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Thursday, Apr 25, 2024

Wealth Management: A Roundtable Discussion

Describe the current investment environment and what you consider to be the best investment approach, in general terms?

Schlatter: We are currently in a very fluid investment environment with all eyes and ears looking to read or hear the latest news on the pandemic. As is often the case when markets trade to maximum pain thresholds, investor time horizon is demoted to weeks or months. Perspective and understanding can help to rearrange our view and recency bias. However, history is not inevitable. No matter the fact that market downturns occur from time to time, it is the low probability event that leaves a mark. The speculation that a viral pandemic would occur and affect economies and markets to this extent was not a foreseen event and statistically very unlikely. That being said, prudence and discipline will ultimately beat the virus. Assuming you’re not tax loss harvesting and you have enough cash flow, current equity holdings should not be sold. Over time, you will be rewarded.

HCR Team: Environments like these present a good lesson to all investors – reminding them of the importance of managing risk and not selling into a panic, which can cause irreparable damage to long-term returns. Instead, investors should reduce the equity percentage of their total portfolio to the lower end of their personal risk spectrum. You should do this during pockets of strength in the market to raise cash and potentially increase defensive investments. Bear market cycles don’t end overnight and we often see bear market rallies and interim retests of the lows. This provides investors with multiple chances to buy back into stocks, while reducing volatility and managing risk in the meantime. If you do a good job managing portfolio declines in a bear market, you can recoup those losses more quickly during the next up cycle.

Having represented many celebrities and been involved in high profile estates, what lessons have you learned that can be applied by non-celebrities?

Thoreen: Celebrities have the same kind of problems that non-celebrities have; their lives are just slightly more complicated by the fact that they are public figures. But like non-celebrities, they worry about their assets and how to plan for the future, and they worry about their families too. Everyone should have a good understanding of what assets they have and their values so they can actively participate in their estate planning and asset management. Similarly, we all need competent and trustworthy advisors, including a good estate planning attorney. Our estate plans should be current, meaning they comply with the current tax and estate planning laws, and they should reflect our current circumstances, intentions and desires. If there is a new spouse or new children, our estate plans should be updated to include them, even if it’s a statement that we are intentionally omitting them.

What’s ahead for stocks—and how should your clients prepare?

Schlatter: Volatility, volatility, volatility. Historically, the average number of days from market peak to entering bear market territory was 256 days. This market turn occurred in just 21 days. To put it in perspective, the financial crisis took 274 days to reach its trough and culminated after 17 months in March of 2009. However, the financial crisis of 2008-2009 was a structural bear market that took years to recover. Currently the state of the viral pandemic would be classified as an event driven bear market. Event driven bear markets tend to be much less dramatic in decline, length of time, and recover more quickly.

What do you think is the Fed’s interest rate plan for 2020, and how might it affect finances of high-net-worth individuals?

HCR Team: A few months ago, we would have said to expect that the Fed will continue lowering rates if the economy and inflation stay soft.  However, in March, the Fed cut rates all the way to zero. Now they will need to utilize other non-traditional measures of monetary policy to provide support for the economy. Even if the economy bounces back later this year, we believe the Fed will remain on hold to ensure the next expansion is well anchored before they begin raising rates. In terms of how it affects high-net-worth investors, low interest rates make it harder to generate income. This forces every investor to consider taking a step further out on the risk curve as they “reach” for yield which makes risk management even more important and challenging.  

Schlatter: Coming into 2020, the Fed’s interest rate plan was to be data dependent and on hold, but the Coronavirus Pandemic prompted them to take swift and substantial action. The Fed announced two emergency interest rate cuts, the first on March 3rd by 0.5%, and the second on March 15th by 1%. Fed funds rates were at 2.25% eight months ago and we are now effectively at zero. At this point, the Fed has indicated that they have no intentions of cutting interest rates further down into negative territory, but that doesn’t mean the markets won’t push us there or that the Fed won’t be forced to react to worsening macro conditions. In addition, the Fed also restarted large-scale asset purchase programs or Quantitative Easing (QE), with planned purchases of $500 Billion of U.S. treasury securities and $200 Billion of mortgage-backed securities. At the same time, it is implementing massive intervention programs in various financial markets to ensure ample liquidity and stability, especially in the Repo market. We’ve counted six of these programs thus far, and we are sure there will be many more to come. Stay tuned.

What can we expect from Washington during this election year? How could divided government affect the markets?

HCR Team: Incumbent parties depend on a strong economy to boost their chances of re-election. That being the case, we would expect the current administration to do whatever they deem necessary to reignite the economy before the election in the hopes of keeping the coming recession as brief as possible. Congress has already started rolling out extraordinary fiscal stimulus programs under the CARES Act. If these programs are successful, this should help the markets rebound strongly when the economy gets back to work and the fears associated with COVID-19 diminish.  Given the scope of this pandemic, we would expect partisan politics to take a back seat to doing what’s best for the public good at least in the near term.

