Time to Rebalance

Golden Retriever Balancing

The time to Rebalance Portfolios has come,

....but has it gone?

The market correction commencing on February 5, 2018 was a wake-up call and generated more than a few phone calls. But it should actually have added value to financial advisors and their clients. Yes, it could alarm some, especially after such a long run of low volatility. But it should also serve to enhance portfolio values and build wealth

How Does a Correction Add Value?

Two Ways a Correction Helps Investors:
  1. A correction creates a market entry point for new money. Many investors and advisors have been reticent about placing new trades lately due to the long running bull market. The reasoning seems to be that the odds of the bull market ending or a major draw down are higher than the obverse. Some of this was calculated patience, waiting for a correction to present better value opportunities. Some of it was fear of sustaining gains or concern that equities had become over-priced. Another issue has been lack of confidence in sustained economic growth.
  2. Corrections create an opportunity to rebalance portfolios. Harvesting gains to deploy in undervalued holdings that have declined in market value, is the principle underlying rebalancing. Provided that the holdings’ decreased market price truly results in undervaluation and not for a good reason, such as diminished future cash flow potential.

A properly constructed portfolio is comprised of holdings that provide an optimal balance of risk and return. Over time, a well-diversified portfolio will get out of balance, almost by definition.  

Diversification means that the portfolio has low correlation among its constituent holdings and between the overall portfolio and the holdings. That low correlation means some will gain value over time and some won’t, or they will gain differentially. Since we can’t know the future, diversification is the best method of mitigating uncertainty. That is to say, diversification is about having a foot in multiple future scenarios.

Among the worst investing mistakes is failing to acquire an undervalued asset. That is the essence of value investing articulated by Ben Graham in his classic The Intelligent Investor. Avoiding this mistake requires knowing the fair or intrinsic value of a holding. That value is the discounted sum of future cash flows, to the investor. Easier said than done, but the successful investor will have a view derived from careful research and the courage of conviction to take action on that view.

Worse yet is to let a gain get away by not taking some of it off the table. Even if it triggers a capital gains tax, it is better to lock in 85% of a gain than to lose it all. In fact a long term capital gains tax event is, in reality, good news. Money has been made!

But the absolute worst mistake is not being informed or prepared. Rebalancing is not an annual work flow that can be put on the calendar. It is rather event driven, and needs to be planned well in advance with monitoring systems in place, alerts set up and action items in place. Above all, it needs to be executed timely to capture the most value.

Monitoring the economy and markets generally is a good start. But maintaining a current view of intrinsic value for both holdings and those on the “buy list” is the real essence of value investing. But again, the courage to act decisively is the critical ingredient. Watching the market go by and remorsefully seeing opportunity go away is a regrettable but all too frequent consequence of lacking a consistent investment process well executed.

So what can we say about the February correction? More importantly, what opportunities were presented? More important still, what are the opportunities still available? Ultimately, how can we be prepared for the future, taking advantage of renewed market volatility? For investors this means growing wealth, for advisors it means better serving their clients.

S&P 500 Investment Opportunities

The S&P 500 has become richly valued as measured by its Price/Earnings (P/E) ratio. Rising from its month end low of 12.5 in September 2011 to 24.0 in January, the market valuation nearly doubled. Even so, the valuation was well below 2 Standard Deviations (SD) above the 20 year mean. Two SDs above the mean is considered the bubble threshold, while two SDs below is the bust barrier. That is, outside this range equities are nearly certain to fall or rise back toward the mean. This is even more likely for a broad index such as the S&P 500. What is not so certain is how fast and to what level. Generally reversions to the mean is the expectation, but reversion can under or over shoot the mean and may occur quickly or over the course of weeks, months and even years.

The S&P 500 Index market price breached its 12 month trend line on December 28, rising from 11,336 to a point just shy of 12,000 on January 31, 2018. That was clearly not sustainable and became the first signal that a correction was likely if not imminent. It turned out that it was imminent, crashing through the 50 day moving average on February 3 and falling to the 200 day moving average on February 8. It quickly recovered to the 12 month trend line on February 15 and has oscillated around it since, albeit with much higher volatility through the close on Friday March 16.

