Part 3 of a 3 part series of articles on the value of retirement evaluations
The Value of a Retirement Portfolio Review…uncovering a portfolio’s true value
As stated in part 2 of this series of articles, it’s amazing that most individuals spend more time planning their summer vacation than planning their retirement.
When meeting with potential clients, the primary focus of our first introduction meeting (or complimentary consultation) is to discuss the client’s current retirement situation, including their investments, their retirement goals and aspirations, and risk tolerance. The primary focus of this initial consultation is to find out if the client and/or their advisor has run a recent portfolio evaluation, at least on an annual basis. This is extremely important in the retirement planning process because without an annual review of the current portfolio, one cannot ascertain whether the asset allocation is correct or not. For instance, proper asset allocation looks at how much stock, bonds, international stock, small cap or large cap stock are in the portfolio and at what percentage. Without this review, an individual could be too heavily weighted in one particular area or another, while also assuming too much risk or not enough risk to get the return they need.
It’s also imperative to look at each individual stock, bond or mutual fund position on a micro analysis level to assure each component or each manager or stock or bond is performing to its maximum ability. For instance, we frequently explain to clients that there’s two types of returns: absolute return and relative return. Absolute return simply tells you that you earned a 5% return over the past five years, but there is no context nor any ability with an absolute return to determine if this 5% was good, bad or ugly. An absolute return tells us nothing.
The more important factor to look at is relative return which tells you how well your portfolio is doing, or how well each individual component within the portfolio performed against the appropriate benchmark. This is the more important factor when reviewing a portfolio on a regular basis. This tells the true story. When looking at relative returns, for instance, that same five year period we discussed in the absolute return section above the results look a little different. If over the past five years you got the same 5% return, but the appropriate benchmark did 4%, that means you out performed that benchmark on a relative basis by 1% a year over a five year period. That would be a positive relative return performance. However, if you did that same 5% return and you weighted it against the appropriate benchmark, and the appropriate benchmark did 6.25% return over that same period of time, you would have a negative relative return over that five year period of minus 1.25%.
So as you can see, it’s imperative when working with an advisor or doing your own investing, that you perform an overview of your portfolio on a regular basis to assure your asset allocation is appropriate for whatever stage of life you’re in. It’s also absolutely essential that you do both a micro and macro component review against the appropriate benchmarks on a regular basis to maintain the positive relative performance on the portfolio over time.
This is the next factor that is extremely important to understand. When working with your own investments, or with a financial professional or advisor, make sure that you prepare (or have he/she prepare) these relative performance reports and portfolio overviews at least annually. And if you’re not getting this done, our advisors can offer a comprehensive current portfolio analysis to show you how has your portfolio performed based upon the exact make-up of your portfolio over the past year or years. A 1% positive relative return versus a minus 1% negative relative return means a tremendous amount of additional monies in your pocket while in retirement, and it’s essential to the overall longevity and survival rate of your portfolio.
The second piece to the equation in the complementary consultation is running a sophisticated retirement projection. The retirement projection takes all factors into consideration such as inflation, estimated rates of return, volatility of the portfolio, Social Security income, pension income, and any and all other factors entered into the system. We then project out your retirement income needs to assure that your portfolio and your overall retirement income scenario will continue and your income will continue for your entire lifetime. Not all retirement projections are created equally. Let us repeat, not all retirement projections are created equally. There is a definite advantage to using a more sophisticated retirement projection analysis system, especially when it comes to tracking the volatility of a portfolio within the projection and looking at what is known as Monte Carlo simulations, or viewing your portfolio and testing it in retirement against sequence of return risks. If your retirement projection has a straight line percentage and does not factor in volatility, either through Monte Carlo simulation or sequence of return risk environment simulations, then the projection is really not giving you what you need.
It’s extremely perplexing when a perspective client nearing retirement does not take this complimentary consultation offer into consideration. Especially after we discover that they or their advisor have never done a retirement income projection, looking at absolute and relative return results. This is the most important and crucial step in determining where an individual is with regards to their retirement planning. Once again, it’s imperative to understand where you are with your portfolio, to maximize the returns within that portfolio, as well as understanding where you are currently in your retirement planning process. Will your portfolio last to age 100? Will your portfolio last until age 80? These are crucial questions that must be answered in advance of retirement. Our advisors provide a complementary consultation to assess each individual’s current portfolio and retirement projection values and needs. Don’t you owe it to yourself to make this happen? If you or a friend of family member could benefit from this complimentary consultation, let us know.