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Q&A on building an investment propostion, with Ian Shipway

Ian Shipway, founder and Managing Director of HC Wealth Management and Chairman of the Investment Committee at Succession Advisory Services discusses how advisers can manage the galaxy of options into a coherent belief system.

Let’s start with a basic but important question: What is an investment proposition?

It is the result of a thought process and should encapsulate an adviser’s belief system on investment returns. For example, do they believe in capital markets? The compounding power of dividends? Most advisers are faced with a vast array of investment opportunities, which can be put together in a myriad of ways. An investment proposition is a way to manage these options to ensure that they do not have to consider every option for every client every time it is reviewed.

How can advisers begin to define their investment proposition?

There are a number of considerations in defining an investment philosophy. First, an adviser needs to ask what they are promising to do for their clients. It is important that what they are promising and what they are doing are the same thing. Then they need to ask how they will deliver on that promise? It is essential that a client value proposition is consistent with the investment philosophy.

What are the options?

There are two key approaches: The first is based on performance: that the adviser will be able to deliver a better return than the adviser next door or over a certain benchmark. The other is based on meeting client objectives and looking at what the adviser is trying to achieve for the client. Each needs a slightly different thought process. The first is the investment manager mindset and is all about selecting those assets that are going to give a better return than any other. The second is about how investments can be used to meet a clients objectives and reducing the risk that those client objectives will not be met.

The risk of the first approach is that if the investments struggle to keep up, the client relationship is imperilled. Either way, it is important to define a philosophy and stick to it. Otherwise, there is a danger of chasing performance returns that aren’t necessary for the client.

How does this feed into asset class selection?

Asset allocation is so important. Studies on asset allocation are often misquoted, but it is still a key part of an adviser’s philosophical positioning. The range of outcomes becomes narrower over time, but equally, the effects can be compounded over time.

At the outset, advisers should ask whether they believe in capitalism. Any discussion on equity returns is premised on a belief in capital markets. If advisers don’t believe capitalism will survive, then they shouldn’t be including equity in a portfolio. Advisers then need to ask how they will derive the returns expected from equity or other markets. Every asset class included in a client’s portfolio must increase the return or reduce the risk In the UK, we tend to use geographic allocation or market capitalisation allocation as diversifiers, but advisers need to understand why they are doing that. On the bond side, advisers need to make a choice on credit selection and duration. Again, they need to understand why they are there in a portfolio and what they are doing. Do they add value and should they be included in a portfolio? Equally, there are tactical considerations: Styles can be very highly correlated at certain points in the cycle and then can deviate quite significantly at other times.

Active and passive is another choice: Advisers need to remember that passive is not just index-tracking. Increasingly there are ‘asset class’ and ‘smart beta’ funds available to investors. There are two decisions that advisers have to make: Does an adviser believe that stock selection adds value? Do they believe that market timing add value? There are plenty of solutions out there where managers are trying to add performance through stock selection and market timing. Alternatively, there are solutions that may be aiming to add value through asset allocation, while populating the asset class selection with passive funds.

What are the different types of delivery mechanism?

There are plenty out there. Once an adviser has selected the right delivery mechanism, they should be able to understand why a solution is out- or under-performing. They may wish to outsource the whole issue, or run the models themselves.

However, I would add a word of warning: if an adviser starts outsourcing where their clients have been used to getting fund recommendations from them, it may be a challenging discussion.

How do you see the investment market developing? Is there a danger of over-commodification of investment solutions?

There could be. When stochastic modelling came in, it was based on long-term expectations of asset class returns. An adviser might be given a 20 per cent allocation to UK equities, but when implementing it, would be given the Fidelity UK Special Situations fund, which had very little to do with the performance of UK equities. It was dislocated, a false comfort. They were promising apples and selling bananas.

Many investment advisers started out by selling managed funds. Now, we are likely to move back to a similar thing. It may be outsourced, or multi-manager. This may be no bad thing. I wonder how much value in aggregate has been added over the past 20 years from fund selection. I suspect the intermediary market will shrink because it will become more difficult to deliver any kind of mass market advice.

How is the perception of risk changing?

The perception of risk is changing to become more behavioural in approach. Every client is happy with risk on the way up, after all. Some stochastic models just look back, and then some rebalance on a quarterly basis. I don’t think the historic way of simply giving a range of outcomes based on 7 per cent, 9 per cent or 15 per cent returns has been particularly useful. Financial planners need to start thinking in real terms

However, recent events have demonstrated that the future is totally and utterly unpredictable. It is all about building a portfolio towards the biggest risks. For example, if an investor wants to make sure they can pay their gas bill, they should be buying British Gas shares. At each stage a person’s investment strategy should be hedged to what they are trying to achieve.

What will an advisory business look like in future?

They will need to have moved from a commercial arrangement with the provider to a commercial agreement with their clients. In the old world, the key attribute was getting new clients through the door. In the new world, it is all about ensuring that existing clients return. Building the right investment proposition will be a key part of that.


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