Our Outlook and Our Wealth Planning Strategies

Genevieve Signoret

(Hay una versión en español de este artículo aquí.)

Ample Cash and Ample Liquidity

Having just published our new global macro scenarios, we wanted to tell you what they mean for our wealth planning strategies.

One thing we love about envisioning scenarios is that it forces us to write down every important risk to client wealth that we can think of. Because remember: a large part of wealth planning is risk management.

In two of our three scenarios, we see growth either slowing down before revving back up or turning negative. Subjective probabilities for these two scenarios add up to a whopping 80%. In other words, we see a measly 20% probability that, in coming quarters, today’s vigorous growth will be sustained. Clients, then, are probably looking at a rash of volatility, bankruptcies, defaults, layoffs, and earnings hits.

When donning our wealth planning caps and looking at these clouds, two thoughts pop into our mind:

1. Do our clients have enough cash?
2. Are enough of their assets liquid?

Because one of we steepest challenges we face as advisors is to persuade our clients to hold large enough cash cushions and to allocate sufficiently large portions of their wealth to liquid (although possibly volatile) assets.

The meaning of our global macro outlook for our planning strategies, then, is that, over coming months, in our work with clients, we will emphasize their having ample cash and ample liquidity.

Buckets

We work with wealth planning clients to formulate Plans that set down wealth objectives, each mapping into a unique Investment Policy to be then handed to their portfolio managers.

Clients have multiple objectives. Hence, several Policies, one for each portfolio managed in private markets (hopefully by us) or public markets (by their portfolio manager, separate from us).

To help clients visualize these portfolios and understand how each pertains to one specific objective and has its own Policy, we use the word “Bucket”.

We draw pictures of little buckets. We label them. And we say things like, “This bucket is where you save for retirement. This more aggressive one is where you grow capital for your heirs. With this one you can create cashflows for charity. Here’s your liquidity cushion in case you should need to bail out your company. That bucket over there is where you save for your yacht. This one here is for maintaining your homes. Note that this bucket is denominated in euros—it’s for your daughter’s junior year abroad. And here’s where you hold the pesos you’ll need in the next six months”.

Two Classic Wealth Management Errors

We use the bucket approach to prevent our clients from making two classic wealth management errors:

1. That of subjecting to market volatility funds that should be shielded.
2. That of holding too high a proportion of their wealth in non-liquid assets.

Error number one poses the risk of a capital loss. Cushions exist to face emergencies. Emergencies are unexpected; they can occur when the market is down.

With the proper set of buckets and a proper Policy for each, when emergencies befall you, you always have a cash cushion you can draw from. This avoids the capital loss you would incur if instead you were to cover your emergency by selling temporarily devalued risk (volatile) assets.

Error number two is riskier still. A liquid asset is one you can turn into cash quickly at its current market value—however temporarily low. An illiquid one is one you’d have to sell in a down market for even less than it’s currently worth.

Let’s stop and reread that last paragraph. Because many people get this concept wrong. They think that what makes an asset illiquid is you can’t sell it quickly at all. No. If I put up my house for sale today and ask for it one dollar, you can bet I’ll have buyers lining. What makes my house illiquid is not that I can’t sell it fast but rather that, to do so, I’d have to sell it for a song.

So, error number two poses the risk of an even larger capital loss than does error number one.

Our Planning Focus, Given Our View

Given that we see a high probability that over the next nine months our clients will be dealing with either a slowdown or a recession, in our teamwork with them, we intend to focus above all on ensuring that they have two things in place:

1. Ample cash cushions, meaning funds shielded from market volatility.
2. Large enough slices of their wealth pies allocated to liquid (possibly volatile) assets.