In corners of the financial planning community, savvy advisers are increasingly replacing advice models based on risk profiling and traditional strategic asset allocation with objectives-based advice.
As the name suggests, objectives-based advice, also called outcomes-based advice, requires an in-depth understanding of an individual client’s short-, medium- and long-term needs and objectives. These objectives determine how the client’s wealth is invested. The primary aim is to ensure that clients can meet their current and future liabilities and achieve their lifestyle goals.
For retirees and those nearing retirement, a common objective is to convert the sizeable nest egg they’ve accumulated over many years into a stable, reliable income stream that will last for the rest of their lives. Typically, retirees need a certain level of cashflow to comfortably cover their living expenses and pay for more discretionary items, such as holidays. They don’t want leverage or high exposure to market risk, and they’re not driven by beating the returns on the median retail superannuation fund or S&P/ASX 200 Index.
A retired couple with children and grandchildren will likely have different objectives from a childless couple in retirement.
A childless couple who is happy to end their lives with nothing left over will be more comfortable funding their cashflow requirements from both capital and income. However, a retired couple with children and grandchildren may want to leave behind an inheritance.
These two different objectives require very different advice.
For both, capital preservation and liquidity are critical, but they also need some exposure to growth assets to ensure inflation doesn’t eat away at their wealth.
With objectives-based advice, assets are invested to match clients’ cashflow requirements and lifestyle objectives. The measure of success is how well clients progress toward achieving their goals, not how rich they are. During the review process, there’s little to no talk of markets and stocks but rather, rich conversations around how their investments are tracking their lifestyle needs and goals.
Evolving away from risk-driven models
Objectives-based advice all sounds pretty logical, yet it’s quite different from how things are typically done.
Traditional and current advice models revolve around fact finding, needs analysis and risk profiling. Depending on their risk tolerance, clients are boxed into a strategic asset allocation with labels such as growth, high growth, balanced and conservative.
In the process, broad generalisations are often made. Furthermore, strategic asset allocation does not take into consideration the underlying valuation of assets − for example, whether or not equities or bonds are expensive.
Of course, with traditional advice models, there are still conversations about a client’s financial needs and goals, but it’s the client’s risk appetite that drives the investment process. Very little consideration is given to their objectives. To compound the problem, there are always concerns about the accuracy and effectiveness of current risk-profiling methods.
Deeper client relationships
While change and development isn’t always easy, there’s anecdotal evidence that advisers who provide objectives-based advice have deeper client relationships with higher levels of work and client satisfaction.
The evolution in advice models is clearly gaining traction. In the funds management industry, for example, many managers have recently launched objectives-based strategies targeting absolute real returns, unrelated to market indices. For many investors, a return above inflation is a much more relevant benchmark.
These exciting changes and improvements are all part of the advice evolution, and the result will be better outcomes for investors.
