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  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

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    I F ontinuing

    Education

    Investment ounsel

    for Private lients

    October 8-9 1992

    Chicago Illinois

    Charlotte Beyer

    Jean L.P.

    Brunet

    CFA

    Dwight D Churchill CFA

    Peter Davis

    George D Friedlander

    Frank

    E

    Helsom CFA

    Warren N. Koontz Jr. CFA

    William R Levy

    Edited

    by

    John W Peavy

    CFA

    David

    L

    Mead CFA

    H. Scott Miller

    Brian Murdock

    John W Peavy III CFA

    Nancy

    Smith CFA Moderator

    Diane

    M

    SpirandeIli CFA

    R Gregg

    Stone

    IMR Education Steering ommittee 1992 93

    James R Vertin CFA o hairman

    Menlo Park California

    Ian

    R

    O Reilly CFA

    o hairman

    Toronto Ontario Canada

    Charles

    D

    Ellis CFA

    Greenwich Connecticut

    Lea Hansen CFA

    Toronto Ontario Canada

    Susan D Martin CFA

    Hudson

    Ohio

    Charles

    F

    O Connell CFA

    Chicago Illinois

    Donald L Tuttle CFA

    Charlottesville Virginia

    Eliot P. Williams CFA

    Hartford Connecticut

    rnold

    S Wood

    Boston Massachusetts

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    The ssociation for Investment Management and Research

    comprises the

    Institute of

    Chartered Financial

    nalysts and

    the

    Financial

    nalystsFederation

    1993 Association

    for Investment Management

    and

    Research

    All rights reserved.

    No part

    of this publication

    may

    be

    reproduced stored in a retrieval system

    or

    transmitted in

    any

    form

    orby any

    means electronic mechanical photocopying

    recording

    or

    otherwise

    without

    the

    prior

    written permission

    of the copyright holder.

    This publication

    is designed

    to

    provide accurate

    and

    authoritative

    information in

    regard

    to the subject

    matter

    covered.

    t

    is sold

    with the understanding

    that the

    publisher

    is

    not engaged

    in

    rendering

    legal

    accounting or other

    professional service. legal advice

    or

    other expert assistance

    is required the services ofa

    competent

    professional

    should

    be

    sought.

    From a Declaration of Principles jointlyadopted by a ommittee of

    the merican arssociation and a ommittee ofPublishers

    ISBN 10: 1 879087 22 7 ISBN 13: 978 1 879087 22 4

    Printed in

    the

    United States of merica

    4 1 93

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    Table of

    Contents

    Foreword

    Katrina F

    Sherrerd, CFA

    iv

    Biographies of

    Speakers v

    Investment Counsel

    for

    Private

    Clients An

    OveNiew

    John

    W

    Peavy

    ll

    CFA . . . . . . . . . . . . .

    Understanding Private Client Characteristics

    Charlotte Beyer. . . . . . . . . .

    Investment Planning for

    Entrepreneurs

    Peter

    avis

    . . . . . . . . . . .

    Investment Planning

    for Wealthy Families

    H ScottMiller . . . . . . .

    sset llocation for Private Clients

    Jean L P Bnmel, CFA . . . .

    SeNicing the Private

    Client Part I

    Brian

    Murdock .

    SeNicing the Private Client Part

    David L Mead, CFA . . . . .

    The Value of SpecialiZed Investment

    SeNices

    Frank E Helsom,CFA . . . . . . . . .

    Investing in

    Municipal

    Bonds for Private Clients

    George

    D

    Friedlander

    . . . . . .

    Investing in

    Venture Capital for Private Clients

    R GreggStone . . . . . . . . . .

    International Investing

    for Private Clients

    Diane

    M

    Spirandelli, CFA

    Understanding

    the

    Tax Constraints on Private Clients

    Warren

    N

    Koontz,

    Jr

    CFA . . .

    continued on next page

    1

    5

    8

    29

    45

    58

    65

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    Estate Planning and Charitable Giving for Private Clients

    William R Levy

    Portfolio

    Management

    for Private

    Client A Case Study

    JolmW PeavyIII CFA

    Applying the

    AIMR Performance Presentation Standards to Private Clients

    Dwight Churchill CF

    7

    8

    Self Evaluation Examination

    Questions 94

    Answers

    9

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    I F oard

    Trustees

    Ian

    O Reilly CFA hairman

    Toronto Ontario

    Canada

    Eliot

    P

    Williams CFA

    Vice

    hairman

    Hartford Connecticut

    Darwin

    M

    Bayston CFA President

    and

    hief

    xecutive Officer

    Charlottesville Virginia

    Frederick L Muller CFA IMR hairman

    Atlanta Georgia

    Charles

    D

    Ellis CFA IMR

    Vice hairman

    Greenwich Connecticut

    James K Dunton CFA

    Los Angeles California

    Thomas L Hansberger CFA

    Ft Lauderdale Florida

    Lea

    Hansen CFA

    Toronto Ontario

    Canada

    Norton

    H. Reamer CFA

    Boston Massachusetts

    Eugene C Sit CFA

    Minneapolis Minnesota

    Eugene H. Vaughan Jr. CFA

    Houston Texas

    Brian F Wruble CFA

    Philadelphia Pennsylvania

    IMR Council on Education and Research

    James

    Vertin CFA

    hairman

    Menlo Park California

    Keith P Ambachtsheer

    Toronto Ontario

    Canada

    Darwin M

    Bayston CFA

    Charlottesville Virginia

    Gary P Brinson CFA

    Chicago Illinois

    Charles

    D

    Ellis CFA

    Greenwich Connecticut

    H. Russell Fogler

    Gainesville Florida

    W

    Van

    Harlow

    III CFA

    Boston Massachusetts

    Lawrence E Harris

    Los Angeles California

    Martin

    L

    Leibowitz

    New

    York

    New

    York

    Staff Officers

    Darwin

    M

    Bayston CFA

    President and

    hief Executive Officer

    Thomas A Bowman CFA

    xecutive

    Vice President

    Michael

    S

    Caccese

    Senior

    Vice

    President and General ounsel

    Katrina F Sherrerd CFA

    Senior

    Vice President

    Donald L Tuttle CFA

    Senior

    Vice

    President

    Randall

    S

    Billingsley CFA

    Vice President

    Raymond

    J

    DeAngelo

    Vice President

    Julia

    S Hammond

    CFA

    Vice President

    Roger

    F

    Murray

    Wolfeboro

    New Hampshire

    Ian O Reilly CFA

    Toronto Ontario

    Canada

    John W Peavy III CFA

    Dallas Texas

    ndre

    F Perold

    Boston Massachusetts

    Frank

    K

    Reilly CFA

    Notre Dame Indiana

    Stephen A Ross

    New

    Haven Connecticut

    William F Sharpe

    Los Altos California

    Eugene C Sit CFA

    Minneapolis Minnesota

    Bruno Solnik

    Paris France

    Robert

    M

    Luck CFA CPA

    Vice

    President

    Peggy M Slaughter

    Vice

    President

    Roger L Blatty

    ssistant

    Vice

    President

    Moira C Bourgeois

    ssistant

    Vice

    President

    Joy N. Hilton

    ssistant

    Vice

    President

    Dorothy C Kelly

    ssistant

    Vice

    President

    Jane

    P

    Birckhead CPA

    Treasurer and ontroller

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    orewor

    Servicing the investment needs

    of

    high-net-worth

    individuals

    an d

    their

    families-so-called private

    cli-

    ents-requires a combination of technical skill an d

    diplomatic acumen. This is because such clients

    often expect

    more

    from theirinvestment

    ad

    visor

    than

    just investment performance.

