate and remain flat, strategic asset allocation strategies and, consequently, strategic asset allocation products may not be managed effectively to achieve cash accumulation. In such cases, financial advisors may consider incorporating a more tactical approach to asset allocation and products that accommodate tactical asset allocation strategies.
Strategic Asset Allocation
Strategic asset allocation is familiar and most VUL products are designed to accommodate it. The basis of strategic asset allocation is Modern Portfolio Theory, the 2 key elements of which are the establishment of the clients time horizon and risk profile.
Risk profile is separated into 2 components. The first component is risk tolerance, which is generally defined as an investors financial ability to absorb risk. Risk tolerance is an objective measurement and involves the determination of how much money the client will need in order to meet his or her objective. The second component of risk profile is risk aversion, the investors subjective thoughts and feelings about risk.
After the clients time horizon and risk tolerance have been established, strategic asset allocation involves establishing an initial mix of investments. Strategic asset allocation also contemplates periodic rebalancing back to the original investment mix. In many cases, such rebalancing is conducted at some calendar event, such as the end of a year or end of a quarter.
When a client does not re-allocate back to the initial investment mix, the strategy evolves into a buy-and-hold approach, which is what we often saw happen in 1997, 1998 and 1999. A buy-and-hold approach may result in difficulties as many clients experienced in 2000, 2001 and 2002. This methodology may not be a very effective risk management strategy.
Tactical Asset Allocation
The majority of equity-based products and services available today accommodate strategic asset allocation strategies. Perhaps that is why tactical asset allocation may be misunderstood.
Tactical asset allocation strategies also establish an initial investment mix, which may or may not be diversified among different investment types. The initial investment mix is generally more short term in nature than under a strategic asset allocation strategy.
Typically, under tactical asset allocation, the investment mix is restructured more frequently than a strategic asset allocation model. Additionally, with tactical asset allocation strategies, the restructuring of the investment mix is typically dictated by prevailing market conditions, rather than a calendar date.
Insurance carriers have developed both variable annuity and variable universal life insurance products specifically designed to accommodate tactical asset allocation strategies. Target clients for these products include:
Insureds aged 45 to 55 with a need for life insurance;
Affluent, high-net-worth clients with a significant asset base;
Aggressive clients who willingly take on risk, are willing to risk losing principal for potentially higher returns and are willing to pay fees for this opportunity;