The premise of Goals Based Investing is to focus each investment portfolio on specific individual personal and lifestyle goals. Those goals inform the right timeframe, risk and return parameters, which in turn determine the best asset allocation and investment mix. Goals can be short-term, such as taking a holiday, medium-term, such as renovating or paying school fees, and long-term, such as saving for retirement.
With the advisor’s support, the client can also prioritise their goals from essential to preferable or discretionary. Essential goals, such as saving an emergency fund, typically involve a different investment strategy than discretionary goals, such as purchasing a timeshare. Ranking goals requires the advisor to fully understand their client’s needs, wants and personal circumstances, including the work that they do and the life stage that they are in. For instance, people that are approaching retirement are likely to regard financial security and the mitigation of sequencing and longevity risk as important, while younger investors, whose retirement goals may still be far off, may choose to be more aggressive with their investments.
The next step is to divide a client’s available capital among their goals, taking into account each goal’s prioritisation, to calculate the required target return. This could be something like cash plus or an inflation plus return range. Capital is first assigned to the top-priority goals to ensure cash flow will be available when needed, then to lower-priority goals, which may entail a higher level of risk to help achieve the target return. Different portfolios for different goals are built then blended together to form the optimal overall investment mix.
This Goals Based Investing approach differs from traditional investment methods in three main ways.
Firstly, it is the goal and the requirements to achieve it that determines asset allocation and underlying investments, not the risk profile, which is of secondary importance. Traditionally, an advisor would assign their client a conservative, balanced or aggressive risk label to determine their asset allocation. However, risk profiling may not be appropriate because the outcomes may not meet the client’s actual needs or address their circumstances. They are also subject to market performance, which means a predetermined asset mix may, or may not, meet the clients goal. And, as we all know, clients can change their risk profile from time-to-time, which introduces new difficulties and risks in helping them achieve their goals. For example, many investors turn conservative during difficult personal periods or bear markets, and aggressive during more positive times. That is, they do the opposite of what they should be, by selling low and buying high. Under a Goal-Based Investing approach, the client’s goals are less likely to change. Therefore, the adviser focuses on the client’s goals and ensures that they are comfortable with their investment strategy, making it far more likely that they will stay the course.
Secondly, Goals Based Investing uses forward-looking market insights and a client’s evolving financial circumstances to guide the investment strategy. It also uses dynamic asset allocation across a diverse range of investments to improve the probability that return targets are met throughout market cycles. For example, a Goals Based Investment approach could incorporate alternative assets, commodities and other non-mainstream assets to help meet long-term return targets. This differs from the traditional risk profile or passive strategic asset allocation approach, which simply assumes future performance will roughly follow past performance and that is generally limited to equities, property, bonds and cash.
Finally, Goals Based Investing is designed to achieve specific outcomes; it is not linked to market benchmarks or indices, which often have little to no relevance to clients. This focus and the use of assets that help achieve the desired outcome at any point in time, typically results in lower portfolio volatility through the cycle. As with staying the course, this helps with sequencing and longevity risk. Meanwhile, the traditional approach simply aims to maximise earnings in accordance with a client’s risk profile, with market performance determining whether investment goals are met.
Contact Dynamic Asset to see how we can help you and your clients with true-to-label Goals Based Investing. Or learn more about our Adviser investment approach.
