Goals-Based Investing

A continued focus on client goals is the key to confidence

By Jeff Rogers
Previous Chief Investment Officer, ipac (retired) Sydney, Australia

Remaining focused on client goals is important more than ever. 

I would like to address this topic for an investment manager by suggesting that the best way to build confidence is to engage deeply on what their client wants and to then help them achieve those goals.

There are two complementary approaches to managing money – one risk-based, the other outcome-oriented. Which one is better depends on the investment problem being addressed.

Breaking down the styles, I find that a risk-based approach, with its primary focus on “the money”, is best-suited for managing long-term institutional portfolios and the assets of wealthy families.

By contrast, an outcome-oriented approach, with its focus on spending goals, is better placed to improve the financial well-being of households seeking to fund essential and discretionary spending goals in retirement.

The challenge in executing either approach is maintaining client confidence in the face of both the vagaries of capital markets and other external noises.

Not for nothing is the aphorism, “an investment manager’s confidence in their strategies can last longer than their clients.”

Investment managers that don’t get - and address - this risk may find their clients change strategy (and potentially investment manager) at an inopportune time. When this happens, the client outcome is potentially inferior to the outcome of the strategy upon which they embarked.

Trust between an investment manager and their client is the bedrock that supports the maintenance of confidence along the investment journey.

The trust equation

The so-called trust equation provides a useful way to address the factors that influence the level of trust between an investment manager and their clients. The equation states that:

T = (C + R + I) / S

According to this equation Trust (T) is positively related to credibility (C), reliability (R) and Intimacy (I) while inversely related to self-orientation (S).

Credibility is built via the words we use to evidence our expertise and the gravitas of our presence. Reliability is determined by how frequently our actions deliver outcomes consistent with our promise. Intimacy refers to how we engage with clients through an understanding of their financial, emotional and behavioural needs.

Finally, self-orientation relates to our motives in providing the service and is (too) often associated with the level of fees. However, it also relates to the self-perception of our role in the delivery of the service.With this background, we can consider the two different approaches to managing money.

The risk-based approach

Investment 101 advises you to start with some investable capital (aka: “the money”) and focus on the volatility associated with the production of investment returns on that money. This approach has strong theoretical foundations and is most useful when the investment problem is to grow the size of the portfolio subject to an acceptable level of variability.

Risk-based portfolio managers are typically very good at building credibility through the sharing of fundamental and investment insights. It is a pre-condition for earning the right to manage client capital.

Managers seek to demonstrate reliability through measures such as return relative to peers or performance relative to benchmarks. Given the nature of competitive capital markets, consistent delivery to these metrics is quite testing.

Client intimacy is the greatest challenge. To be sure, we engage with clients around the acceptable level of variability of returns on their money. However once this is established the so-called “separation theorem” of portfolio theory advises us to insulate ourselves from them and focus solely on capital market opportunities.

A risk-based approach could over-emphasise self-orientation. There is a delicate balance between establishing credibility and leaving an impression that the client’s money is a canvas for the manager to demonstrate their artistry.

Mitigating this, remuneration incentives usually align a manager with client interests.

The outcome-oriented approach

In the outcome-oriented framework the focus is on a client’s consumption goals. This is the key purpose for their savings and investments. The aim is to determine savings, investment, and spending strategies to help them reliably attain their consumption goals.

So, as well as sharing our investment expertise, we establish credibility by demonstrating an understanding of these goals and the unique attributes of their investment problem.

In the outcome-oriented approach, intimacy is created through engagement with the client to truly understand the size, time horizon and priority of their goals. While the separation theorem may still technically apply after adjusting for goal characteristics, the exploration of goals helps emotionally align manager and client.

Many baby boomers face a complex investment problem as they look to confidently fund their retirement lifestyle. They are looking for a relationship with service providers who reveal technical expertise and deep empathy.

We must demonstrate reliability by communicating clearly with our clients on our progress in helping them achieve their goals. This is ultimately their measure of success.

Focusing squarely on outcomes for clients reduces the leaning toward self-orientation because behaviourally, the investment manager is “standing in their shoes.”

Conclusion

You often hear about the noble purpose of insurance – to provide financial aid in difficult times.

Our role is to provide high levels of financial confidence in retirement. Managing money through a risk-based approach is an exciting technical challenge but it doesn’t necessarily evoke a sense of nobility of purpose. When you frame the challenge as improving client well-being by helping them fund spending goals in retirement it is perhaps easier to appreciate the purpose.

Engagement on consumption goals before addressing the production of investment returns can deliver considerable benefit to clients and their investment managers. 

Important note: While every care has been taken in the preparation of this article, AMP Capital Investors Limited (ABN 59 001 777 591, AFSL 232497) and AMP Capital Funds Management Limited (ABN 15 159 557 721, AFSL 426455) makes no representations or warranties as to the accuracy or completeness of any statement in it including, without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This article has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this article, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This article is solely for the use of the party to whom it is provided.

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