A better approach could be to adopt a process in which risk requirement is still clear, but the interpretation at any given time by the asset allocator is dynamic. Here, the risk of an asset can be continually assessed and the investment mandate for each given level of risk can vary according to market conditions (albeit within strategic asset allocation parameters). This avoids the trap of knowingly or otherwise driving clients into assets that appear not to be suitable just because of the historic behaviour of assets. But do not long-term assets returns revert to their long-term mean in any case? Well, that may well be true – but how many clients are happy to ride out a theoretical experiment which might take 20 or more years to be proven correct? It is reasonable to assume that most advisers will believe achieving client objectives are more important than proving this theory or that.
The role of the dynamic asset allocator then is either performed by the adviser themselves or, increasingly, a DFM. The assessment of client requirement for risk is the adviser’s role.
Perhaps the key to all this is really getting to understand the client’s goals. Without a broad understanding of a client’s current situation, their resources and their objectives, all attempts to match a risk-rated solution to a client are doomed to failure, or at least potential disappointment.
This is where the investment professionals could learn from the financial planning people. Too many investment managers will bang on about investment matters in some sort of vacuum without reference to client needs. It is only by applying the investment solution to real-life goals that we can get better at matching investment risks to individuals. At the same time though, the financial planning community might be better placed to focus on financial planning rather than investment matters. Many advisers we speak to have lots of demands on their time and don’t always have the resource to support investment research or the discretionary permissions which are increasingly needed to deliver a scalable business model.
The trend to outsource to DFMs means advisers can really focus their time on understanding their clients’ requirements for risk. The conversation between the adviser and the DFM is where the assessment of funds and their risks comes into play. The adviser should dictate the required level of risk while expecting the DFM to do the detailed work on which funds deliver to the adviser’s requirements. The quality of this conversation and the process that supports it can deliver strong results for the client. While there are detractors from this model, the big fund sellers will want to keep advisers keen to pick funds, and this model has served them well.
