(AssetMark) About 55 percent of all financial advisory practices construct custom investment portfolios for their clients. Evaluating asset classes, balancing different investment vehicles, conducting due diligence, adapting strategy to the market—portfolio construction may represent one of the more arduous tasks that financial advisors tackle day to day. In fact, research suggests that only 7 percent of advisors are equipped with the time and resources it takes to conduct portfolio construction effectively.
What makes portfolio construction so difficult, and how can financial advisors make this process easier, more effective, and less time-consuming?
Financial Advisor’s 4 Greatest Portfolio Construction Challenges
1. Choosing the right investment style
As current affairs shape the market one way or another, financial advisors who manage their clients’ investment portfolios often face the question of whether their investment style should focus on value, growth, or a blended approach.
If you were to poll a sample of investment professionals at any given time, you’d likely see a variety of answers across the board—that’s because balancing growth versus value in your clients’ investment portfolios is a very delicate act and one that depends on market conditions and the client.
Financial advisors who find portfolio construction appealing and have the time they need to research the shifting financial and economic landscape are likely up to the challenge, but the rub lies in finding the time to do so.
2. Striking a balance between domestic and international
Many investors and financial advisors still believe that the U.S. is the center of the equity world—especially if they’re from the U.S.—but this isn’t necessarily true anymore. International markets have many attractive investment vehicles to offer. Today, a diversified investment portfolio may include a healthy dose of international market exposure in order to strike the right balance.
This is especially true since the U.S. market tends to focus more on growth stocks, while many international markets have a stronger focus on value. Thus, an intentional tilt to value may require more international exposure.
It’s important to remember, however, that international stocks aren’t a monolith; Europe, Asia, other regions of the world, and the countries and businesses within them are all subject to different forces and risks that make investing in those regions more or less appropriate for your clients. It can be a heavy lift to analyze which international stocks are a good fit for your clients’ portfolio. Advisors who are strapped for time might be tempted to just stick with the U.S.-based assets that they’re most familiar with.
3. Responding to clients’ reactions to the headlines
Even for financial advisors that relish the construction of a robust, well-balanced investment portfolio and have the time to do so, they are still faced with managing their clients’ reactions to the latest news headlines and global events. Sometimes, clients may ask their advisor to make changes to their portfolio based on which investments are popular and which direction the market is going.
However, there is rarely a benefit to abandoning sound investing principles in response to such requests.
For example, most portfolios should have some sort of fixed-income investment to act as long-term ballast, such as Treasury bonds. If your client has a low risk tolerance but is wondering why they’re invested in low-yielding bonds instead of a popular but volatile stock, effectively communicating why you’ve constructed their portfolio to include such assets is essential.
As a financial advisor, you have the benefit of being emotionally removed from the performance of a given portfolio. This distance enables you to provide unbiased advice and guidance to your clients, ensuring that their investment decisions are based on research and evidence rather than emotion.
But retail investors also don’t have the added burden of explaining, reporting on, and justifying their portfolio construction. Because you serve as a trusted advisor and portfolio manager to your clients, you need to make the time necessary to provide this crucial information.
4. Building a portfolio that tells the right story
Any well-diversified investment portfolio is going to have underperforming elements in a given year or quarter. Without a diverse set of assets, a portfolio might perform very well one year when the market conditions are just right and perform disastrously the next year when conditions change again. With the right mix of assets to hedge for volatility, one asset or the other is going to provide lower returns.
Most advisors that take on portfolio construction themselves know this and understand there will be underperforming aspects to their clients’ portfolios. The question is how to explain why that’s the case, why they’ve built a portfolio in a certain way, and why the portfolio is performing the way it is to their clients.
Financial advisors need to listen to their clients, understand their goals, and learn about their actual risk tolerance. Starting from here, they can build investment portfolios that speak to those needs. Then, when something inevitably underperforms or when adjustments are necessary, the advisor can center the conversation on their clients.
Doing this well is a delicate balancing act between right brain and left—you need to listen deeply to your clients and tease out the fullness of their financial goals, and then those needs must be translated into a tailored portfolio constructed with all the necessary due diligence. If you build a portfolio that’s designed to tell the story of the client’s goals, then any conversations surrounding performance, news headlines, market volatility, or anything else will go all the more smoothly.
It All Boils Down to Time
None of these challenges are insurmountable for a financial advisor, especially if portfolio construction is something they enjoy. But the caveat here is whether there is enough time to address each one, let alone address these challenges and sustain a robust relationship with your clients.
Conducting due diligence into individual investment products and strategies, evaluating market conditions, conveying the reasoning behind your decisions to clients—all of these are highly time-consuming. Spending your time on these activities means you spend less time:
- Building client relationships and learning about their goals
- Marketing and prospecting for new clients
- Improving business processes
- Maintaining a work-life balance
For these reasons, many financial advisors decide to outsource investment management. On average, advisors that outsource between 90 and 100 percent of their assets under management (AUM) save over eight hours per workweek. Gaining a full day back in the workweek makes a lot of business challenges seem a whole lot less challenging.
What About Advisors That Love Portfolio Construction?
For some, the love of investment management was the reason why they launched their financial advising career. The idea of outsourcing this enjoyable element of their work may leave such advisors feeling a bit deflated. Most importantly, the financial advisor understands their clients’ goals best; could a third party translate those goals into a tailored investment portfolio any better?
That’s why AssetMark provides the ability to develop custom portfolios consisting of different investment strategies. With this approach, advisors don’t have to worry about conducting due diligence into asset classes, picking and choosing granular investment vehicles, and all the other tedious elements of portfolio construction that have a poor return on your time investment. At the same time, advisors can still build custom portfolios that speak to their clients’ needs as they know best.
For example, at AssetMark, a financial advisor might want a passively implemented equity exposure for a client’s portfolio, but with an active bond strategy. Rather than picking between an all-passive, all-active, or balanced portfolio, an advisor working with AssetMark can plug in one of a variety of active bond rotation strategies into their otherwise passive portfolio.
In essence, financial advisors working with AssetMark still have the option to construct portfolios tailored to their clients’ needs; just instead of building portfolios by asset class, they build portfolios by strategy.
If you’ve got more questions about what outsourcing investment management with AssetMark looks like, don’t hesitate to reach out to our team. If outsourcing is a new topic for you and you want more data on what outsourcing portfolio construction and investment management could look like, we recommend reviewing our study, The Power of Outsourcing Investment Management.