    Although the process of

    managing money

    is ba-

    sically the same for individuals

    an d institutions-

    both must

    be

    dealt with on th e

    basis of their

    unique

    needs an d characteristics-significant

    differences

    nevertheless exist. For one, dealing

    with

    private cli-

    ents can

    be

    complicated

    by

    a family s conflicting

    objectives involving several different generations.

    Fo r another

    investment

    a dv is or s m u st

    balance

    unique

    constraints-including

    an individual s

    tax

    an d

    legal

    considerations-with investment

    strategy.

    Because of the importance the

    private

    client

    mar-

    ket is assuming in the

    world

    of investment manage-

    ment, AIMR sponsored a

    seminar

    entitled nv stm nt

    ounselfor Private

    lients

    This proceedings explores

    the processes involved in setting long-termgoals

    an d

    implementing investment strategies for clients

    wh o

    have substantial assets. The proceedings also

    ad-

    dresses ways toeducatean d communicate

    with

    these

    special clients.

    Many individuals contributed to the success

    of

    Katrina F Sherrerd, CFA

    Senior Vice President

    Publications an d Research

    AIMR

    iv

    th e seminar an d

    this proceedings. AIMR wishes to

    acknowledge all of them with grati tude. Special

    thanks are extended

    to John

    W

    Peavy III, CFA,

    wh o

    edited this proceedings with such skill,an d Nancy

    Smith, CFA,

    wh o

    served as conference

    moderator

    an d ably

    guided

    the discussions in Chicago. Their

    advice

    was instrumental

    in shaping this publication

    an d

    th e

    valuable information it contains.

    Th e speakers contributing to the seminar were:

    Charlotte Beyer,CharlotteBeyerAssociates; JeanL.P.

    BruneI, CFA, J.P. Morgan Private Banking Group;

    Dwight D

    Churchill, CFA, CSI Asset Management,

    Inc.; Peter Davis,

    Wharton

    School, University of

    Pennsylvania; George

    D

    Friedlander, Smith Barney,

    Harris

    Upham

    Company; Frank

    E

    Helsom, CFA,

    University InvestmentManagement, Inc.; Warren N.

    Koontz, Jr., CFA, The Jeffrey Company; William

    R

    Levy,

    T he G le nm ed e T ru st Co mp an y;

    David L

    Mead, CFA, Harris Trust

    an d

    Savings Bank; H. Scott

    Miller,Miller,

    Anderson

    Sherrerd; Brian A

    Murd-

    ock, Merr ill Lynch Asset

    Management;

    John W

    Peavy III

    CFA,

    Southern Methodist

    University;

    Nancy Smith, CFA, The Glenmede Trust Com-

    pany; DianeM Spirandelli, CF Swiss BankCorpo-

    ration; an d R GreggStone, PR Venture Partners L.P.

    an d

    Pell,

    Rudman Company

    Inc.

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    Biographies of Speakers

    Charlotte

    Beyer

    is

    founder and president

    of Char-

    lotte Beyer Associates, a consulting firm focusing

    on

    the high-net-worth-individual market. Previously,

    Ms. Beyer

    directed

    private

    client

    marketing

    for

    Lazard Freres Asset Management. She also

    was

    se-

    nior vice president

    and

    principal of Wood, Struthers

    Winthrop

    and

    vice

    president

    in the Fiduciary De-

    partment at Bankers Trust Company. She is a trustee

    of the Westover School in Middlebury, Connecticut.

    Ms. Beyer

    graduated

    from

    Hunter

    College

    and

    at-

    tended the University of Pennsylvania

    and

    the

    New

    York University

    Graduate

    School of Business

    Ad

    ministration.

    Jean

    L P

    Brunei CFA

    is

    managing

    director

    and

    chief investment officer of the J.P.

    Morgan

    Private

    BankingGroup. Previously, he

    was head

    of

    J P

    Mor-

    gan

    InvestmentManagement Australia Ltd.

    and

    J.P.

    Morgan Investment

    Management

    Singapore. Mr.

    BruneI began his career

    at

    J.P.

    Morgan as

    a research

    analyst

    and

    has

    worked

    in

    New

    York, Tokyo,

    and

    Hong

    Kong.

    He

    is a

    graduate

    of theEcole

    des Hautes

    Etudes Commerciales

    in

    Paris and

    received

    an

    M.B.A. from

    Northwestern

    University.

    Dwight D Churchill CFA

    is

    president

    of CSI Asset

    Management, Inc., a fixed-income

    and

    equity invest-

    ment

    management

    unit of

    Prudential Insurance

    Company

    ofAmerica. Previously,Mr. Churchill

    was

    managing directorof Prudential Fixec1-IncomeAdvi-

    sors. He also was vice president

    and

    portfolio man-

    ager

    at

    Loomis Sayles

    Company

    in Detroit

    and

    bond

    portfolio manager for the Public Employees

    Retirement System ofOhio. Mr. Churchill serves

    on

    theCandidate

    Curriculum

    Committee ofthe Institute

    of Chartered Financial Analysts

    and

    on

    the AIMR

    Performance Presentation

    Standards

    Implementa-

    tion Committee.

    He

    holds a

    B

    from Denison Uni-

    versity

    and an

    M.B.A. from

    Ohio

    State University.

    Peter Davis

    is director of family business executive

    education programs

    at

    theWharton School, Univer-

    sity of Pennsylvania. He founded the family busi-

    ness programs

    at

    Wharton, the first of their kind

    at

    a

    US.

    university.