What practical advice can you give on keeping the peace among family members in personal property distribution?

Thoreen: First, create a document that directs how personal property is to be distributed. Second, that document must give the trustee or other fiduciary the authority to decide how to distribute the personal property if there is a dispute, including the power to sell any or all of the items and distribute cash instead. Oftentimes, it’s the personal property that holds up the resolution of a case. I can’t tell you how many times I have resolved the major, multi-million dollar dispute in a given litigation, only to have to have the issue of who gets the relatively worthless tchotchkes hold up a global settlement. Don’t rely on boilerplate language for the disposition of personal property; spell it out.

What are the major changes for the business of wealth management in the last five years and what key strategy changes do you anticipate in the next five years?

HCR Team: Some of the biggest changes we have seen over the last five years are clients’ desire to focus on socially responsible investing, the rise of Robo-Advisors, the plethora of information availability to investors and the race to $0 transaction fees by broker dealers. As a result, we have expanded our offerings to help meet these changes. We believe that with information overload, it is increasingly important to provide client-specific solutions. In addition, to compete with the fee pressure in the industry, we continue to expand the solutions and offerings at the same low cost to our clients. According to a recent white paper from Deloitte, over the next 40 years, $58 trillion dollars is expected to move from one generation to the next. Helping clients manage that transition will require a team approach, with tailored advice and new communication styles to meet the new investor.

What advice can you share for longer-term portfolio asset allocation?

Schlatter: Recessions and bear markets are painful and this one is no exception. However, the damages caused by recessions and bear markets have not only been always repaired, but additional growth has always been generated by the expansions that follow. That said, once invested stay invested. Why? Because over the past 20 years if you missed only the best 30 days in the market you would have lost money. Attempting to time the market is futile.

What can advisors do to keep news-driven distractions out the clients’ heads to keep them focused on their long term plan and goals to grow wealth and prevent them from exiting out and entering into the market at the wrong time?

HCR Team: Be proactive. Now, more than ever before, clients need to be educated and empowered. This can be ensured by following a detailed financial plan. In times of increased volatility, clients want to know that you have a plan for how to move forward. Advisors should also remind clients that their portfolios were constructed based on the client’s goals, objectives, risk tolerance and time horizon. Assuming these haven’t changed, there shouldn’t be any need for major adjustments in the portfolio. Volatility and market sell offs are a normal part of investing. We remind our clients that missing out on the best five days of investing over a bull market cycle can reduce your returns by up to 35%. Staying invested and focusing on your short and long-term goals is the greatest way to succeed. 

What tools, products and processes can assist advisors in helping clients be more tax efficient while growing wealth and still maintaining cash flow needs?

Schlatter: A bear market actually presents many opportunities and one of them is to harvest tax losses. The strategy is really quite simple and can save an investor an enormous amount of money. First sell stocks, funds, or other investments in which you currently have an unrealized loss. By selling these investments you will intentionally realize tax losses. Second, you can immediately put the sale proceeds into a similar, but not identical investment. That way, you keep your investment allocation in play. Next, the intentionally realized losses are harvested on your income tax return. Finally, the harvested losses can be used to offset capital gains taxes in the same calendar year or in future calendar years.

HCR Team: We rely on our financial planning process to help clients grow their wealth and maintain cash flow in a tax efficient manner. We are in constant communication with our client’s tax professionals to ensure we are taking advantage of any tax loss harvesting opportunities, any changes in tax law such as the CARES Act, and reevaluating annually, at a minimum,  how their overall financial picture is impacted by taxes. We review clients’ tax returns to understand their effective federal and state tax rates. We also look at tax loss carryforwards and discuss the timing of Social Security benefits. This information can help drive some of the more tax efficient investment solutions (dividend producing stocks, preferred securities, municipal bonds, etc.) and ensure they are the right fit for our clients on an investment and tax equivalent basis. 

What are the most common types of post-death litigation issues?

Thoreen: The most common type of post-death litigation involves a family member such as a child litigating the fact that he or she has been effectively or actually disinherited from or written out of a parent’s estate plan. Other common types of post-death litigation center around the question of “What happened to mom’s or dad’s money/assets?” This question typically takes the form of claims against whoever was taking care of mom or dad and helping to manage their assets, and specifically may involve claims for elder financial abuse, breach of fiduciary duty, and/or requests for an accounting. While the majority of post-death litigation involves litigation between and among just family members, caregivers, new spouses or friends, professional advisors, and other third parties are playing an increasing role in post-death litigation.

What are the biggest drawbacks of post-death litigation?

Thoreen: The biggest drawbacks of post-death litigation are the actual and perhaps final severing of the family unit, the time and expense involved (it always takes longer and costs more than anyone anticipates), the risks and uncertainty, and the emotional and psychological toll on the parties.

How can an individual best prepare to avoid post-death litigation?

