Unsettled Markets Demand Full-Spectrum Risk Management

This summer is already starting to feel a lot like last year. If you’re not already watching every aspect of your clients’ finances, the time to start is now.

As the euro crisis flares up again and Chinese manufacturing activity slows, the world’s financial markets are already on edge, giving plenty of advisors a lurching sense of deja vu.

Maybe it will all blow over and we can all watch a quiet summer unfold. But there are signs that once again the calls and worried e-mail messages will be flying fast and furious over the next few months.

Volatility has soared 80% from the becalmed levels we enjoyed just 10 weeks ago and is now back where it was in late July, when the world seemed to be on the edge of melting down again.

Here at home, hints of economic weakness ahead of the November elections aren’t helping.

You know your client portfolios are built to withstand the worst the market can dish out, but what about the assets that aren’t under your direct supervision?

In the best scenario, the held-away odds and ends will be under equally professional management and probably allocated much as you would.

But unless somebody is actively monitoring all the positions across the entire portfolio, each individual slice may be built to generate long-term risk-adjusted returns on its own, only to fall apart when put together.

Who’s watching the big picture?

Think of each of your client accounts as a small multi-manager hedge fund with yourself as the person running one of the “strategies” in the overall portfolio.

In this model, your client is the chief investment officer hiring and firing managers like yourself and determining how much money to allocate to each strategy.

Maybe you’re the only manager, in which case it’s a moot point. But with 57% of high-net-worth families working with five or more advisors, that’s probably not the case.

Even with smaller accounts, you’re probably juggling your share of the portfolio alongside 401(k) and IRA holdings, trusts and other externally directed accounts.

Within an actual hedge fund, this would work out well. The chief investment officer would figure out how to parcel out the money in such a way that the sum of the parts passes the stress tests and delivers a respectable year-to-year return.

That’s probably not something your clients are willing or even equipped to do.

And if they’re not doing it, what’s stopping their portfolios from turning into black swan-style disasters if all those independently managed allocations trade the wrong way all at once?

The “financial quarterback” is more than marketing hype

Multi-manager funds -- or multi-advisor portfolios -- reduce overall risk in exactly the way any actively managed portfolio does: coordinating normally uncorrelated assets along an efficient frontier to provide the best chance of desired return at acceptable risk.

Unless your client is stepping up to do this, anyone with permission and the technological wherewithal to “peek” on held-away accounts can do it.

The technology is relatively easy to come by. Any advisor with account aggregation capability can see what competitors are doing with their share of your clients’ money.

Permission is probably not going to be a problem either, provided that you’re ahead of the curve.

The advisor who approaches an investor first with the suggestion that he or she “oversee” all the assets has the competitive upper hand -- and a golden opportunity to nitpick your work.

After all, if the client-designated “quarterback” notices that the overall allocation is off, who is more likely to get put on the bench while the other advisor gets the glory?

Be proactive and volunteer to run the ball yourself.

With the markets unsettled but not imploding, now is the perfect time to suggest to your clients that you want to make sure all the hatches are battened down, just in case.

They’ll appreciate your diligence at a moment when your competition may already be at the beach.  

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