Selecting portfolios based on time horizon
An investment time horizon is the period over which your clients would expect to invest in order to reach a specific goal and as such it forms an integral part of a financial adviser’s fact-finding process. Matching your clients’ financial goals to a specific time horizon allows you to select the best mix of assets to achieve their goals but is it possible to achieve this through a single investment solution?
Is selecting based on time horizon just a question of risk?
Capacity for loss constraints are stricter over the short term so clients with shorter time horizons are generally advised to reduce their exposure to risk and conversely if a client has longer to reach a financial goal, they would usually be advised to take on more risk. For example, the investment profile of a client who is in the accumulation phase without short term capacity for loss constraints, has traditionally differed greatly from those who are coming up to or in retirement. However, although time horizon is crucial for establishing a client’s risk profile it should not be the only factor and the relationship between investment time horizon and risk isn’t always straightforward. Not all clients fall into homogenised segments and ultimately their investments should reflect their own specific risk profile, and this includes both their capacity for loss and appetite for investment risk.
Risk is perceived differently by each individual client and means so much more to them than the simple question of whether their capital is going up or down. It’s not unusual to find that a clients’ capacity for loss differs greatly from their emotional or psychological willingness to take risk. What is seen as a calculated risk by one client may look like an unnecessary risk to another.
A client with a long-term horizon shouldn’t always be matched with a higher risk portfolio and a short-term horizon shouldn’t automatically mean a client is invested with a low risk portfolio. Retirement strategies are also becoming much more nuanced as people retire younger and live longer. Pension freedoms have allowed for greater flexibility and as a result, entering retirement and switching to decumulation doesn’t necessarily mean your client should switch to a lower risk profile. They may still need to generate a specific return to meet their needs and live comfortably once they retire.
Volatility isn’t the only risk that needs to be taken into consideration when investing over a specific time frame. The issue of liquidity has been a reoccurring theme over the last few years, most notably with Woodford and then also within directly invested property funds. An investment that is deemed to be low risk but that is illiquid would not be suitable for an investor with short term objectives but may still be for one with a longer horizon. Liquidity risk may not have been considered within a typical low risk model portfolio that is primarily concerned with market risk.
Changing times
Most clients will also have multiple investment goals with different investment time horizons (such as saving for retirement, a second home or a new car) and one single investment solution is unlikely to work for all of them. The FCA’s Product Intervention and Product Governance Sourcebook (PROD) has been designed to encourage advisers to treat their clients as individuals and to try and cater to their specific needs, rather than grouping them together in more homogenous or catch all products. With shoehorning being actively discouraged a single multi-asset fund would no longer be seen as a suitable investment solution for a range of clients with the same attitude to risk but different investment timeframes, or for clients with similar capacity for loss, attitude to risk and who are investing over the same time horizon but who are at different stages of their lives.
Risk-targeted and term-weighted portfolios
Despite this, advisers still need to be able to offer a service that is sustainable, scalable and cost appropriate. The FE Investments Hybrid Portfolio range is a Managed Portfolio service that includes 15 portfolios, each with five risk levels spanning three time horizons so they can be matched more accurately to your clients’ requirements. Designed around simplicity and clarity, they combine passive and active fund managers to balance cost benefits with our track record of selecting active fund managers that complement each other to maximise portfolio diversification.
At FE Investments we focus on the risk within the asset allocation and the underlying funds. Combined with proprietary portfolio management software we produce portfolios that aim to deliver a consistent return profile, without any undue surprises, and that cater for a wide range of investor needs.
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