Thoreen: The best way to avoid post-death litigation is to stay in touch and communicate regularly with your family and loved ones. Post-death litigation, whether from the perspective of the parent whose assets are the subject of the litigation or the child who initiates the litigation, rarely comes as a complete surprise. The lack of harmony in families usually can be traced back a number of years, sometimes even decades. Typical characteristics of families embroiled in post-death litigation include sibling rivalry, parents playing favorites, siblings who work with one or more parents and thus rely on them for financial support (vs. siblings who have independent careers), and siblings who are caregivers to one/both parents, particularly in their final years. Parents should not live in denial about their children’s inability to get along and assume that treating their children equally or naming them as co-anything in their estate plans will magically cure their relationship.

What techniques can be used to create more efficient strategies to pass wealth from one generation to the next?

HCR Team: There are basic, yet powerful strategies that can be employed without complex trusts and without incurring any gift taxes. Every person can utilize the annual gift tax exclusion ($15,000 per person in 2020). Direct payments to the institution for qualified medical care or educational expenses are also simple and easy ways to transfer wealth. Roth IRA conversions allow the existing estate to pay the taxes associated with the conversion. The converted assets grow tax free thereafter and ultimately will be tax free income to the designated beneficiary. For those of our clients who expect to pass away with estates greater than the estate tax exemption — $11.58 million for individuals and $23.16 million for couples — we work with our clients’ estate attorneys to construct plans that can help shelter significant portions of their estates from taxation, utilizing techniques such as life insurance, GRATs and FLPs, to name a few.

Schlatter: There are several techniques when used together that can allow virtually an unlimited amount of wealth to transfer from one generation to the next. One such strategy is an IDGT; this is an irrevocable trust that if used properly, can benefit spouses, children, grandchildren, and great grandchildren. In short, a wealthy couple can gift over 30 million of assets discounted to 22 million tax-free to their IDGT. After the gift, the IDGT can then purchase from mom and dad an additional 300 million of assets discounted to 200 million tax-free for a note. The income generated from the purchased assets would then be used to service the note and provide income back to mom and dad. All of the assets, plus all of the surplus income, along with all of the growth of these assets will transfer estate tax free to your children, grandchildren, and great grandchildren.

What are some mistakes individuals make when working with their wealth management advisors?

Schlatter: There is no bigger mistake made than not taking the time to position portfolios for investors in anticipation of risk rather than in reaction to it. This hard work should be completed before investing. The upfront planning will save thousands if not millions of dollars in portfolio value.

HCR Team: One of the mistakes individuals often make when working with their advisor is basing the success of the relationship solely on the gains and losses in their portfolio. Seeing losses in your portfolio is never easy; however, volatility is the price we pay to be investors. Clients need to remember their respective benchmarks, so performance comparisons are relevant. Focusing on performance over short periods, in isolation, can produce irrational behavior. The advisor-client relationship is a long-term endeavor and thus performance should be looked at in the same context. Clients also need to focus on the breadth of services they are receiving from their advisor and whether or not they match their needs.

Elder abuse and elder financial abuse is something we are hearing more about. What are the warning signs of potential elder financial abuse?

Thoreen: As people live longer and accumulate more wealth, the incidence of elder abuse is only increasing. Some warning signs of potential elder financial abuse include: new relationships, including new romantic relationships, new friends, changes in longtime advisors (financial and medical), changes in the elder’s conduct, such as sudden, different, or unusual financial activity, a change in the level of dependency, changes in the elder’s physical or mental health, the recent loss of a spouse or significant other, an elder’s sudden unavailability, financial secrecy, an elder’s inability to obtain information about his/her own finances, an unexplained disappearance of funds or valuable possessions, substandard care being provided or bills unpaid despite the availability of adequate financial resources. I cannot emphasize this enough for your loved ones: If you see something, say something.

How can an individual best prepare their heirs to receive their inheritance?

Schlatter: Multiple studies have shown that 90% – 97% of one’s wealth is dissipated through the next two generations. In fact, more recent studies have shown that within 55 years after the creation of wealth the assets are evaporated 90% of the time. The surprising reason for this isn’t for lack of planning by the older generations, but rather the lack of preparedness by the younger generation. It’s imperative that a family have its vision, values, and goals clearly communicated. However, it doesn’t stop there. There must be a family governance which is a process for preserving the past, managing the present, and envisioning the future over multiple generations.

What should most clients understand about risk in their portfolios?

HCR Team: Most investors focus on returns at the expense of risk.  Thinking about how much they can make on a given investment, rather than how much they could lose.  Managing risk is the most important part of investing.  There is an old adage, that if you keep your losses small, the gains will take care of themselves.  People need to be cognizant of what percent of their portfolio is in stocks.  Additionally, they need to know how much of their stock portfolio is concentrated in one stock, or one sector and never let your losses get too big. Focus on diversification. That’s always the best start.  

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