Thus, there continue to be buying opportunities and the greatest opportunity to harvest gains came in late January-early February. Not that I advocate market timing, that is just what the numbers show. There continue to be opportunities, but it appears that volatility has subsided, perhaps limiting gains or buying opportunities.

But wait there’s more! (Sorry, I could not resist.)

S&P Sector Investing

The 11 component sectors of the S&P 500 Index exhibit some different, interesting and potentially lucrative opportunities. Remembering those low correlations, several sectors present serious buy signals while others flash harvest signs.

Highlights of Investing Opportunities

Consumer Discretionary revealed one of the most significant harvest opportunities. This index powered through the +2SD Price barrier on January 22 and though it dropped precipitously in early February, it bottomed out at the 12 month trend line and has since rebounded above the +2SD threshold. 

Despite this amazing price run-up, the index is still well below its 20 year +1SD valuation (P/E) level. The moving averages suggest the trend may be flattening out. Forward estimates of earnings indicate valuation may be reverting closer to the mean. This is an example of earnings growth supporting higher valuation, clearly a positive development.

In contrast, the Consumer Staples Index blew through the 12 month trend line on November 29 and reached a new 52 week high on January 26 of 1057, 49 points above the previous high in June. It then went into free fall dropping to 963 on February 8, rebounded to near the trend line, but has oscillated in a downward path since.

The Price/Earnings trend has been similar, but less dramatic. The P/E ratio has reverted to just above the 10 year mean. Forward estimates of earnings are sufficiently strong that the current market price should be easily supported and in fact has a reasonable likelihood of rebounding significantly. These two reinforcing patterns suggest Consumer Staples is an attractive buying opportunity.

Financial Sector is expected to have a bright future due to deregulation and rising interest rates. As such, the market price of the index reached a new 52 week high of 822 on January 26 yet fell below the 12 month trend line on February 5 reaching its low point of 739 on February 8. Recovery above trend has been sustained since.

The Price/Earnings trend reinforces optimism about the Financial Sector. The high point of 17.5 times trailing twelve months earnings before the correction is only +1SD above the 20 year mean and retrenchment puts it below 17 as of the close on March 16. Forward estimates of earnings indicate the P/E will be slightly below the mean through the end of the fiscal year. Despite or perhaps because of increased volatility, the financial sector is fertile ground for wealth building.

Health Care Sector has strong fundamentals supported by the demographic trend of aging baby boomers. With this as a backdrop, the S&P 500 Health Care Index has had one of the most dramatic rises of the last 12 months. From 1175 at the end of January 2017 to 1566 on January 26, 2018 the index experienced a 33% increase. The fall was also fairly dramatic, dropping through the trend line, 50 day and 200 day moving averages within a few days. Recovery has been rather anemic oscillating below trend. The 50 day moving average is converging on the 200 day, suggesting near term price weakness.

The P/E trend indicates the index is slightly over valued but not dramatically, well below +1SD. Forward earnings estimates indicate support for the P/E at this level and perhaps some improvement through the end of the fiscal year. The Health Care sector appears to provide an attractive investment or rebalancing opportunity.

Information Technology (IT) is perhaps more closely associated with boom and bust cycles than any other S&P sector. The fall from grace in the early years of the 21st century is still fresh in the minds of investors and advisors when the P/E fell from 50 to near 25 over the course of two years. That represented a reversion from well over +2SDs to right about the 20 year mean. Following a rebound to over 40 the IT sector had been in decline until January of 2014, rising gradually from -1SD to cross the mean in October 2017 and rocket up to nearly +1SD by late January.

On a 52 week market value view, the IT sector followed a more volatile but nonetheless steady rise until its price peaked on January 26, 2018. It then fell below the 12 month trend line, the 50 day moving average and rebounded off the 200 day average back to the trend line which it has tracked since, rising slightly above it during March.