    He

    has

    worked

    as a consultant

    and

    advisor to

    many

    family businesses

    and

    family offices,

    and

    he specializes in issues

    attendant

    to the manage-

    ment of change

    and

    succession in family organiza-

    tions. Mr. Davis is a columnist for

    and

    chief

    advisor

    to

    Family

    usiness

    Magazine

    as well

    as

    an

    editor of

    Family usiness Review

    and

    a series editor for the

    Jossey ass

    Family usiness

    Series

    Mr. Davis

    was

    ed-

    ucated

    at

    Cambridge University, the London School

    of Economics,

    and

    the Wharton School.

    George

    D Friedlander is managing director of the

    High Net Worth/Retai l

    System

    at

    Smith Barney,

    Harris

    Upham

    Company.

    He

    has

    more than

    17

    years experience in municipal credit

    and

    market

    analysis

    and

    includes taxable fixed-incomesecurities

    in his

    market/portfolio

    strategy work. Mr. Fried-

    lander

    is

    a

    member of t he Publi c Secur it ie s

    Association s Municipal Division Executive Com-

    mittee.

    He was

    voted All-AmericanMunicipal Port-

    folio Strategist by the Global

    Guarantee

    newsletter

    and

    was named

    to the All-American Research Team

    by

    nstitution l nvestor

    magazine. Mr. Friedlander re-

    ceived a

    S

    in mathematics from the State Univer-

    sity of

    New

    York

    at

    Stony Brook

    and an

    M.B.A. in

    finance from Pace University.

    Frank E

    Helsom

    CFA

    is chairman

    and

    chief invest-

    ment

    officer of University InvestmentManagement,

    Inc., a subsidiary of Templeton Portfolio Advisory,

    Inc. Mr. Helsom is a former pres ident

    and

    current

    vice

    chairman

    of Templeton Investment Counsel,

    Inc.,

    which

    provides

    account

    management

    to large

    institutional investors. Previously, as a research an-

    alyst

    and

    portfoliomanager, Mr. Helsom started

    and

    managed

    the

    Midwest

    regional

    group

    for Citicorp

    Investment Management, Inc.,

    and

    also held posi-

    t ions in the investment

    management group at

    lin

    coln National Corporation.

    He

    has served as

    president

    and

    member

    ofthe

    board

    of

    directors ofthe

    InvestmentAnalysts Society ofChicago. Mr. Helsom

    holds degrees from

    Northwestern

    University

    and

    Wayne StateUniversity.

    Warren N Koontz Jr CFA

    is vice

    president and

    treasurer of The Jeffrey Company a private invest-

    ment

    firm. His responsibilities include the develop-

    ment

    and

    implementation of tax-efficient investment

    strategies for internally

    and

    externally

    managed

    eq-

    uity

    portfolios. Previously, he

    was

    assistant invest-

    ment officer for the Public Employees Retirement

    System ofOhio,

    where

    he

    managed the

    equity assets

    and

    staff.

    He

    also has been a portfolio manager,

    equity security analyst,

    and

    fixed income analyst.

    Mr. Koontz holds a

    S

    in finance

    and an

    M.B.A.

    from Ohio State University.

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    William

    R

    Levy is vice p re si de nt o f T he Glenmede

    Trust

    Company,

    where he administers the Personal

    and Institutional Accounts department. Previously

    he was assistantvice president at

    Provident

    National

    Bank r es po ns ib le for a dm in is tr at io n o f t ru st s and

    estates. He also served at Fox Rothschild O Brien

    and

    Frankel as

    an

    associate attorney specializing in

    estate and

    trust administration

    and

    estate planning.

    Mr. Levy has lectured for the Pennsylvania Bar Insti-

    tute

    and

    is a faculty member o f t he P en ns yl va ni a

    Bankers AssociationCentral Atlantic School of Trust.

    He received a b ac he lo r s d eg re e in urban studies

    f ro m T ri ni ty Col le ge and a J.D. from Dickinson

    School of Law.

    David Mead

    CFA

    is vice president

    and

    chief in-

    vestment officer of Harris Trust

    and

    Savings Bank

    where he directs the Personal Financial Services de-

    partment. Mr. Mead is a regular panelist

    on

    Sound

    of

    Business, the bank s nationally circulated

    monthly investment cassette series.

    He

    is a member

    of the Investment Committee of the Corporate fidu-

    ciaries of Chicago

    and

    the Chicago Society of Finan-

    cial Ana lyst s. Mr. M ea d r ec ei ve d B.s.

    and

    M.B.A

    degrees from the University ofSouthern California.

    H Scott Miller is portfolio managerat Miller Ander-

    son

    Sherrerd s

    Private Investor Group. Pre-

    viously he was vice president o f t he i nv es tm en t

    bankingdivision ofGoldman Sachs Company

    and

    vice p re si de nt o f t he p ri va te i nv es to r d ep ar tm en t.

    Mr. Miller is a director of Mediq Inc.

    and

    serves as

    a trustee for the Gaudino Trust Williams College.

    Mr. Miller received a B.A from Williams College

    and

    an M .B .A from th e Wharton School University of

    Pennsylvania.

    Brian A

    Murdock is vice president and senior port-

    folio manager for Merrill Lynch Asset Management.

    He specializes in global investment management

    and is a permanent member of the International

    Strategy Committee. He was executive director of

    the company s Pacific office establishing the Hong

    Kong regional office and developing global prod-

    ucts. Previously

    he

    served

    as

    financial consultant

    at

    Merrill LynchInternational serving overseas

    private

    clients. Mr. M ur do ck is a graduate of Cornell Uni-

    versity.

    JohnW Peavylll CFA is Mary Jo Vaughn-

    Rauscher Professor of

    Financial

    Investments at

    vi

    Southern Methodist University. He also is on the

    facu lty of the schoo l s Sou thwestern Graduate

    School of Banking. Mr. Peavy is research director of

    the Research Foundationof the Institute ofChartered

    Financial Analysts vice chairman of ICFA s Candi-

    date Curriculum

    Committee and executive editor of

    The

    CF

    A Digest

    He

    serves

    on

    the editorial boards of

    the Financial Analysts Journal Review of Business and

    Economic

    Research

    Mr. P ea vy h ol ds a B.B.A from

    Southern Methodist University;

    an

    M .B.A fr om t he

    Wharton School University of Pennsylvania;

    and

    a

    Ph.D. from the University of Texas

    at

    Arlington.

    Nancy C

    Smith

    CFA is vice president

    and

    portfolio

    manager of The Glenmede Trust C ompa ny . Pre-

    viously she was vice president of the Trust Division

    of P ro vi de nt N ati ona l Bank. She is a m em be r

    and

    past president of the Financial Analysts of Philadel-

    phia Inc. a

    past governor

    of the Philadelphia Secu-

    rities Association

    and

    a governor of the Association

    for Investment Management

    and

    Research. Ms.

