The growing trend towards so-called objectives-based investing may encourage financial planners to rethink clients’ allocations to global equities as a way of achieving a better risk-reward trade-off.
Don Ezra, co-chair of global consulting for Russell Investments, says investors’ objectives are being redefined in terms of actual objectives, rather than a client’s investment outcome being the result of a risk-based asset allocation.
“I’m a retiree myself. My objective is that I have a lifestyle that I would like to live for the rest of my life,” Ezra says. “For that, I need a stream of money for the rest of my life. I don’t need just a lump sum; I need a stream of money whenever I want to spend it.
“And so the first thing to think about is that the objective is phrased in terms of a stream of income rather than a lump sum of money on a given date. That’s one thing.
“The other aspect is the amount of money I am prepared to save or have been prepared to save throughout my career may or may not match the lifestyle that I wish to live now. In order to bridge that gap, I need to take a certain amount of investment risk. A whole bunch of things are connected with that risk – a whole bunch of financial services, potentially, not just the kind of alpha-generation that we’ve been so careful to measure and identify so very carefully,” he says.
“So, for example, one of the things someone needs to plan for me – or plan for my kids now because I’m already in the retirement phase – is this is the amount you’re going to be saving routinely for the next however many years, [so] how much risk should you be taking?
“For example, how much in equities, in particular? Global equities would be the obvious base, I think, if one is looking for an equity exposure because the more diversification you can get, the lower the aggregate risk while hoping to capture that equity premium.”
Ongoing relationship required
Objectives-based investing requires an ongoing client-adviser relationship, according to Ezra. He says regular monitoring and adjustment of asset allocation (and hence risk) is needed to avoid situations where investors at the most vulnerable phase of their financial life – the period immediately before and after retirement – are exposed to the greatest investment risk.
“Exposure to growth assets shouldn’t be a constant proportion, but should vary with the amount of dollars we have at risk,” he says.
“That’s far more valuable than the alpha we’re likely to produce. We shouldn’t abandon alpha – anything that adds is wonderful – but this other stuff is far more valuable. That’s what I’m getting at, and saying it should be based on the investor’s objectives, which is an income stream that is drawn down from a capital amount that varies quite a lot in its size over time.”
But underlying all sound investment plans is the concept of diversification – getting the maximum amount of investment return for a given amount of investment risk.
“One of the angles with global equities is that while I talk vaguely in terms of growth assets and safe assets, the more you can get the equity risk premium while diversifying the downside, the more chance you have of making this thing work over time,” Ezra says.
“Global equities therefore ought to play a bigger role than the equities of any one country.”