The P/E ratio should be well supported if forward earnings estimates are realistic. There is even a possibility of even greater price appreciation.

IT along with the other sectors we have highlighted seems to offer good investment opportunities for rebalancing into these sectors. Consumer Discretionary is one source of gains to be harvested for re-deployment.

Monitoring the indices, from both a Price/Earnings and Market Value perspective can provide advisors and investors with the signals that a rebalancing event is approaching. But a rebalancing plan needs to be in place so that opportunity can be seized in a timely fashion. Once the signals start to flash, action items are already in place, ready for execution.

As we all know, markets move fast.border colly 712398 1920

The key components of sound rebalancing
  1. A well-constructed portfolio based on post-Modern Portfolio Theory asset allocation.
  2. Best in class holdings representing the chosen asset classes
  3. A watch list of potential holdings that would augment the portfolio as economic and market conditions change.
  4. Regular economic and capital market updates focused on the evolving business cycle.
  5. A monitoring system that tracks market values (Daily Prices) and valuation metrics (P/E ratios). Trading tools can also be helpful in determining market entry/exit points.
  6. A plan with buy and sell thresholds, decision points, authorizations and trade execution action items.

Having all of these in place will enhance the opportunities, allow for timely and efficient execution.

Note: If you would like a briefing on the analysis underlying this post please send us an email with your request.


Is a Recession Imminent?

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The Goldilocks Market of 2017

The fourth was another strong quarter for U.S. and global equity markets. Across nearly all economies growth was consistently strong. Market gains were steady and smooth. Yet there is wide concern that a recession and market correction will occur within the next year to 18 months. Ray Dalio, CEO of Bridgewater opined that we have a 70% chance of a recession. Article

 Economic growth is the fuel for increasing revenue, profitability and thus market returns in both debt and equity markets. Therefore concerns of a recession need to be taken seriously. At Pangea all of our asset allocation, fund selection and investment recommendations are grounded in what we can discern about the economy in general and the business cycle in particular.

As such, we monitor as many reliable predictors of economic performance as we can. Three in particular have demonstrated capability to indicate turns in direction of the economy. To be sure, we do not engage in forecasts of growth. Rather we monitor direction and particularly changes in direction. Our view is that it is better to be generally correct than precisely wrong. We seek to understand where we are and to look for impending turns in the business cycle.

Where is the Economy now?

US Economy

The US GDP (Gross Domestic Product) increased 3.2 percent annual real rate in the third quarter of 2017, significantly faster than the 1.2% rate in the first quarter. The Advance Estimate for the fourth quarter is 2.6%. Revisions are typically to the upside, thus we expect the final rate for Q4-17 to be closer to 3% than 2%. This is very robust in contrast with most of the recovery.

Personal Consumption Expenditures, along with Business Capital Investment, Exports, and Federal government spending were the main contributors to GDP growth.

Personal Consumption comprises about 2/3 of US GDP and is thus a key bellwether. Consumers with both the means and motivation to spend augur well for robust growth.

Businesses Capital Investment is occurring in all major categories: structures, equipment and intellectual property. In aggregate, business investing increased at a strong 7.9% in Q3-17 up from 6.7 % in Q2-17. This should boost worker productivity leading to rising real wages and continued strong consumer spending.  

Corporate profits increased $90.8 Billion in the third quarter compared with an increase of $14.4 Billion in the second quarter. This will no doubt add to business optimism supporting both business investment and strong stock market performance.

Exports increased a remarkable 6.9% in the fourth quarter the strongest showing since Q2-14 leading 2017 to be the best annual export record in history. Imports also increased resulting in a net drag on GDP. However, the balance of trade has been stabilized since the recession, but remains at a $50 Billion deficit. The weaker dollar relative to the US trading partners’ currencies should help, as will continued global economic growth.