    Smith is a member ofthe board ofdirectors of the Bell

    Atlantic MutualFunds and a trustee of theAmerican

    Red Cross. She is cochairman of AIMR s A nn ual

    Conference Committee

    and

    a member of t he board

    of the Financial Analysts Seminar. Ms. Smith holds

    a B.A from Middlebury College and

    an

    M.B.A from

    Temple University.

    Diane

    M

    Spirandelli CFA

    is vice president of Swiss

    Bank Corporation

    where

    s he is r es po ns ib le for t he

    management

    and

    marketing activities of global in-

    vestment

    and

    private banking clients. Previously

    sh e waswithWells Fargo s Private BankingDivision.

    She is a member of the San Francisco Security Ana-

    l ys ts Society. Ms. S pi ra nd el li is a

    graduate

    of the

    Oxford College of Technology Oxford England and

    the University of Washington s Pacific Coast Bank-

    ing School.

    R

    Gregg Stone is a g en era l partner o f PR Ven tu re

    Partners L.P. a venture f un d d es ig ne d a s a p ri va te

    equity investment vehicle for individuals families

    and their foundations. Mr. Stone also is a vice pres-

    ident of Pell Rudman

    Company Inc. He is a

    director of two portfolio companies and a member of

    the bo ard of ad viso rs of two p or tf ol io f un ds . Mr.

    Stone received AB.

    and

    J.D. degrees from Harvard

    University.

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    Investment

    ounsel

    for Private

    nOvelView

    John W Peavy III

    CFA

    Mary

    Jo

    Vaughn Rauscher Professor inancial

    Investments

    Southern Methodist University

    In an investment world increasingly dominated by

    institutional investors, the importance of individual

    investors can sometimes be understated. Neverthe-

    less, individuals control substantial pools of assets

    and have important investment management needs.

    Private clients are typified by a rising level of

    investment sophistication and higher performance

    expectations and demands. Beyond this general

    trend, the characteristics of

    individual

    investors

    and

    the circumstances and opportunities that confront

    them are more diverse and complex than for any

    other class of investor.

    A private client cannot be thrown in to a homo-

    geneous group

    with

    a common set of investment

    objectives, constraints, and preferences; rather, these

    individuals represent a large variety of needs. The

    challenge for an investment counselor is to identify

    the private client s needs and to manage the client s

    portfolio with those needs in mind.

    Only by

    satisfy-

    ing individual client needs can the investment coun-

    selor succeed in this diverse market.

    The focus of this

    seminar was o n

    setting long-

    term goals for wealth

    building

    and wealth transfer

    and implementing investment

    strategies

    for the

    many pools of funds an

    individual

    may have avail-

    able, including personal/family funds, retirement

    plan funds, private foundations and

    charitable

    funds. Considerable emphasis also was placed on

    how to educate and communicate with private cli-

    ents.

    Private lient haracteristics

    Beyer points out that individuals objectives change

    as the result of

    human

    elements (such as marriage,

    health, children, employment, and aging) and as the

    result ofinstitutional factors (such as decisions about

    asset selection, asset allocation, and market timing).

    Furthermore, individuals expectations are shaped

    by experience and outside events.

    Beyer presents a framework for understanding

    private client characteristics . Using a variation of

    risk-return quadrants analysis, she suggests an ap-

    proach featuring the various degrees of control and

    sophistication found among individual clients. This

    discipline allows counselors to focus

    on

    the types of

    private clients with whom they are most successful.

    For example, many counselors assume tha t mos t

    private

    clients fall into the low-sophistication/low-

    control quadrant. In this case, the assets may be

    controlled by a large t rust , represent ing a family

    interest without a family spokesperson. Because the

    client does

    not

    desire to have frequent contact

    with

    the counselor, the temptation is to leave the account

    alone. Beyer cautions that such neglect is dangerous

    because of the legal ramifications and the possibility

    that a family member of the next generationwill take

    a

    more

    active interest.

    Ignore

    the

    changing characteristicsof the private

    client at your peril. Certainly your competitors will

    not

    ignore them. Responding to change mandates

    the continuing education of the private client. The

    client will demand it, and an investment counselor

    can

    survive only

    by responding

    to this demand.

    Developing Investment Policies

    Davis relates the investment needs of private clients

    who

    have accumulated substantial wealth to the

    phases of the business growth and development life

    cycle. Each phase has different implications for asset

    management. Of obvious importance is an invest-

    ment counselor s ability to identify an individual s

    life cycle phase and to respond accordingly.

    As individuals accumulate wealth outside their

    businesses, they tend to

    respond

    differently. The

    deal makers

    want

    to take these assets and invest in

    high-risk deals. Wealth managers are concerned

    about

    the preservation

    and

    management

    of

    the

    wealth

    they have created. These individuals are the

    most

    receptive to professional money management.

    The

    company

    men and women continue to devote

    their time and attention to the business often to the

    neglect of their personal assets.

    Davis advises that investment counselors must

    be sensitive to transition issues that is, the transfer

    of wealth from one generation to another. Often the

    younger generat ions take a more pragmat ic view

  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

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    toward investing

    and

    express interest in

    risk-return

    trade-offs. At the same time, these later generations

    may havepsychological needs that require

    nurturing

    on

    the

    part

    of the counselor.

    Investment

    Strategy

    and

    sset llocation

    A wealthy client

    or

    family

    may

    envision a pool

    of

    assets as a collection of unrelated items. Miller

    ad-

    vises investment counselors to take a proactive role

    in educating their clients

    that

    a portfolio

    should

    be

    viewed as

    an

    integrated whole.

    Many

    clients have a

    large core holding in a closely

    held

    company, real

    estate, or some exotic asset. Miller argues

    that

    the

    counselor s mission

    should be

    to recognize

    that

    the

    core assets are

    part

    of

    an

    overall portfolio

    and

    to

    determine

    how

    these assets interact

    with other

    assets

    in the client s portfolio. The first

    step

    is to define the

    portfolio.

    Only then

    can the counselor effectively

    proceed to structure it.

    Private clients are

    not

    a homogeneous

    group

    according to BruneI. Given their diversity, invest-

    ment

    counselors

    should

    ask three questions to gain

    proper

    perspective:

    Who are these people?

    What do

    they need?

    What

    are they looking for?

    asking these quest ions, the counselor will

    discover each client s

    unique

    goals

    and

    needs. Only

    after hearing the answers to these quest ions

    and

    identifying the client s key characteristics can the

    counselor proceed to

    make

    asset allocation recom-

    mendations. BruneI advises that a portfolio for a

    specific person should reflect four

    factors-taxabil-

    ity, portfolio context, income needs,

    and

    multiple

    requirements.

    servicing the

    Private

    Client

    Servicingprivate clientsentails a

    myriad

    ofactivities.

