"The return is too low."
This is the common concern raised when proposing wealth preservation options to clients. Very often this objection arises due to confusing wealth preservation instruments with wealth accumulation instruments.
In order to provide perspective, we first need to differentiate the functionality of both terms. This way, we can understand what purpose each specific segment is meant to serve in a portfolio construct.
Wealth Preservation Instruments
When it comes to wealth preservation options, the core characteristics include the following:
Capital Protection - Expecting the capital not to be put at risk.
Security / Assurance - The idea that losses should not happen or limited to the product guarantor's business going bust.
Predictability - Certainty is valued over roller coaster returns and losses. This can come in the form of when the money matures, when the income gets paid and even how much projected pay out is expected with a more narrow margin of deviation.
Lower Return - Often this is with the understanding that a lower risk exposure would often result in a more managed upside potential.
Wealth Accumulation Instruments
When it comes to wealth accumulation options, the core characteristics include the following:
No Capital Protection - Funds invested are usually exposed to the possibility of losses.
Growth Focused - The mindset typically is to beat inflation and create surplus. Often this comes with the comfortability of some element of risk to the capital.
Risk is Expected - To enjoy higher return, the common understanding is that risk exposure is accepted as necessary.
Higher Return - Given that there's a certain acceptance of higher risk, then the compensation of higher returns is a fair expectation.
Losses should be part of the package - For one to say they can take risk but do not wish to entertain losses is unrealistic. Hence most investors who go for potentially higher returns, are often mentally prepared that they might not get back part or all of their money.
How should both types of instrument play a role in a portfolio construct?
Portfolio Balance
When we mistake wealth preservation tools as wealth accumulation tools, it might result in a very lope-sided portfolio. This might expose the portfolio to too much risk due to a bias towards higher return instruments with a neglect on the risk element. The idea of balance is to ensure that at any stage of our wealth building journey, we get a reasonable rate of return in exchange for the risk we expose ourselves to.
For example, someone close to retirement might not want all their funds to have the potential of losses. In fact, there's a high chance, they would want more certainty in risk exposure while getting a return that minimally meet inflation. On the flip side, someone with a long working runway may be more willing to exchange more risk for a higher return. Having said that, there might still be a desire for a portion of the portfolio to not be exposed to losses.
Learning from mistakes
Often, clients tend to overestimate their risk appetite until significant losses get experienced. This will lead to a re-think of concentration risk subsequently. The only issue is when this happens, does the investor still have the run-way to make adjustments while still stay on track to their goals?
For instance, a client who experienced a portfolio drawdown of 40%-50% at the age of 50 might not have the resources to start accumulating a secondary risk-free portfolio to cater for some peace of mind. Often this is because the amount cater for a conservative retirement may still require a huge upfront lump sum or significant yearly contribution due to a shorter run-way to retirement. Hence, it's always best to manage the risk exposure from the onset, not on hindsight.
Prevention is better than regret
Just like scams in the news seem like a distant possibility until one falls victim, the same applies for financial misconception. We often believe we are more financially woke than we are.
A few considerations we can start considering:
Do we really know how we will react if our portfolio sinks 30%-50% when it's of a significant value eg: $1million upwards if our low risk reserves are low?
If our strategy is to accumulate wealth aggressively early, do we have a decumulation strategy later on?
How at ease will we still be with our approach if we are overly concentrated in one aspect and we get retrenched in our mid 40s to early 50s?
You might also be keen to read: If your retirement number is $2million or less, you might have omitted these needs
Closing
In closing, while all these tools are wealth management tools, a distinction of the purpose of each tool is important to a well balanced portfolio construct. We shouldn't lump wealth preservation instruments under wealth accumulation category because the nature of the instruments and the purpose they serve are different.
After reading this article, you may have some questions or may want to find out more about your portfolio planning through a conversation with me. You can reach me by dropping me a message.
Be sure to share the article if you feel this information is helpful. You will enable a lot more people to learn about wealth management.
About Janice
I specialize in retirement planning.
Clients look for me primarily to outsource their retirement planning needs so that they can focus on other aspects of life that interests them. Many of whom are very good in earning their incomes in their respective professions and wish to ensure their monies continue to work harder while they focus on what they are good at. Refer to client testimonials here.
I've helped many clients who are referred to me reduce the costs they are paying for their insurance or help provide solutions when they deem they are stuck with huge commitments bought when they were younger but unsuitable for their present life stages. You can reach me at 94313076 or my social media accounts on Facebook and Instagram.
Disclaimer: The content created are based on my personal opinions and may not be representative to everyone or any organisation. If you have any doubts or queries pertaining to insurance or investment, please seek professional advice from a trusted adviser in an official setting. You may also reach out to me if you do not have a present adviser using the message box under 'Let's Talk'.
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