The Rate of Inflation increased to 1.8% in 2017 compared to 1.0% in 2016. This rate is close to the Federal Reserve target of 2.0%, providing impetus for the Fed to continue raising short term rates as well as take steps to increase long term rates. While there is some risk this will dampen equity gains, long term rates closer to long term averages will generally be better for all capital markets and the economy in general.

International Economies

The International Monetary Fund (IMF) reports:

“Some 120 economies, accounting for three quarters of world GDP, have seen a pickup in growth in year-on-year terms in 2017, the broadest synchronized global growth upsurge since 2010. Among advanced economies, growth in the third quarter of 2017 was higher than projected in the fall, notably in Germany, Japan, Korea, and the United States.”

Global growth for 2017 has been revised upward by 0.1% to 3.7%

These developments have caused the IMF to revise its forecast for 2018 to 3.9%, 0.2% higher than its third quarter forecast. It attributes this to favorable global financial conditions and strong positive sentiment especially for capital expenditures. The IMF points specifically to the US tax policy changes as a key driver of accelerating growth.

The good news is spread across nearly all developed and emerging markets. Moreover, inflation is expected to remain low. Monetary policy normalization is taking place among most central banks following the leadership of the US Federal Reserve.

Structural reforms are continuing in most emerging markets, improving transparency and in turn reducing investor risk. Leaders of emerging market nations have recognized both the political and economic benefits stemming from these reforms. This is reinforcing moves across all regions as emerging nations compete for export business and capital inflows. It is worth noting that this reform movement is embraced by China’s leadership.

Economic Road Signs

  • We consult numerous resources to discern changes in the business cycle. Several we will discuss in this post are:
  • The Conference Board’s Leading Economic Index (LEI) and its companion the Current Economic Index (CEI),
  • The National Federation of Independent Business (NFIB) Small Business Optimism Index,
  • The Financial Forecasting Center’s range of forecasts of GDP and GDP growth,
  • The University of Michigan’s Consumer Sentiment Survey, in particular, Expectations of Business Conditions.
  • Congressional Budget Office (CBO) estimate of Potential GDP v. Actual GDP
  • Changes in the Civilian Labor Force and Productivity

Each of these has contributed insight in anticipating turns in the business cycle. A few have demonstrated remarkable accuracy.Conference Board’s Leading Economic Index

Conference Board’s Leading Economic Index

Is a recession imminent Exhibits 1

The (LEI) increased in all three months of the fourth quarter with an unusually high 1.3% gain in December. This very strong performance suggests continuing economic growth in 2018. The Coincident Economic Indicator (CEI) trend is also positive reinforcing the current strong growth trend.

We look deeper than just the index, examining its underlying drivers. The ten components comprising the index can also provide clues about impending changes. Observing these components, we have seen them steadily improve over the past five quarters, to the point that all of them indicate continuation of the strong growth trend. We currently enjoy an economy well balanced in growth and with nearly all the fundamentals pointing to continued growth.

NFIB Small Business Optimism Index

Is a recession imminent Exhibits 2

The National Federation of Independent Business (NFIB), surveys its members monthly to assess their feelings about the future of small business. Since small business creates the majority of new jobs, the sentiment of business owners says a lot about future employment and wages. While it is a volatile indicator, directional changes can be observed.

The Index has attained pre-recession levels and even shows moderating volatility. Progress on tax reform has clearly boosted small business optimism.

The Financial Forecasting Center (FFC) projection of US GDP Growth Rates

Is a recession imminent Exhibits 4

The forecast is presented in three cases, High, Low and Base. The range of predicted outcomes indicates a continuation of moderate economic growth. Since it commenced in 2009, the FFC error of estimate has declined to below 2%.

The Forecast has remained largely unchanged from the two previous quarters. A case for negative growth has not emerged, meaning that a recession is not expected.

That said, we should not be surprised to see the business cycle turn to late stage with lower growth. Any such downturn for now appears to be moderate. Despite this positive outlook, we continue to monitor the forecast for material changes that would indicate a warning sign.

