A Conversation with Two of EP Wealth Advisors' Investment Professionals
Director of Portfolio Strategy – Adam Phillips, CFA®, CFP®
Often quoted in major national media, Adam is a Chartered Financial Analyst (CFA®), a CERTIFIED FINANCIAL PLANNER™ (CFP®), and has been included on the Forbes Next Gen Best-in-State Wealth Advisors 2019 list. He is a member of the CFA Society of Los Angeles and the CFA Institute. Adam helps establish asset allocation strategy as a member of the EP Wealth Investment Committee, which supports all EP Wealth Advisors and their clients. The Committee’s top-down approach to portfolio construction begins with an outlook on the economy’s likely direction, followed by the implications for different economic sectors and asset classes. This culminates in strategic selection of the individual stocks, bonds, mutual funds or other investments deemed most appropriate for each individual client’s portfolio.
Special Guest: Director of Financial Planning – Erin Voisin, CFP®, ChFC®, CDFA®
Also a go-to resource for national media, Erin is a CERTIFIED FINANCIAL PLANNER™ (CFP®), a Chartered Financial Consultant® (ChFC®) and a Certified Divorce Financial Analyst (CDFA®). An Enrolled Agent with a Master’s degree in Accounting, she is a CFP® Board Ambassador and leads the EP Wealth Advisors Financial Planning Department, a department that is integral to the services the firm’s entire team of Advisors provides to all clients.
An Asset Allocation Definition: It Starts With Your Goals
One way to define asset allocation is as a means to an end. That end varies with the specific goals of each individual—including retirement, college savings, or leaving a legacy to heirs or charity. In order to invest your assets in a way that provides growth potential to meet the goals you’ve established, the next step in building a financial plan is to collect information on everything in your life that has a dollar sign. This includes:
● tax returns
● pay stubs
● employee benefits
● investment account statements
● property casualty statements
● estate-planning documents
At EP Wealth Advisors, we plug these details into online software that provides each client with a Personal Financial Website. Then we can take the asset valuations and cost-basis information and extrapolate the possible outcomes over the next 30, 40 or 50 years and beyond—both for a client’s current portfolio, and to test the possible consequences of revisions to their asset allocation.
Testing Investment Allocations with Simulations
There are various ways to project the future returns for a given asset allocation. While looking at historical average risk and return data for components (such as the S&P 500) is one of the easiest ways, it provides no guarantees and doesn’t offer insight into the range of possible outcomes. We use a more sophisticated technique called a Monte Carlo simulation, which provides greater visibility into the risk of a given portfolio by running it through a thousand different trials that capture the range of possible outcomes and their likelihood. For example, a portfolio that might average a five or six percent annual return could deliver two percent in one year and eight percent in another. Given that variability, we also need to consider the portfolio’s ability meet goals while allowing for the impact of inflation on various aspects of the client’s budget—especially healthcare, which notoriously outpaces general inflation.
Portfolio Allocations Across Different Asset Classes
In order to create a portfolio whose return combines an adequate safety net for budgeted expenses with ongoing growth potential, we then allocate assets based on the range of returns and risk that simulations project for specific combinations of asset classes. This goes deeper than the broad classes of stocks as an aggressive component and bonds as a conservative component. We’ll also be looking at asset subclasses such as:
● large-cap stocks
● small-cap stocks
● international developed markets
● emerging markets
● high-grade bonds
● low-grade, or junk bonds
It’s important to note that our job isn’t done when we determine what the initial asset allocation is for a client. Our portfolios are dynamic. The economy is constantly changing, and different opportunities arise. We discuss these opportunities on a weekly basis at the Investment Committee level, and change portfolio allocations when appropriate based on the current environment.
Asset location, a companion strategy to asset allocation, is a strategy that probably isn’t talked about enough. Asset location refers to which assets you hold in which types of accounts. This is driven by tax consequences. For example, stocks generate dividends and capital gains when sold, both of which currently are taxed at rates that for many taxpayers are lower than the rates on their ordinary income. So ideally, these assets would be held in taxable accounts. Some mutual funds, on the other hand, may have a lot of annual turnover and routinely generate high capital gains. In this case holding them in a qualified, tax-deferred account—say an IRA or 401(k)—can spare the client potentially huge tax bills. There may also be situations, such as an IRA that is unlikely to be depleted within the lifetime of the owner, where combining the tax-deferred location with a more aggressive allocation to stocks may better deliver the risk/return balance appropriate for the longer-term goals of heirs.
