As we explore in our recently published book “The Art Of Protecting Ultra-High Net Worth Portfolios And Estates, Strategies For Families Worth $25 Million to $500 Million,” each family’s Investment Policy Statement should establish what is expected of money managers, and how and when the family will act when expectations are not met. This becomes especially true when we have a new Trump administration with a different agenda to execute, and a Federal Reserve which is indicating impending action on interest rates.
Ultra-high net worth families should be aware of situations in which money managers and rates of return may fool them. The following hypothetical scenario illustrates this important point:
- A trusted friend refers a family to a money manager.
- The family decides to invest $20 million with her.
- At the end of year one, the investment achieves a 15 percent rate of return. During this same period, the rate of return in the equities market index was 5 percent.
- Impressed by the money manager’s performance, at the beginning of year two, the family invests an additional $20 million with her.
At the end of year two, the investment achieves only a 1.6 percent rate of return. During this same period, the rate of return in the equities market index was 10 percent.
The family is upset with the money manager’s performance in year two, as the rate of return on their investment has fallen from 15 percent to 1.6 percent.
Faced with the prospect of being fired, the money manager emphatically points out that for both years she achieved an average rate of return of 8.3 percent, whereas the average rate of return in the equities market was 7.5 percent.
Based on this scenario, the family may decide to stick with this money manager since her argument seems sound. But is it really? The answer is not clear until and unless we evaluate the wealth return for this family. By the end of year two the family would have had a total of $43,688,000 with the money manager vs. what would have been $45,100,000 if they had invested in the equities market index.
Does this mean that the family should fire the money manager? The answer is yes if the goal was to outperform the equities index. However, if the goal wasn’t to outperform the equities index then there are likely other factors to consider, some of which might be:
- How will the manager perform with the incoming Trump administration.
- Is this the right money manager in light of the impending Federal Reserve interest rate moves.
- How the manager’s risk/volatility compared to what was expected of her.
- What the money manager is invested in, and whether it fit the family’s asset allocation model and expectations.
- How the money manager’s investment strategy compares with others who invest using the same methodology.
Ultimately, based on the above analysis, investors need to answer a fundamental question: is the money manager’s performance meeting and exceeding expectations? In general multiple studies have shown that only a small percentage of money managers’ performance over different ten-year periods outperforms their respective markets. As such, assuming that the money manager meets the asset allocation, performance and risk criteria as laid out in the Investment Policy Statement, deciding to hire or fire her is a straightforward, objective and fact-based decision.
The important point is that poor performance cannot be tolerated. Think about it like this: It’s your financial wealth and your family’s legacy on the line, after all. Is it worth risking all that if your financial advisor isn’t a good fit? It can be a tough pill to swallow for both parties. But it is not personal. It is policy.
And speaking of policy: the other unacceptable factor is having no policy, or being emotionally attached to an under-performing money manager year after year. By drafting a comprehensive Investment Policy Statement, families state loud and clear that they will not, and cannot, allow this to happen.
If you don’t have a policy or you don’t yet have a solid financial advisor you can trust, the next step would be employing a wealth manager or a financial advisor. Although the concept of a financial manager can be used as a catch-all term, they will help organize your finances and help you achieve your overall financial planning goals. If you want, they can also completely manage your finances for you.
Though not every person has a financial advisor, they’re pretty important people to have on your team. They’ll help you prioritize your long-term and even short-term financial aspirations in a holistic way. Estate planning, handling taxes, and paying off debt if you have any (such as student loans) can all be complex, overwhelming tasks for the average person. This is why financial advisors are so incredibly helpful.
If you’re looking for a financial advisor in Sarasota, Florida, or in another area near you, look no further.