The University of Michigan’s Consumer Sentiment Survey

Is a recession imminent Exhibits 5

The Survey section on Expectations of Business Conditions has a remarkably high correlation (0.90) between these expectations and actual changes in GDP.

The results from the latest survey (January, 2018) demonstrate that expectations of improved business conditions are rising steadily as the Tax cut and regulatory reforms increase respondents confidence in the economy.

Is a recession imminent Exhibits 6

Overall, expectations of continued or improved growth stand at 75% of survey respondents with 25% expecting worse economic conditions.

CBO Potential GDP

Is a recession imminent Exhibits 9

Real GDP compared with the CBO estimates of potential GDP shows an out-put gap of about 3%. By this estimate, the economy still has room to grow to reach current potential let alone future potential. That is to say it is not capacity constrained.

Labor Force and Productivity: Driving Growth

 Is a recession imminent Exhibits 8

Business Investment mentioned earlier is having a beneficial impact on worker productivity. Since 2000, Real Investment per worker increased 21% yet Real GDP per worker has increased 28%. That suggests capital expenditures have a multiplier effect on worker productivity. That bodes very well for continued economic growth.

The Civilian Labor Force has resumed growing. Rising productivity and a growing labor force indicate that growing GDP should continue.

Is a recession imminent Exhibits 7

Capital Market Implications

Equity Valuations

The pricing history of the S&P 500 since November, 1999 illustrates several implications for the future. Expressed as the Price/Earnings (P/E) ratio Equity Valuation has varied widely from a high of 27 at the start of the period to a low of 10 at the depth of the recession.

Is a recession imminent Exhibits 12

Over this 17 year period it has averaged 16.8 represented by the red horizontal line. The 3 month or 1 quarter Moving Average (MA) is illustrated by the red line and the 12 month or 1 year MA is shown by the green line. The vertical blue bars outline the range of +/- 2 standard deviations within which 95 percent of the observed valuations fall.

Several points can be drawn from the graph:

  • The very high valuations in the early part of the period, 1999-2003, illustrate the equity valuation “bubble” known as the “dot com boom”, which was followed by the large and long term (3 ½ years) correction, ”dot bomb” where the P/E ratio fell by 37%.
  • Current prices are above the long term average, but well within the normal range. This suggests we are not now in an equity price bubble where a correction, perhaps a severe one, could be expected.
  • The more recent part of the bull market, now in its seventh year, has continued with reduced volatility, or risk.
  • The 1 Quarter MA is diverging above the 1 Year MA, a bullish signal that price momentum is in play.
  • The primary risk is that prices climb beyond the normal range which could potentially result in a bubble and subsequent correction. The antidote is continued improvement in corporate earnings. Economic growth globally and US corporate tax reform are key to maintaining P/E ratios in the normal range.
Fixed Income

Is a recession imminent Exhibits 11

The key theme for fixed income markets is normalization. Chronically low short term rates are being addressed by the Federal Reserve by raising the benchmark Federal Funds Rate. This rate can be adjusted directly by the Fed.

Long term rates are another matter and this is a concern. Normally long term rates bear a premium over short term rates to incent investors to commit for a longer period and as a reward for taking interest rate risk. Expressed as the 10 Year-Federal Funds Spread, this premium has been trending down since the recovery began. Prior to the recession, the trend had been rising, more indicative of normality. While low long term rates stimulate the economy, there is a downside. Long term investment is less attractive and may result in diminished debt for long term capital spending.

The Fed’s option to adjust the spread is less direct and therefore less precise. The mechanism is to reduce its balance sheet by selling some of its enormous inventory of long term assets. Selling these long term instruments will drive down the price and in turn increase their yield. The challenge the Fed faces is the pace at which it reduces its balance sheet. Timing is crucial since too rapid a sell down drains the money supply and could cause growth to slow or even cause a recession. Thus, normalization is likely to be protracted.