Managing Volatility Through Asset Allocations
Markets rise and markets fall. Volatility can extend to other aspects of your life as well, such as your employment. When creating an optimally allocated portfolio for a client, a key goal is to offer a smooth ride that reduces volatility enough so they can maintain their course. This can mean reducing exposure to high-risk stocks that may appear to offer exceptional straight-line growth, but in reality look terrible when a Monte Carlo analysis reveals how widely their results may diverge from that expectation. Another risk could be that a given client has too much stock in the company they work for. There should be some diversification between your human capital—where you’re getting your paycheck from—and your financial capital.
Above all, the projected return from a chosen asset allocation must be compatible with whatever share of your budget it is expected to fund. Some people say, “Oh, if the market goes down, I’ll just spend less.” That’s easier said than done. We make sure we build in a budget that’s sustainable for the long term, with the flexibility you want, but also able to withstand the risk projected for the asset allocation we’ve chosen to support it.
How Can You Benefit from a Strategic Approach to Investing?
With a staff of professionals and access to sophisticated analytical tools, EP Wealth offers a comprehensive range of services to help you invest with greater insight, as well as develop a holistic wealth management strategy. To discuss your finances and investment goals, we invite you to contact one of our advisors.
This is #1 in the Informed Investor “How to Build Your Investment Portfolio” series. Other topics include Why We Diversify, How to Buy a Stock, How to Buy a Bond, Concentrated Positions, etc. For more information on our investment process, check out our investment management page or ask for a Portfolio Review.
- EP Wealth Advisors (“EPWA”) makes no representations or warranties as to the accuracy, timeliness, suitability, completeness, or relevance of any information presented in this report. EPWA has used its best efforts to verify the data referenced. The information presented was obtained from sources deemed to be reliable. However, EPWA cannot guarantee the accuracy or completeness of the information offered. All expressions of opinion are of the presenter and are subject to change without notice.
- Past performance is not be indicative of future results. Therefore, no current or prospective client should assume that the future performance of any specific investment or strategy, or product made reference to directly or indirectly, will be profitable or equal to past performance levels. Future financial conditions and events can never be accurately predicted. No analysis, plan, or report has the ability to accurately predict the future.
- Information presented is general in nature and should not be viewed as a comprehensive analysis of the topics discussed. It is intended to serve as a tool containing general information that should assist you in the development of subsequent discussions with the appropriate professional(s). Content does not involve the rendering of personalized investment advice nor is it intended to supplement professional individualized advice. Always consult a professional Financial Advisor before implementing or applying any of the approaches or strategies made referenced to directly or indirectly here.
- Any direct or indirect references to investment allocation, specific securities, security sectors, or any investment vehicle(s) should not be taken as a recommendation or solicitation to buy or sell a particular security or invest in any specific investment strategy. There is no guarantee that any of the information or investment strategies discussed will be suitable or profitable.
- Asset allocation and diversification do not assure or guarantee better performance and cannot eliminate the risk of investment losses. There can be no assurances that a portfolio will match or exceed any particular benchmark.
- Hiring a qualified advisor and/or diversifying your portfolio do not guarantee investment success, and does not ensure that a client or prospective client will experience a higher level of performance or results. No guaranty or warranty is made that any results, projections, or other information being represented in this presentation will be met or sustained.
- All investment strategies have the potential for profit or loss. Changes in investment strategies, contributions or withdrawals, and economic conditions, may materially alter the performance of your portfolio. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment or strategy will be suitable or profitable for a client's portfolio. There is also no assurance that a portfolio will match or outperform any particular benchmark.
- EP Wealth Advisors, LLC is a registered investment adviser with the U.S. Securities and Exchange Commission (“SEC”). Registration with the SEC does not constitute an endorsement by the SEC, nor does it imply that EP Wealth Advisors Inc. has attained a certain level of skill or ability.
- EPWA is not engaged in the practice of law or accounting. Always consult with a legal or tax professional regarding your specific situation before acting on anything referenced herein.