    According toMurdock, investment counselors

    must

    be responsive to the distinctive needs

    of

    this special

    type of client. Importantly, the private client is not

    tobe confused

    with

    the institutional investor. Murd-

    ock discusses the several key traits

    that

    differentiate

    these types of clients.

    He

    emphasizes that with pri-

    vate clients, the relationship is paramount. Main-

    taining successful relationships requires

    an

    invest-

    ment counselor to be flexible, demonstrate personal-

    ity, communicate proactively, educate clients,

    show

    conviction

    and

    precision,

    and

    ofcourse, make

    money

    for the client.

    Mead maintains that

    private

    clients are espe-

    cially sensitive to interpersonal relationships

    with

    their investment counselors. Because private clients

    2

    are

    not

    all alike, a counselor

    must respond

    to each

    uniquely. Mead provides a general framework for

    classifying private clients into

    broad groups

    accord-

    ing

    to their special needs

    and

    preferences; these

    groups

    inc lude the

    ultrawealthy;

    the

    unsophisti-

    cated;

    the

    high-income, new-money investors;

    and

    entrepreneurs.

    He

    advises counselors to keep com-

    municating with

    their clients, especially

    during

    the

    tough

    times.

    Helsom

    contends that counselors

    must

    care for

    their clients welfare, help

    them

    achieve their stated

    goals,

    and

    charge a reasonable fee.

    He

    discusses the

    advantages

    and

    disadvantagesof themajor

    products

    available

    to

    individual

    investors

    mutual

    funds,

    commingled

    funds,

    and

    individually

    managed

    port-

    folios).

    He

    also addresses the several factors that are

    most important

    in the private client market, pointing

    out that

    these factors are

    not what

    most counselors

    think they

    are. For example, most portfolio manag-

    ers

    focus

    on

    cost

    and

    performance; according to

    Helsom, however,

    most

    private clients place higher

    priority

    on

    their personal relationships

    with

    their

    managers.

    Special ssets for Private

    Clients

    People often think of domestic corporate stocks

    and

    bonds as

    the major components, if

    not

    the sole com-

    ponents, of individual portfolios. Individuals, how-

    ever, also need to diversify their holdings. Three

    presentations describe possiblecandidates for diver-

    sifying

    investments-municipal

    bonds,

    venture

    cap-

    ital,

    and

    international investments.

    Municipal

    onds

    Because of the tax advantages

    and

    the huge size

    of the municipal

    bond

    market (about 1.3 trillion),

    Friedlander emphasizes the usefulness of these as-

    sets in private client portfolios. According to Fried-

    lander,

    knowledge

    of

    important

    supplyand demand

    factors is crucial to

    understanding

    these securities.

    In recent years, tax reform has

    had

    a substantial

    impact

    on

    municipal bonds. As tax rates move

    up

    and

    down

    so does the

    demand

    for municipal bonds.

    The

    growth

    in

    ownership by

    households-and

    the

    virtual

    disappearance of two

    former large markets

    for thesebonds, namelycommercial banks

    and

    prop-

    erty/ casualty insurance

    companies-also

    have

    had

    a large effect

    on

    demand. Other influential factors

    include the substantial size of

    new

    municipal issues

    (an estimated 230 billion annually), the extraordi-

    nary

    collapse in short-term interest rates, the reduc-

    tion in existing

    bond supply

    because of the calling of

    many outstanding

    bonds, the

    growth

    of municipal

    bond

    funds,

    and

    the

    changing yield relationship be-

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    tween taxable

    an d

    nontaxable bonds. Friedlander

    also delves into other important considerations af-

    fecting

    municipal bonds including

    recent

    credit

    trends

    portfolio considerations,

    an d t he c ur re nt

    market environment.

    Venture apital

    Venture capital is private equity capital

    used

    to

    finance the

    growth

    or acquisition of businesses. Ac-

    cording to Stone, most private investors

    know

    little

    about

    venture capital . This is a difficul t market in

    which to participate because only

    about 15

    advisors

    control between

    6 an d 7

    percen t of the dollars

    invested in new venture capital opportunities. Be

    ginning

    with

    the history of

    venture

    financing, Stone

    presents information

    designed

    to enable counselors

    to assist thei r p rivate clients in

    making

    informed

    decisions about investing in this asset class. For ex-

    ample, venture financing occurs in cycles,

    an d

    the

    pricing

    an d

    values

    vary

    greatly

    depending on

    the

    phase

    of the cycle. Stone points

    ou t that

    certain

    common characteristics distinguish this asset from

    the more traditional assets. These features include

    long-term time horizon, illiquidity, pay-off

    through

    capital appreciation,

    an d

    gradual

    call

    an d

    return

    of

    capital.

    He

    cautions

    that venture

    capital investing is

    not suitable for every investor; accordingly, invest-

    ment counselors should provide their clients with

    sufficient knowledgebefore

    recommending

    this type

    of investment.

    Intemationallnvestments

    Spirandelli comments that international invest-

    ing is often described as nontraditional,

    bu t

    this is a

    misnomer. Given that the comfort level with inter-

    national investing is

    no t

    very high, Spirandelli

    sum-

    marizes the key challenges confronting investment

    counselors to domestic private clients, including ed-

    ucating them

    on

    the benefits of diversifying interna-

    tionally, determining the most suitableglobal invest-

    ment approach,

    an d

    satisfying

    th e

    special needs of

    U clients

    with

    respect to foreign invest ing. She

    contends that,

    with

    few exceptions,

    investors

    should hold some assets in this important group.

    Themost

    appropriate

    international

    exposure

    for

    an y

    given client's portfolio

    d ep en ds o n t ha t

    client's risk

    tolerance level

    an d

    preferences. As

    an

    illustration,

    Spirandelli provides asset mix suggestions

    fo r

    four

    different types of private clients, ranging from a con-

    servative investor to a more aggress ive one. She

    concludes by encouraging private investment in in-

    ternational assets. The challenges there are real, bu t

    not insurmountable,

    an d

    the client is likely to

    be

    pleased

    with

    the results over time.

    Understanding Legal and Tax onstraints

    Koontz asks, Why is so little attention

    paid

    to the

    effect of taxes

    on

    portfolio returns

    an d

    strategies?

    He

    contends that b y n ot having

    much

    of a taxable

    vocabulary, investment counselors are

    no t

    best serv-

    ing their private clients. Koontz's presentation pro-

    vides

    th e

    incentive to

    build

    a better taxable vocabu-

    lary

    an d

    to review investment strategies that can

    mitigate the tax bite.