Forward View of Capital Markets

Is a recession imminent Exhibits 13

The Financial Forecast Center’s forecast of the S&P 500 index along with its history since 2012 illustrates a fairly dramatic turn in the near future. The remarkable point is the algorithm’s prediction of the current increase in volatility and recent correction. While the forecast for GDP and GDP growth rate is a continuation of moderate to higher growth, the S&P 500 forecast calls a correction and sustained bear market commencing in Q2-18 and continuing until Q2-20.

While equity markets are not a direct reflection of the economy, equity asset prices do reflect economic activity and become synchronized in time. Considering the generally positive and consistent economic fundamentals, a sustained bear market is difficult to reconcile. Short term corrections are healthy and necessary to align asset prices with intrinsic value. We should expect that one or more will occur over the next two years.

 Is a Recession Imminent?

We now return to Ray Dalio’s prediction of a recession. He is largely on his own as most other asset managers do not see a material risk of a recession. Of note, he offers very little back ground for such a controversial statement. A 70% chance of a recession is fairly definite and there must be some reasoning behind it. Absent providing a fact based rationale, one must consider other possibilities.

What may be revealing is a bit of background information. Bridgewater like most other hedge funds has seen a net outflow of funds into lower cost funds, mainly ETFs. The low volatility of 2017 provided limited opportunity for active hedge funds to find return opportunities. Poor performance induced investors to seek opportunities elsewhere.

For Betterment or Worse


RoboDogIs a Robo Adviser a substitute for The Real Deal?

Many younger investors and sometimes their advisors rely on the robo-advisers for investment management and even broader financial advice. In any business venture, the first question is Why?[1] Cheap is the first answer. Easy comes to mind in talking with younger advisors. Benefits for certain, but I rarely hear the word “best” or even “better”.

Clearly younger investors are comfortable with technology and certainly know how to exploit its time saving benefits. They are less likely to meet their advisor in the office. Virtual meeting is popular and becoming much more efficient. This generation tends to be very hands on experiential learners. For these and other reasons, advisors of every generation need to be embracing technology and learning to leverage its power.

One observer ventured that younger advisors came into the business with the singular goal of doing planning. For the most part, they choose not to pursue careers with the wire houses and broker dealers unless trading, transactions and investment analysis is a career choice. As such, they have limited exposure to the investing side of the business and it would be natural to seek to outsource this side of the business. The robos are a convenient alternative and may appeal to their clients.

But what about what’s Best, or even Right for the client? I find there are several flaws with the robo- adviser concept. Moreover, I challenge advisors that use them to think about the long term relationship with the client and whether technology is driving a wedge between you and your clients.

To begin with, I have compared the Betterment funds with others in the same asset classes and found them to be poor performers. Yes they are cheap, but cheap for a reason. There is clearly little thought that went into selecting these funds. I question whether Betterment did much research, since there are equivalent low cost funds with much better performance, lower risk and better exposure to growth opportunities such as emerging markets.

Next, I have been told that one of the challenges younger investors face is saving enough. Fidelity has published volumes and maintains current information on how much to save to ensure a comfortable retirement at age 67. However, the student debt burden along with the fact that many Gen-X, Gen-Y and Millennials started late in forming households has impeded savings. Even though many are high earners, there are a lot of places for that income to go. Strategies to wring just a minor incremental amount out of the budget for savings can have an enormous impact on wealth building. This is where the interaction with an advisor, a custom financial plan with a budgeting and cash flow management tool could make a big difference for the client and competitive advantage for the advisor.

The Robos have a lot of articles on their impressive websites, almost too much. People can only focus on a few things consistently and consistency is the key to replacing bad habits with good ones.

The recession was surely a big headwind. However, the economy is growing, inflation is low and wages, albeit somewhat stagnant are at least keeping up with inflation and growing in real terms for the HENRYs (High Earnier Not Rich Yet).

