How Do We Pick the Right Funds to Recommend for our Wealth Management Clients?
One of our most important responsibilities as comprehensive financial advisors is investment fund selection and fund recommendation. What are the right funds to recommend that are the best fit to achieve the financial goals of this exact wealth management client?
At Hendershott Wealth Management, we safeguard this responsibility as true fiduciaries. You may be familiar with the term “fiduciary” or it may be new to you. Here is the definition that guides our work as financial advisors for our wealth management clients:
Fiduciary: a financial expert who is legally and ethically bound to present clear, evidence-supported recommendations in alignment with your unique financial goals and who can also take intentional action on your behalf with the primary purpose of protecting, growing, and distributing your wealth for your sole benefit.
Being fiduciaries means we treat your portfolio with the same – or better – care and attention as we do our own portfolios. With your best interests in mind. As if your long-term financial goals were our own goals.
Being a fiduciary means we also stay current with evidence-based investing. If we gain new information that may affect your investment accounts, we take the time to recommend adjustments as needed.
The world is constantly changing, and so are various funds in the marketplace. So, how do we find and recommend the right funds for each of our wealth management clients?
It’s important to mention we’re limited by the federal government from giving you specific investment advice if you’re not our client. However, we can certainly let you in on the ‘how we make the soup’ secrets and wisdom we’ve gathered over the past few decades of building incredible investment portfolios for our amazing clients.
Our clients trust us to position their investment portfolios based on a number of evidence-driven factors. What we’re about to show you is a summary of our investment selection process.
Our approach prioritizes looking past today’s unsettling news in light of your greater, long-term goals. That’s correct: we ignore short-term volatility, because, so far, it resolves itself 100% of the time.
For our investor clients, we follow a three-step process to find, stress-test, and purchase the right investment funds for our clients.
Step 1: Eliminate the Gamblers, Identify the Potentials
Did you know there are currently more mutual funds (or ETFs) than publicly traded companies?
Imagine having more meal combo options on a restaurant menu than the actual number of entrees! It’s confusing, at best, and overwhelming if you had to individually evaluate all of them. Anyone who tries to build a good investment portfolio certainly has their work cut out for them.
The good news is we can promptly eliminate most mutual funds and ETFs from consideration based on which ones are speculative or traditionally active funds. (Much of the approach used by speculative and active-fund traders treats investing like a game, and we prefer not to play any games with our clients’ accounts.)
Speculative, or active, investors try to predict what’s going to happen next in the market with specific industries, sectors, or even individual companies. They place trades with the hope (read: guess) that they’re right before their competition gets there. Whether these traders are individuals or well-pedigreed analysts, the competition is fierce and in many ways, a high-stakes gamble.
Now, many of these traders work hard to analyze financial conditions and economic indicators. They may even be correct occasionally.
But that pricing ‘curve’ they’re trying to trade ahead of is always blind to the next price-altering news because all the information we have about a company now is baked into the price of its stock almost instantaneously.
Over the long run, it’s practically impossible to consistently surpass the prices and long-term expected returns already available in highly efficient markets. In fact, no one the world is aware of has managed to outpace a simple buy-and-hold of a diversified basket of stocks over the long run (we promise: it’s true).
So, What Do We Do After Eliminating Speculative Funds?
This leaves us with a much smaller, yet still sizable pool of potential selections: a nice ‘problem’ to have. However, we need to narrow the field further by identifying the best of the best.
We also must periodically revisit our selections, as new or existing providers offer potential enhancements over time.
As wealth managers, we add considerable value through our upfront and ongoing due diligence. Our team looks for providers who provide a good balance between innovation and a reliable consistency in how they perform in the market.
This involves finding the most robust factors, or expected sources of return, and understanding how they interact with one another across various market conditions.
The most robust sources of return come from investments that are:
- Evidence-based: They rely on the same growing body of evidence we use to create a more reliable investment experience when compared to how the market moves.
- Persistent: They are deliberate, patient, and thrifty, with an eye toward offering more than just a menu of popular products and short-term ‘pops’.
- Conservative, Yet Proactive: They’ve been around for a while and carry a strong track record for capturing known and newly identified dimensions of expected returns.
- ‘Plays Well With Other Funds’: We prefer funds that get along well with other funds in an investment portfolio. We look for solutions that we can combine with other funds in several ways as low-cost, sensible building blocks to help you reach your greater financial goals.
This first step is one of the more involved parts of our process, but the payoff is often well worth the work as we often eliminate many of the usual headaches that can happen with investment portfolios.
Step 2 is where we get to have a bit more fun. It’s about building a portfolio that’s ideal for your goals and risk tolerances.
Step 2: Personalize Your Portfolio.
We’ve found that either mutual funds or ETFs (exchange-traded funds) are the right fit for the vast majority of our clients.
When you start considering more expensive and illiquid investments like annuities, hedge funds, and other alternatives, you run into additional complications and overhead that most investors simply do not need. By the way, an ‘illiquid’ investment doesn’t allow you to access your principal or returns for sometimes up to ten years, so it’s one you literally cannot spend, sometimes for a long time.
You deserve to be in the investments that are right for your expectations, plans, and timeline. Anything less is a disservice to you and your financial future. That’s where personalizing your portfolio comes into play.
There’s no end to the shiny packaging of so many tempting opportunities everywhere you look. That’s also the case with investing, especially considering how some product providers present their offerings.