    The capital gains tax,

    dividend

    tax, alternative

    minimum

    tax,

    an d

    state

    an d

    local taxes can affect

    net

    investment returns. Koontz discusses each in

    an

    investment

    context.

    Several strategies can help minimize the impact

    of

    taxes.

    Among them

    are semipassive strategies, the

    realization

    of

    losses, interportfolio swaps,

    an d

    over-

    lay strategies. Koontz

    adds

    that

    many

    of these tech-

    niques can

    be used

    simultaneously to optimize

    an

    individual s

    tax situation.

    state Planning and haritable Giving

    The accumulation of large

    amounts

    ofwealth makes

    estate planning

    an d

    charitable giving a necessity for

    the private client. A successful counselor

    must

    be

    responsive to these needs. Levy discusses three as-

    pects ofestate planning

    an d

    charitable giving: estate

    planning tools designed to reduce

    or

    defer tax liabil-

    ity,

    methods

    for creating pools of funds using life-

    time gifts to avoid tax liability,

    an d ways

    to establish

    charitable trusts to

    provide

    benefitsboth tothe

    donor

    an d

    to the charity.

    Levy offers a case

    study

    to illustrate specific

    ways

    to benefit from estate planning. Thesebenefits

    der ive from the

    us e

    of some combinat ion of four

    weapons

    against estate taxes:

    The unified credit exemption that pro-

    tects transfers

    up

    to 600,000.

    The unlimited marital deduction

    that

    al-

    lows for tax-exempt transfers between

    spouses.

    The

    annual

    gift tax exemption that per-

    mits

    an y

    individual to pass

    up

    to 10,000

    to

    another

    individual tax-free.

    The charitable deduction, which can be

    used

    to reduce estate taxes.

    Lifetime gifts also can serve as effective estate tax

    weapons. particular, the 10,000

    annual

    exclusion

    allows for tax-free transfers. addition, the use of

    split-interest trusts can provide the opportunity to

    leverage a gift. Levy also discusses the tax advan-

    tages of charitable giving

    through

    such alternatives

    as

    outright gifts of cash

    or

    properties, split-interest

    charitable trusts,

    an d

    private foundations.

    3

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    ase tu y in sset llocation

    In recognition that each private clientis unique, sem-

    inar participants

    were

    asked to

    address

    five specific

    case studies, each designed to provide a hands-on

    example ofportfolioconstruction for a privateclient.

    These exercises review the entire portfolio manage-

    ment

    process-an

    integrated, consistent set of steps

    by

    which a counselor creates and maintains

    appro-

    priate combinations

    of investment

    assets.

    The

    Ramez family case and corresponding guideline an-

    swer is reproduced in these proceedings to illustrate

    theuseof theportfolio

    management

    process to arrive

    at the best recommendation for a specific client s

    needs

    and

    objectives.

    The case emphasizes the importance of the port-

    folio

    management

    process, beginning

    with the

    cre-

    ation of

    an

    investment policy statement. The policy

    statement identifies crucial issues pertaining to in-

    vestor objectives, constraints,

    and

    preferences. The

    next step is to formulate appropriate investment

    strategies

    and

    then

    implement them by

    selecting the

    optimal combination of assets. The case

    study

    also

    reveals the importance of monitoring market condi-

    tions, asset values,

    and the individual s

    circum-

    stances

    and

    adjusting the portfolio to reflect signifi-

    cant changes in

    any

    of the relevant factors.

    Performance Presentation

    Churchill observes that the AIMR Performance Pre-

    sentationStandards are thefirst major initiativeto try

    to achieve consistency

    and

    full disclosure in

    theway

    investment managers report their performance re-

    sults. The emphasis is

    on

    performance present tion

    rather than performance me surement Considerable

    flexibility exists in the calculation of results;

    how-

    ever, less flexibility occurs in the presentation of the

    results.

    To comply with the

    standards,

    a

    manager must

    subscribe to

    and

    follow certain

    mandatory

    require-

    ments

    and

    make certain

    mandatory

    disclosures.

    At

    the forefront of the

    mandatory

    requirements is the

    performance composite, which is the aggregation of

    the performances of several portfolios into a single

    number

    designed tobe representative ofa particular

    strategy. All actual, fee-paying, discretionary port-

    folios for a particular strategy

    must be

    included in a

    composite. The performance of a representative

    account can be

    presented

    only as

    supplemental

    in-

    formation. The

    standards

    impose

    other mandatory

    requirements as well. Results

    must

    be calculated

    using a time-weighted rate of

    return

    using a mini-

    mum ofquarterly valuation (monthlypreferred) and

    geometric linking of period returns. Within a com-

    posite, the portfolios

    must

    be weighted

    by

    account

    size.

    Annual

    returns

    must be

    presented

    at

    a mini-

    mum

    for all years. Finally, the inclusion of cash

    and

    cash equivalents in composite returns is required.

    The

    standards

    specify that certain

    mandatory

    disclosures be

    provided

    as supplemental informa-

    tion to the composite. These disclosures cover a

    multitude of

    topics and are designed to clarify the

    presentation of results. Finally, the

    standards

    dis-

    cuss verification of results

    and

    risk

    measurement

    issues. Churchill concludes that the standards exist

    to

    provide

    better communication of results, better

    understanding

    of results, and full disclosure about

    how

    results are computed.

    seminar Theme

    A

    common

    thread

    among

    the presentations in this

    proceedings is

    that

    private clients come in all shapes

    and

    forms. Each client is different

    and

    has unique

    objectives, needs, and preferences. To

    be

    successful

    in this

    dynamic

    market, investment counselors

    must

    be able to identify and

    respond

    to the diverse needs

    ofthese clients. Tofocus solely

    on

    performance is not

    enough. Private clients expect

    and demand

    more.

    These presentations offer valuable information

    on how

    best to

    work with

    private clients. Clearly,

    this

    market

    is

    substantial

    and ever-changing-a

    combination

    that

    offersmeaningful opportunities to

    responsive investment counselors.

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    Understanding Private

    Client Characteristics

    Charlotte eyer

    President

    Charlotte

    eyer

    ssociates

    The characteristics and expectationsof private clients are alwayschanging,

    and

    the truths

    that applied to this marketyesterday are only

    myths

    today. Advisors need to tailor their

    methods of approaching and servicing these clients to each client's current needs and

    perspectives.

    Today s

    private

    clients

    are different from

    yesterday's, and tomorrow s will differ even more.

    Today's clients are far more sophisticated. They

    are

    willing to shop

    for-and

    expect more from-an in-

    vestment manager.

    Myths of

    the High Net Worth Marketplace

    Many notionsof the private investorare reallymyths

    that should be discarded. Managers who still em-

    brace these old beliefs wi11lose prospects

    and

    clients

    to those managers

    who understand today s private

    client.