One key to being an effective and valued partner is for advisors to help clients increase their savings rate. Richard Thaler, the 2017 Nobel Prize winner in Economics is a pioneer in behavioral finance. One of his key contributions has been developing incentives to help worker increase their savings rates. His landmark book, Misbehaving: The Making of Behavioral Economics[2] contains a very clear set of recommendations that have proven successful in boosting savings rates. These tactics essentially involve using our human tendencies to make saving easy and, in some ways, automatic.

The first is making enrollment in employer sponsored 401-K automatic. That is, the default is enrollment at a predetermined saving rate. The second he calls “Save for Tomorrow”. That means committing to incremental increases in savings with each raise in pay over say a four year period. Since most younger employees are eligible for 401-K plans, employers should be encouraged to make enrollment the default option.  Advisors could play a role by providing their clients a “Contract with their Retirement Self”; a written commitment to start at a set savings rate and increase it each year. Written goals are far more likely to be achieved and there is no better path to success than to enter into an agreement with one’s current self, one’s spouse, children and future self.

The advisor can then help the client by developing cash flow plans. Often financial planning software is goals based, more suitable for mature clients. Cash flow planning may be more appropriate for younger clients who need to allocate monthly take-home pay such that they “pay themselves first”.

Human advisors can be far more effective than a website in helping clients develop good saving habits by leveraging human behavior to serve their clients. But this is only one side of the coin. The other side is good investing behavior. This is where the advisor has a true upper hand.

When the market is favorable it is easy to enjoy the benefits and a website is a good way to keep tabs on the good news. But there are a host of problems that could be lurking and when things turn south, there is little that a website can do to reassure a nervous client, let alone prevent dangerous mistakes. Who would trust a generic website article when the pain is real and very personal? They will listen to and follow the advice of a person who has earned their trust and confidence. Most younger investors have not lived through a a sustained bear market or even a major market correction. Seasoned advisors have and can bring wisdom and perspective to troubling times.

Another benefit the human advisor provides is the ability to conceive of adverse events and to shore up a portfolio and make it more resilient. Proactively designing shock absorbers may be a possibility with algorithms, but human wisdom developed from experience continues to be the best solution. As Mark Twain stated:

Good judgement is the result of experience and experience the result of bad judgement

Only humans can learn the lessons of bad judgement, either their own, or in the case of financial advisors, that of others.


[1] Please read Simon Sinek’s best seller Start With Why. It is easily one of the most influential business books I have read in my 40+ year career and should be required reading of every college freshman, again in the first year of professional or graduate school and before starting that first job.

[2] New York: W.W. Norton & Company, [2015].


Help is on the Way

Help is on The WayPhebe the Rescue Dog 2468530 640

Carl Richards wrote in the August-September issue of Morningstar Magazine that financial professionals are struggling to handle the emotional stress of their jobs.  Advising clients on money issues is a high stakes endeavor, especially when you must deliver messages that could adversely affect their life style or guiding them through tough situations. The boost that comes from delivering good news never seems to fully compensate for the drain associated with difficulty.

It is no wonder, especially for the small firm advisors who must handle it all. So do other professionals such as physicians. Like physicians, advisors are helping people with crucial life processes and events.

Moreover, the field of behavioral finance demonstrates that people are prone to making poor decisions, especially in high stress situations. The advisor must often keep their clients from becoming their own worst enemy. Indeed, the 2017 Nobel Prize in economics was awarded to Richard Thaler  for his decade’s long research on the effect of behavior on economic and financial decision making.

Even experts in the field are subject to a very long list of “cognitive biases”, the technical term for ways we make mistakes.

Thaler’s research sheds new light on the critical role advisors play.

  • Keeping clients informed,
  • Staying current with life events,
  • Updating plans,
  • Conversations about wants and wishes,
  • Crucial Conversations about lifestyle and spending.

The list goes on, but the imperative to spend more time with clients grows. We have been enjoying pretty good times in the markets recently and as one institutional expert remarked, we are having the “perfect party”. But the time will come when anxiety levels will go up. The phone will ring and answers will be expected. Quality time spent now to explain market dynamics will pay off, by helping clients understand that high velocity situations demand the most of one’s patience, perseverance and above all persistence.

