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How dynamic, risk-managed investment solutions are performing in the current market environment

4th Quarter | 2023

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Current market environment performance of dynamic, risk-managed investment solutions.

By David Wismer

Jerry Wagner’s recent article, which focused on New Year’s resolutions and Flexible Plan Investments’ approach to goals-based investing, caught my attention.

Although I was aware that a relatively low number of people make concrete resolutions each year, and even fewer keep them successfully, I was not aware that the older generation was far less interested in doing so than younger people.

I was surprised at the age dichotomy—perhaps because I am one of the 19% of those over 55 who tend to make at least one resolution every year.

I decided to test out the research results with my own unscientific survey of about a dozen friends and family members, all over the age of 60.

Jerry’s premise and the research he cited were right—at least according to this group.

Only one person consistently made a resolution each year—and he said it has been the same one for the last five years: “Take 10,000 steps every day.”

When I asked the others why they did not make resolutions, the responses ranged from the uninspiring (“I am too set in my ways, why bother?") to a comment I thought was pretty smart (“I have learned to take care of important stuff when I need to—I don’t wait for the calendar to dictate that.”)

However, those I spoke to almost all universally “set goals”—whether each year or on a more long-term basis. They feel that it makes much more sense to establish a series of realistic and achievable milestones, or steps, in getting to a larger goal—rather than the “all or nothing” contextual feeling of a “resolution.” 

Goals-based investing

In the interviews we have conducted for Proactive Advisor Magazine, the vast majority of advisers say they employ some version of goals-based financial and investment planning. 

This has two meanings for them in today’s retirement-planning environment:

  1. The practical notion that an investment plan should be based on achieving realistic goals customized to an individual’s (or family’s) overall financial-planning requirements, risk profile, and time horizon—not some far less relevant market benchmark.
  2. The philosophical idea that investment success should be measured on how it helps clients achieve the lifestyle goals they desire. Those goals could be the most basic, such as attaining a comfortable retirement. Or, they could also be more ambitious, such as helping fund a grandchild’s college education, buying that long-desired vacation home or condo, making a significant contribution to a favored charity, or going back to school to jump-start a new career.

Why choose dynamically risk-managed investing over traditional passive asset allocations?

For decades, investment and financial advisers have applied the principles of modern portfolio theory (MPT), the capital asset pricing model (CAPM), and the efficient frontier theory when constructing client portfolios. These principles were largely based on the work of American economist Harry Markowitz, who wrote an article titled “Portfolio Selection” in 1952, and later shared the Nobel Prize in Economics in 1990 with two other scholars “for their pioneering work in the theory of financial economics.”

MPT theory retains strong advocates, and it generally served investors well during the last few decades of the 20th century. Says Investopedia, “Modern portfolio theory has had a marked impact on how investors perceive risk, return, and portfolio management. The theory demonstrates that portfolio diversification can reduce investment risk.”

There is little doubt that focusing on the relationship between risk and return was, and is, a compelling and positive tool for investors and their advisers as they consider investment options. Efficient frontier theory took MPT to a new conceptual level, identifying “the portfolio composition(s) that provide one with the maximum return for a given degree of risk (or alternatively, the least amount of risk for a given return).” 

But the deep market downturns of the 21st century exposed some serious weaknesses in the theory of classic asset-allocation strategies and MPT, especially as they relied on a passive approach to investing. Advisers and their clients witnessed several “real-world” effects on markets and investor behavior in times of severe stress, such as that seen during the dot-com meltdown of the early 2000s and the credit crisis of 2008–2009:

•  MPT/efficient frontier theory was severely challenged by traditional asset-class correlations not behaving as expected, which was explored in the article, “A more efficient (and profitable) frontier.” This examined one of the key underpinnings of efficient frontier theory, concluding, ”The efficient frontier was wildly different for every 10-year period from 1950 to 2009 (and this inconsistency persisted from 2010 to 2014). What that means is using any period of historical asset-class returns to create an optimal portfolio for the following 10 or 20 years is, at best, unreliable.”

•  The sequence-of-returns “dilemma” undermines even very capable application of MPT for client accounts. As numerous studies have shown, when clients are in the distribution phase of retirement, the sequencing of their investment returns can have disastrous effects on the long-term viability of generating an income stream.

•  Classic passive asset allocation according to MPT, while perhaps “maximizing” return relative to risk, does not mean severe risk and steep portfolio drawdowns are totally mitigated. As one financial adviser told us, “I was a firm believer in modern portfolio theory up until the financial crisis of 2008–09. I always thought it was sufficient to have client portfolios that were optimized as much as possible for risk and return. However, while a portfolio might beat the worst of the market’s performance in a severe crash, it is still unacceptable to see portfolio declines of over 20% or 30%.”

Applying the objectives of goals-based, risk-managed investing

By its very nature, a risk-managed investment portfolio will likely not see the highest annual returns of the best bull markets. But, importantly, it should also not suffer the worst drawdowns seen in severe bear markets. In general, the objectives of a goals-based and risk-managed investment plan are to smooth out volatility, achieve steadier returns, and project a range of returns for a client that is consistent with their risk profile and has a reasonably strong mathematical probability for success over time.

By incorporating goals-based strategies, financial advisers can better tailor investment approaches to meet clients’ specific needs and desires. Combined with the behavioral finance benefits of this process, clients are more likely to have realistic and achievable expectations, enabling them to stay the course to meet—or even exceed—their stated goals.

Many financial advisers have come to these very same conclusions, looking for new solutions for clients’ long-term investment plans. Many of these advisers have turned to a combination of goals-based investing and outsourced investment management, such as that provided by Flexible Plan Investments—as they seek more active and risk-mitigating strategies.

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The author of the book, “The Aspirational Investor: Taming the Markets to Achieve Your Life’s Goals” said it well in a CNBC interview. In discussing aspirational goals, he noted, “At the end of your life, saying ‘I beat the S&P by 3 percent’ doesn’t mean anything. But if you say, ‘I invested well, I had a nice house, my kids went to a good school,’ that’s something.”



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