I have been a huge fan of cashflow modelling since the days you could write it on a fag packet. I have argued that advisers who do not follow this practice are not doing their job. Yet I am now becoming disillusioned.
This is not least because the regulator is considering making use of cashflow modelling tools compulsory in some situations.
My instinct is to shy away from regulators sticking their noses into process as opposed to outcome. They are becoming too prescriptive, increasing adviser costs and not improving client outcomes.
But it started when I went through the process myself. It was far, far too detailed.
In days gone by most folk in work received defined benefit pensions at retirement. If they were lucky they received two-thirds of salary. They also tended to have life cover/death in service pension and income protection. There was no need for cashflow. Tax-free cash and residual pension was pretty easy to manage and most contingency was covered – the exceptions being divorce and redundancy.
The first cashflow diagram I ever saw was from Skandia. It illustrated income over a working life (a) dropping to almost nothing (b) at retirement. The simple message was, “How much are you prepared to sacrifice from (a) in order to increase (b)?” Since (b) would be less than (a), the second question was, “What are you going to give up doing that you do now (such as holidays)?” Perfect.
The first rule of retirement planning should be, “if I cannot afford it, I will not do it”. It is how most folks live in work and in retirement. Financial planning can make it easier, but it cannot provide a detailed forecast. There are just too many variables.
Divorce damages financial plans more than a grenade, yet most advisers are reluctant to discuss it with clients
My second issue with cashflow modelling today is that too many advisers focus on investment return rather than contingency.
Investment should not be an issue. It should be boring. Just assume a return of inflation plus 1 per cent, or whatever works for you and your client. It tells you how much to invest, for how long and provides a benchmark, so you can tweak it.
The events that cause financial planning chaos are death, divorce, disability and redundancy. Trust me. When my wife tragically died, my financial plan was a total mess.
Based on Office for National Statistics data, 42 per cent of marriages end in divorce.
Divorce does more damage to financial plans than a grenade, yet most advisers are reluctant to discuss it with clients. How will you explain to your client that you did not discuss this most likely of contingencies, because you did not want to hurt anybody’s feelings?
My third point is around Parkinson’s Law. Planning tools tend to expand to justify the price the manufacturer believes it can get away with. They are far too complex. If we allow regulators to get involved, it will be just like Mifid II and GDPR – a license for lawyers and compliance consultants to print money.
So, next time you are going through the cashflow process, just remember to ask what will happen on death, disability, divorce or redundancy, and not worry too much how they will survive on a 50 per cent reduction in income. Because, trust me, they will.
Clive Waller is managing director at CWC Research