    Myth

    1:

    Performance is not important

    I have

    yet to hear anyone say he or she hired a manager

    despite themanager's questionable investment track

    record. Private clients want advisors to do a good

    job, and that means performance. Of course, good

    performance for one client may not be good perfor-

    mance for another. Good performance should be

    defined in terms of time frames, inflation, willing-

    ness to lose money in a given year

    or

    quarter,

    and

    particularly tax sensitivity. Yet few advisors ask cli-

    ents about these parameters. Clients

    want

    to beat the

    S P

    500,

    but how

    will

    they

    feel if

    the

    S P500 is

    down

    12 percentand the advisorbeatsthe S P500by being

    down 7 percent?

    Some advisors pick a point on the efficient fron-

    tier to identify their clients' risk tolerance. Thatis like

    taking driving classes bu t

    never

    leaving the class-

    room to drive on the road. One

    way

    to get a t their

    actual risk tolerance is to

    layout

    each scenario pre-

    cisely, perhaps using a matr ix to show real dollars

    gained or lost in varying market conditions

    and

    with

    varying asset allocation mixes. This is how you dis-

    cover a client's real comfort level.

    Why

    do

    so

    few

    managers

    do this? Because

    most

    believe they do not

    have to.

    Myth

    2: The

    privateclient

    market is less compet

    itive than

    the

    institutionalmarket The high-net-worth

    market is far more competitive than anybody ever

    imagined. The United States has

    more

    than 20,000

    registered investment advisors today, compared

    with fewer than 6,000 in 1980. Many of the 80,000-

    plus brokers in theUnited Statessell exactlywhat the

    advisors do-peace

    of mind that comes from know-

    ing

    an

    expert is interested in

    and

    capable of manag-

    ing a client's assets. Brokers are teaching clients the

    meaning

    of

    words

    like

    risk-return

    trade-off and

    benchmarks. Many advisors arenot doing this,

    however , because they believe client education is

    unnecessary.

    Myth 3: The private client market is not as

    demanding as the institutional market Consider the

    following example of the demands encountered in

    the high-net-worth market: Three investment firms

    were asked to make a presentat ion to a couple who

    had recently established a charitable remainder an-

    nuity trust with a 1 percent payout (in a 3 percent

    interest rate environment) that had been drawn up

    by

    a trusted personal

    advisor

    to the family, an ac-

    countant/attorney.

    Should the investment advisors

    ment ion the unrealistic payout? Should they de-

    scribe the risk of meeting such a payout or merely

    explain how they would

    manage

    that portfolio with

    that goal in mind?

    Myth 4: Service is more important

    than

    any

    thing else

    an

    advisor

    clings to this idea, the orga-

    nization is probably burdened with too many people

    responding to too many unreasonable and irrational

    requests. Many advisors believe they must spend a

    lot of time talking with their clients, entertaining

    5

  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

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  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

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    cation, or level of investment education

    or

    experi-

    ence. accurately analyzing clients, advisors will

    not waste time

    bu t

    will focus on the types of private

    clients

    with

    whom

    they aremost successful. Are you

    poor a t

    educating? Are you impat ient with clients

    who need

    to control,

    at

    least initially? Are

    you

    hesi-

    tant to address delicate family issues

    and

    confronta-

    tions?

    The low-sophistication-high-control quadrant

    in the

    lower

    right panel of Figure 1 is where many of

    the most frustrating prospects

    fall-the

    family with

    one

    holding

    of low-cost stock, for example. To quote

    onemanager, I have tried for five years to teach this

    family group the importance of diversification but

    with no success. This iswhereother pools of capital

    come in, smaller pools-trusts for grandchildren or

    private foundations. Client education iseasier

    when

    working

    on a smaller trust or a foundation. The need

    for tight control (motivated

    no doubt by

    fear) is less

    because of the smaller dol lar amount; the cl ient is

    more willing to let goof the reins. That is the begin-

    ning of a relationship with potential for growth.

    The low-sophistication-low-control

    quadrant

    shown in the lower lef t panel of the figure is

    where

    so

    many

    investment firms assume their clients fall.

    A large trust may control the bulk of the assets, and

    i t often represents a widow or a family group with-

    out an interested spokesperson. Here the key objec-

    tive

    may

    be income level, and the client may not

    express interest in meeting with the advisor too

    often. The temptation is to leave well

    enough

    alone,

    bu t

    if

    an

    in-law

    or

    a member of the next generation

    iseager to learn more, you ignore that person at your

    peril. these people learn without you, they have

    aftertax returns.

    1

    This is a major issue right now.

    More investors today are capable of distinguishing

    their different pools of capital,

    and

    they expect their

    advisors to

    respond accordingly. Fidelity recently

    introduced a chari table gift fund that has already

    attracted 10 million

    with about

    a 2 percent fee,

    and

    i t has

    not

    even started marketing it.

    Individual objectives change every day,

    and

    so

    do

    the pools of capital. How many people 20 years

    ago knew

    anything

    about defined-contribution

    plans? Today, many clients

    and

    prospects not only

    are participants in such a plan

    but

    also think about

    which fund to try

    and

    whether they should try to

    time

    the

    market. This is an

    enormous

    change and a

    very different pool of capital than many advisors are

    used to working with.

    One more change is the number of cl ients in-

    volved in philanthropy. they are appointed to a

    hospital

    board or

    a

    museum board, suddenly two

    n w pools of capital

    are

    created-not

    only the

    museum s or hospital's endowment but possibly

    alsoa pooled-income giftto thatmuseum or hospital.

    Who can keep up with all ofthis? You will , ifyou are

    the investment counselor.

    Working with the

    Private Client

    Not every excellent

    investment

    advisor is a

    good

    counselor. An honest acknowledgment of your

    own

    skill

    might point

    you toward

    working with

    interme-

    diaries

    who

    perform the counseling

    and

    leave

    the

    portfolio management to you. Successful fi rms are

    figuring this

    ou t

    and adjusting their public contacts

    accordingly. Whether you are more comfortable as

    a manager or a counselor, you must understand the

    characteristics of the private client market.

    I am often asked,

    What

    is the secret to this

    market? I believe there is no secret-and th t is the

    secret. Success comes to those

    who

    analyze most

    astutely what is occurring in the process ofwork-

    ing with prospects

    and

    clients.

    accurately analyz-

    ing private clients, advisors

    do

    a better job of attract-

    ing the right client for their firms,

    and

    they keep the

    clients they have.

    The four quadrants in

    igure

    illustrate a frame-

    work

    for

    understanding private

    client characteris-

    tics. It is a var iation on the risk-return quadrants.

