Here’s How Top Advisors Handle Torrid Volatility in Client Portfolios
The S&P 500 rose 13% for the first three months of this year after enduring massive volatility towards the end of 2018. In those times, financial advisors not only managed client anxieties in tough markets but also employed strategies to make that volatility work for client portfolios while keeping their long-term goals in mind.
Speaking to FA-IQ, advisors ranked among the FT Top 400 Advisors say that communicating with clients helped ease some nervousness about the markets.
“The two biggest emotions that drive people to do crazy things are fear or greed,” says Kevin Myeroff, chief executive of Ohio-based NCA Financial Planners, who urges his clients not to be unnerved by financial media commentary which he says is geared towards traders, not long-term investors. Myeroff also uses videos to reach out to his clients about market conditions.
Advisors helped clients understand the reason behind all the volatility.
“For owning stocks and getting better returns in stocks over other asset classes, the price you have to pay is volatility,” says Patricia Baum, a Maryland-based advisor with the Baum Jackson Investment Group of RBC Wealth Management, who has been a part of the FT 400 since its inception in 2013.
However, many of those volatility-inducing factors — such as Brexit and U.S-China trade relations — that rocked the markets last year continue to remain in play.
“Volatility is more the norm, not the exception,” says Andy Schwartz, principal at New Jersey-based Bleakley Financial Group.
So, preparation is key.
“For most of my clients, I’ve kind of trained them to include market volatility in their outlook towards the market, that it is actually unusual for the markets to continue climbing forever,” says Nannette Nocon, a Rochester, N.Y.-based advisor with Ameriprise Financial.
The shadow of the 2008 financial crisis still looms large.
Wichita, Kan.-based Don Barry, of broker-dealer Robert W. Baird, talks about the behavioral finance concept of recency bias. “As human beings, we have a tendency to take the immediate past and extend it out into the future. The last recession really is a permanent marker in people’s mind. And so, ‘Is this going to be another 2008?’ would be a natural question.”
Most advisors say typically older clients — retired or close to retirement — tend to worry more about downturns. While there may be little reason for such worries, advisors typically soothe frayed nerves by walking clients through longer-term investment returns.
“Typically, the financial plan will assume a rate of return based on how clients are allocated. If, for example, we have assumed a 5.5% rate of return, we can go back and say, even though you are down this year, your average over three, five and 10 years is better than 5.5%,” says Baum.
To guard against unwelcome surprises in volatile times, Schwartz says he asks clients if they need cash for liquidity events — such as a child’s wedding or a real estate purchase — which would require selling stocks to raise funds.
During client portfolio review meetings, he walks investors through a liquidity chart which assumes all their distributions and sources of income, irrespective of stock market performance.
“People need to revisit their allocation and they need to revisit their liquidity needs, and make sure they match up,” says Schwartz.
A slide in stocks in the last quarter of 2018 may have given investors reason to worry. Yet many advisors saw it as an opportunity to increase their clients’ equity exposure based on their portfolio needs.
“If they needed additional allocations in small-caps, mid-caps — or whatever asset class or perhaps technology, because that was the big sector that declined — we may have added to shore up their allocation in that particular sector,” says Nocon.
Nocon also employed structured notes to help clients manage volatility. Nocon says she does about $2 million of structured notes every month and a lot of those came due in December 2018. Instead of staying in cash, she decided to renew.
“That was a great opportunity to buy into notes at a cheaper price and a cheaper starting point for those underlying securities,” says Nocon. While those notes will get called in the middle of this year, “clients are going to come out ahead,” Nocon explains.
Structured notes were also a way for some advisors to coax equity-shy investors to meet their plan requirements with the promise of downside protection.
“If we have clients who really get nervous, and they need to be in equities, their plan really calls for them to be in equities, we sort of look at things like structured notes with buffers and things like that, where they can still participate in the market in different ways,” says Margaret Starner of Coral Gables, Fla.-based The Starner Group of Raymond James & Associates.
However, Starner warns that structured notes have limited liquidity and one cannot put all client assets into these types of investments.
“But you can take a portion and say, 'Listen, we can protect a certain portion of your assets from the downside,' and that seems to work pretty well,” says Starner.
Another benefit of markets tanking in the last quarter of 2018 was the opportunity for advisors to harvest tax losses. Tax loss harvesting is a technique which helps offset capital gains taxes on profitable investments by incurring losses on others.
“If anyone had any losses, we swapped out assets and tax loss harvested. And those are the kinds of things I think advisors need to do in order to show their value. If you’re going to charge people at fee you better earn your money, and that’s how we earn our money,” says Schwartz.