There are traditional and closed-end mutual funds, ETFs, hedge funds, target-date funds, annuities, indexing accounts of every shade and size you can imagine, private partnerships, the list goes on and on.
However it’s wrapped, the initial challenge stays the same: is the investment opportunity constructed with an appropriate, evidence-based approach that’s the right fit for your financial future?
So, How Do We Incorporate “You” Into Your Investment Portfolio?
Even world-class investments may not be the best for you if they don’t align with your unique financial circumstances. As one example, we always avoid investments that are overly leveraged or expensive.
There are several details that can influence the specific investments we recommend for your portfolio, including but definitely not limited to:
- How long do you have to invest toward your various goals?
- What are your cash flow wants and needs?
- Are you a business owner?
- What are your legacy plans?
- What is your current top tax bracket?
- Are the funds to be invested in a pre-tax account or an after-tax account?
These can influence not only how we structure your investment accounts, but also, which specific holdings to consider.
There are also larger influences we keep in mind when incorporating more of “you” into your investment accounts.
1. Risk Tolerance is Essential for Personalizing Your Portfolio.
Are you comfortable taking risks in pursuit of greater rewards? Conversely, will you be able to achieve your goals if we select a more conservative basket of investments for your accounts?
Your portfolio can be tailored in either direction while maintaining an evidence-based approach either way. This is largely accomplished through careful consideration of the quantity of and types of bonds we buy in your accounts.
2. Planning for a Better Tax Situation – We Have an Answer for You.
Capital gains taxes can be punitive depending on what state you live in, so we carefully plan for the costs of transitioning toward a more appropriate portfolio, no matter what an investor is holding when we first meet them.
This includes accounting for the ‘space’ in your existing, tax-sheltered accounts, as well as the tax implications of selling less-desirable taxable positions.
A unique advantage we have compared to other advisory firms is our extensive in-house tax specialties. Instead of needing to search for a tax specialist that may not fully understand your investment situation, we have a collaborative, informed team who can perform detailed analyses and make strategic recommendations.
3. Understanding How to Best Manage Your Outside Accounts.
How we make recommendations also depends on the types of accounts and other investments you have access to through your employer. (If you’re a business owner, these may be your own sponsored accounts.)
Even if your company retirement plan doesn’t offer ideal selections, it may still be among your best, most tax-wise investment vehicles—especially if your employer is matching your contributions. After all, free money is hard to beat!
4. Invest in Alignment With Your Values.
The right solutions for you depend on where your priorities stand. What will you be proud to tell your children, best friend, or successor that you invested in years from now? Do you want to incorporate an “ESG” (Environmental, Social, Governance) or similar values-based element in your investing?
These are key factors that can help guide how we personalize your portfolio, but we’re not done yet. So, how do we sift out and incorporate new best practices supported by new evidence?
There’s a key mindset you need to have as an investor when life changes, when things don’t go the way you always expect. That brings us to the third and final step in how we choose funds that may best fit our clients’ accounts.
Step 3: Adjust With Data.
In Step 1 we mentioned how we start with data – evidence-based investing. While it’s important to adhere to a long-term outlook as an investor, even evidence-based portfolios are expected to evolve with time. That’s not to say what advisors recommended for investors fifty years ago doesn’t still work today – some of it does – but our industry has also changed.
The Modern Portfolio Theory in the 1950s and the Capital Asset Pricing Method in the 1970s laid the groundwork for what our industry uses to build diversified portfolios today. Over the past fifty years though, we’ve seen pricing models, mutual fund styles, and other key factors evolve with more data.
We also know how to better account for other persistent factors, like profitability, value, momentum, and others. Most importantly, we’ve learned how to better understand how you as an investor have unique financial goals.
For our team at Hendershott Wealth Management, we remain aware of the new studies that necessitate changes in client portfolios. When new data shows itself, we need to respond to that data with the same care and attention we’d expect for our portfolios.
Picking Investments to Build a Long-Lasting Portfolio
The latest headlines, trends, and even cocktail hour gossip can make investors feel skittish. Watching the stock market run like a rollercoaster may cause you to feel uncertain, restless, and in many cases, scared about what that means for your investment accounts.
And it’s okay to feel uncertainty as an investor! That means you’re human.
You want to know what we’re doing about it and if everything is going to be okay.
We help position our clients’ portfolios to better absorb volatility because it’s a matter of when, not if those hits will happen throughout the market.
It’s why we specifically look for investment managers who follow the evidence, not emotions when building solid solutions.
Choosing the right investments to recommend is a significant responsibility. With our process, you can know with confidence why we may recommend certain investments over others – and what that means for you as you look toward your financial goals.
That’s why we’re here: to help you. And there’s a good chance you have more questions specifically related to your investment portfolio and your financial goals. The first step is sharing more of your story with our team through an initial call.
There’s no cost and no obligation to schedule an initial 20-minute call. Click here to take the first step.
All investing involves risk, including the potential loss of principal. There is no guarantee that any investment plan or strategy will be successful. Advisory services provided by Hendershott Wealth Management, LLC (“HWM”), an investment advisor registered with the U.S. Securities and Exchange commission. Registration does not imply a certain level of skill or training. The presence of this website on the Internet shall not be directly or indirectly interpreted as a solicitation of investment advisory services to persons of another jurisdiction unless otherwise permitted by statute. Follow-up or individualized responses to consumers in a particular state by HWM in the rendering of personalized investment advice for compensation shall not be made without first complying with jurisdiction requirements or pursuant an applicable state exemption.
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