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Advisors spend a lot of time and effort building customized portfolios to achieve each client’s needs and goals. But the most perfectly designed mix of assets can’t produce sustained long-term returns without risk management.
That’s why risk management is the essential next step after portfolio construction. Once clients have an appropriate mix of investments, it’s crucial that advisors remain vigilant and protect investors against the effects of market fluctuations and unforeseen economic events.
For advisors, mastering risk management is not just a competitive advantage. It’s a necessity to ensure portfolio sustainability — and it starts with tried-and-true strategies such as diversification, asset allocation adjustments, and dynamic management.
Three proven strategies
Diversification reduces exposure to risk by holding assets that aren’t well correlated, so they tend not to move in sync. Of course, there are many ways to slice and dice the markets, including by asset class (stocks, bonds, and cash), industry, sector, geographic region, company size, and investment style. Portfolio construction tools and all-in-one investment solutions comprising best-in-class funds can help ensure every client’s portfolio is optimally diversified.
Keep in mind that diversification minimizes another type of risk as well. By giving investors a smoother ride, it reduces the possibility clients will diminish their own returns with behavioural investing mistakes. For example, if diversification softens the impact of a sudden stock market dip, clients will be less likely to respond to the emotional pressure to sell at the worst possible time.
Furthermore, diversification has the potential to improve returns. An investor who held only guaranteed investment certificates (GICs) at the average five-year rate for the 20 years ending on December 31, 2023, would have just barely kept pace with the Bank of Canada inflation rate. Diversifying by holding equities as well would have enabled that investor to do better than break even.
Asset allocation adjustments are critical to keep a portfolio aligned to a client’s objectives and risk tolerance. As uncorrelated assets shift, a portfolio can skew away from optimal diversification. Rebalancing must include careful analysis of what to sell, including the tax consequences associated with selling assets in non-registered accounts. In addition, when adjusting the asset allocation of a portfolio, advisors must ensure they maintain risk levels that are acceptable to the client.
While many financial professionals recommend that portfolios be assessed at least once a year, rebalancing may be necessary more frequently than that. Software can be helpful in flagging deviations that may prompt asset allocation adjustments, and rebalancing is built into all-in-one portfolios that are purpose-built for different client profiles.
Dynamic management actively oversees a client’s individual investment positions to determine their exposure to changing market conditions. This is the most labour-intensive part of risk management, requiring ongoing monitoring of everything from market developments, economic news, and industry trends to company-specific events that affect holdings within a portfolio.
It’s difficult for individual advisors to accomplish dynamic management simply because there are only so many hours in the day, and most advisors prefer to spend as many of those hours as possible face-to-face with their clients.
Your trusted partner
Fortunately, advisors don’t have to do any of this on their own. Beneva equips advisors with risk management tools, including detailed investment product analysis, economic reports, risk simulations, and risk management guides. In addition, the firm offers ongoing education through webinars to enhance advisor expertise.
Its investor profile tool leads directly to recommended asset allocations with appropriate risk levels. Meanwhile, its investment portfolio options provide advisors and their clients with choices about how to invest: self-directed selection of individual funds; delegated management through balanced funds managed by a single firm; or turnkey solutions, fund-of-funds solutions.
Supported by the right tools, as well as product solutions that incorporate industry-leading risk management strategies, advisors can tailor their investment recommendations and risk management measures to each client’s requirements. At the same time, they can ensure they’re delivering guidance that conforms to industry best practices. This, in turn, boosts an advisor’s credibility in clients’ eyes — and a trusted relationship tends to be a longer-lasting one that also generates referrals.
Perhaps more importantly, implementing effective risk management adds tremendous value for clients by making it more likely clients will be able to meet their objectives — the ultimate goal of all financial planning work. And finding efficient ways to accomplish risk management responsibilities benefits clients as well. After all, spending less time watching for developments that may affect clients’ investment holdings frees up more time for conversations with clients that facilitate a deeper understanding of their hopes, dreams, and priorities.
In the end, embracing the “must-have” skill of risk management elevates advisors’ guidance to clients and relationships with clients — a win-win for every financial planning practice. Contact Beneva for risk management insights and support.