It is also important for the advisor to take care of oneself. With so much on your plate, the temptation to skip the important mental health days and other measures can be pretty powerful. Time management strategies can be very helpful to ensure that time with the family and time with friends receives the same priority as continuing education.

There are other strategies to ensure that critically important activities receive proper attention. Business processes can play a vital role in covering the bases while not getting covered up in minutiae. Most large firms have invested heavily in software and systems to streamline work flows. This is absolutely vital when many hands must touch a client relationship. Ensuring the business does not look like an ongoing fire-drill is mission critical, especially for large firms.

For smaller firms, critically examining how you get things done is at the heart of business processes. Have you taken a few minutes to do a business process map? It is a very simple flow charting exercise that makes explicit what you may do implicitly every day. Seeing the actual steps is the first step in finding time savings. I recall advertising in the long ago way back where a fortune 500 oil company compared the real with the ideal. This is the same concept. Map out how it is done now and how it could be done with fewer steps.

Jennifer Goldman, Founder of My Virtual COO helps advisors find those savings. She made a startling observation that finding 12 minutes a day was the equivalent of a 2 week paid vacation. That vacation could actually result in a raise, since some expenses may be wrung out as a bonus.

Technology is a great equalizer and could be a powerful source of competitive advantage for a small firm advisor. The array of options is bewildering. This is another place finding help could pay big dividends. You could do the research yourself or make use of the extensive expertise of firms that know the technology and how it integrates with other options. Relying on just the providers can be a big mistake. Naturally they are motivated to sell their product, just like commission based broker/dealers. Just like a fee only advisor, an expert that takes the time to know your business is more likely to result in a solution that fits the way you like to operate.

 One of the major timesavers is outsourcing some or all of the investment management. This is likely the main source of your income and could be a major use of your time. There are many options, such as:

  • Turnkey Asset Management Programs,
  • Family of funds (ETF or Mutual Funds),
  • Target Date/Target Risk Funds; and,
  • Customized portfolios and models that leave you in control without the heavy lifting.

There are pros and cons to every choice and no one is right for all advisors. While providing competent plan execution is the minimal standard, achieving the highest performance for the advisor’s investment should be the goal. The ROI needs to take into account the advisor’s time in the process, whether spent doing asset allocation or monitoring a provider’s performance. The advisor’s time is likely the largest single cost and should be valued relative to alternative uses, such as high value client interactions.

The next largest cost is the headwind of third party fees. An investment management solution that drains a substantial portion of the AUM fees you earn may not fairly compensate you for the risk and time you invest. Investors are ever more aware of low cost alternatives and high cost management fees are on the wane as a result. It would be unwise to get caught in that trap.

Finally, there is the consideration of performance. Is it wise to wait to the end of the year to see the results? A good friend told me recently that “you don’t get what you expect, you get what you inspect”. That means if you want the best performance, it would be a good idea to look under the hood and really understand how your outsourcing provider is investing your clients’ funds.

Whichever way you choose to go, there are several questions to consider:

  1. What parts of your practice do you most enjoy?
  2. Where do you get the least amount of satisfaction?
  3. Where do you feel you need the most help?
  4. How deeply involved in investment management do you wish to be?
  5. How much control over the process do you want?
  6. Take a blank document and list the characteristics of your ideal practice.
  7. On a second page list the characteristics you wish to avoid.

With this exercise you should have a pretty good feel for the kind of support needed to make you most productive and generate the greatest satisfaction from your practice. With this knowledge you can begin discussing with providers how their services might mesh with your operating style. The best advisors focus their time and attention on the activities they like the most. That is where their talents lie and where they tend to be the most productive. Just because you have chosen a holistic approach to your advisory business does not mean you need to do it all. Delegation is an art that frequently differentiates successful business people from the rest.