Learning New Ways

How will you be able to gather net new assets? Will providing the same advisory process that — by the way — just lost about 50 percent of your investors’ assets work for you?

Some believe, in a wishful-thinking sort of way, that after an adjustment period the old era will continue.

Consider this from a December 19, 2008, story by Sree Vidya Bhaktavatsalam on Bloomberg: “Bill Miller, the Legg Mason Inc. money manager whose two funds have each lost more than half their value this year, will help run a third fund as the firm tries to reverse record outflows …”

What do you think first comes to the minds of clients when you take the guy who is down 65 percent in his largest fund and promote the fact that you’re giving him a key role in an effort to shore up confidence and turn things around?

RIIA believes that knowing the purpose of the portfolio, what the money is being saved for and when it will be needed, is the portfolio management theme for the present and future of our profession. The old ways did not work because they were overly focused on a single aspect of the advisory process. What better and broader advisory process should we use? What new process would help you gather new assets?

RIIA’s advisory process incorporates and extends the traditional accumulation advisory process by first “building an income floor” and second “creating upside with the remaining assets.” Let’s look at the five “spokes,” as illustrated nearby, of this advisory process to see how it incorporates and extends our traditional ways.

Note that each spoke has several levels of sophistication. Advisors can start with any given spoke and take it to any level of sophistication as best matches a specific investor’s situation.

Income Statement, Balance Sheet

The first spoke starts with a blank income statement and a blank balance sheet. The income flowing through the investor’s income statement derives from three forms of personal capital: human capital, social capital and financial capital.

The investor’s social capital represents claims on the human capital of others including family members who can provide cash and non-cash support, church and community support, private social insurance such as defined benefit plans (which some analysts and software providers prefer to account for as a form of human capital and treat as a type of bond) and public social insurance and welfare programs such as Social Security.

The investor’s human capital represents the ability to work and to earn money for the work. Some investors will have more than one stream of human capital income given their education level, experience level and entrepreneurial abilities.

The investor’s financial capital is what we are familiar with in the accumulation phase. A key difference in retirement is the creation of a ratio between the investor’s investable assets and his or her annual consumption level. If this ratio is low, there are clear limits to what the investor can expect from his financial capital. If this ratio very high (say above 30x), the advisor may be able to provide most of the investor’s retirement income from financial capital.

Near or during retirement, the advisory process needs to start with an exploration of these three forms of personal capital since they are the primary sources of income for the investor. The advisor gathers investor data about social capital, human capital and financial capital to fill in the various line items in the investor’s personal income statement and personal balance sheet. RIIA provides a questionnaire to support this phase of the planning process. This process can be done at various levels of sophistication, from writing notes on the back of an envelope to using specialized financial planning software.

Lifecycle Profile

The next spoke starts with an exploration of the investor’s social capital. For instance, everything else being equal, a married investor with grown children who are ready to provide support should most likely invest differently from a single investor with no family support.

The discussion and collection of the investor’s three capital sources of income forms the basis of the investor’s life-cycle profile as shown below. This analysis extends the prior spoke from a static view to a dynamic view over the rest of the investor’s lifecycle.