    The

    x xis

    is a continuum of control.

    How

    much

    control does the individual currently want to exert

    with an investment manager? This changes over

    time and canchangedramaticallybetween thebegin-

    ning of a client-advisor relationship

    and

    the

    end

    of

    the first year. The y xis is a continuum of sophisti-

    lSeeMr. Koontz's presentation, pp. 65-70.

    Figure

    Quadrants

    of Control and Sophistication

    Sophistication

    High

    Control

    Low

    Low

    High

    7

  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

    16/106

    Thanks

    to demographics, the press, investmentmar-

    kets,

    an array

    of investment products,

    and

    the prolif-

    eration of investment advisors, the private client is a

    very

    different species

    than

    even four yearsago. Cap-

    italizing

    on

    these changes requires considerablecon-

    tinuing education. Your clients will

    demand

    it,

    and

    your

    business will

    depend

    on it. In the

    words

    of Sir

    William Osler, a 19th-century Canadian pioneer in

    medicine, The best

    preparation

    for

    tomorrow

    is to

    do

    today s work

    superbly well.

    ship

    in 1992, and the findings are revealing.

    Of

    inter-

    est to marketing people,

    8

    percent

    of

    the institute's

    membership recommended

    their

    advisors to

    a

    friend, and 6 percentrelyon personal referral to find

    an

    advisor. Clients have friends,

    and your

    clients

    enjoy learning from

    you

    and

    the time they

    spend

    with

    you, they

    may

    recommend

    you

    to a friend.

    Fifty-two percent of respondents

    plan

    to

    add

    a

    manager

    this year. Granted, this is the h igh

    end

    of

    the

    market-people with

    10 million and more, but

    the results are probably

    true

    for

    other parts

    of the

    market

    as well. Also, however, 84 percent have fired

    a

    manager during

    the past five years, and nearly a

    third

    of the institute's members

    plan

    to fire a man-

    ager

    this year.

    onclusion

    TheInstitutefor Private Investors polled its member-

    probably found one of

    your

    competitors to teach

    them.

    The high-sophistication-Iow-control

    quadrant

    shown in the upper left panel of the figure contains

    those families that

    most

    resemble the institutional

    market. This is a family

    or

    individual

    who knows

    enough about

    investing to acknowledge that they

    should not overcontrol the process. They are looking

    for professionals. They relate well to

    benchmarks

    and

    asset allocation discussions, and they

    want

    to

    talk about

    specific characteristics of their portfolios

    and what

    performance

    might

    be expected in differ-

    ent types ofmarkets.

    Finally,

    the high-sophistication-high-control

    quadrant (upper

    right panel) is

    where you

    find Mon-

    day-morning quarterbacks. Clients in this

    quadrant

    _

    are likely to

    have

    personal

    computers

    tracking and

    analyzing the purchase price of

    every

    security their

    advisors buy. Advisors need to be

    aware

    of this,

    or

    they can be blindsided by such questions as, Why

    do you

    always

    buy at

    the top? This

    high

    need for

    control eases dramatically

    the first year is filled

    with

    education

    and

    continued questioning

    on needs

    and

    goals.

    esearch esults

    8

  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

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    Question and nswer Session

    Charlotte Beyer

    Question What is a reasonable

    number of client accounts a port-

    folio manager can service ade-

    quately?

    Beyer I cannot give you a num-

    ber because I have seen success-

    ful firms at both ends of the spec-

    trum. The number depends on

    the support staff. Firms that have

    higher client loads

    must

    have ex-

    traordinary staff and marketing

    support that

    prepares

    the materi-

    als so that

    when

    they

    meet with

    clients, they

    do

    not have to create

    the material from scratch. They

    also must have support people

    who can take over many of the

    telephone calls. I know one firm

    struggling because the increas-

    ingly sophisticated private client

    is demanding so much more.

    This firm has 6 or 7 clients per

    manager, and it is losing

    ground

    because it does not have the nec-

    essary support.

    Question Will the consultant

    market become as saturated as

    the manager market is now?

    Beyer I believe the consultant

    market is in its

    infancy-accoun-

    tants, attorneys,

    and

    tax advisors

    or planners are all interested.

    Also, some pension consultants

    are changing their stripes

    and

    be-

    coming private investor consul-

    tants. Nevertheless, many people

    still have not figured out how to

    analyze the private client situa-

    tion. This is what I

    am

    told by

    private investors

    who

    are dissatis-

    fied or frustrated

    with

    trying to

    find someone to help them

    through this maze.

    Question Are you aware of the

    Sanford Bernstein 1992 study on

    themoney management indus-

    try? How

    do

    you reconcile your

    position with its finding that the

    private

    money manager client

    puts performance near the bot-

    tom of the list ofmanager qualifi-

    cations this year? Also, what is

    your

    assessment of the

    study

    that

    says confidentiality, reputation,

    service, and so forth come before

    performance?

    Beyer

    I believe that

    very

    often

    buying behavior can be different

    from

    what

    private clients say.

    Therefore,

    when

    doing a

    study

    and asking people

    why

    they

    hired a particular firm, they may

    say what they think is rat ional. I

    have never met a prospectivecli

    ent

    who

    did

    not ask

    about

    perfor-

    mance. How much

    you

    tell them,

    in what level of detail, and how

    appropriate i t is to their situa-

    tions is another story. As for con-

    fidentiality, all private investors

    assume that is part of the arrange-

    ment. Perhaps that

    study s

    find-

    ings reflect the sample used,

    which

    included

    smaller, perhaps

    less-sophisticated investors, who

    were paid to respond.

    Question What are the key rea-

    sons managers are fired?

    Beyer My experience in the

    field-and

    research is confirming

    t s

    that, although you may be

    hired for performance,

    when

    you

    are fired, it is because of service.

    People have said repeatedly, We

    fired a manager because we were

    tearing

    our

    hair

    ou t

    one quarter

    too

    many

    trying to get the infor-

    mation we wanted and being ig-

    nored. So we fired him; we felt

    we

    could always find another ad-

    visor

    who

    could give us middle-

    of-the-road returns

    and

    not have

    to put up with the poor communi-

    cation./I Typically, advisors are

    fired for poor service, which sup-

    ports the thesis of four years ago

    that a relationship is

    what

    people

    seek once they are clients. Ignor-

    ing performance is a mistake,

    however. Somemanagers brag to

    me that they v r show their pri-

    vate investors their performance.

    I think they are asking for t rou-

    ble.

    Question You stated that advi-

    sors

    and

    counselors

    may not

    be

    the same. Do you bel ieve it is un-

    important for a private client to

    know the person making the

    money management decisions

    i.e., the actual portfolio manager)

    if a good intermediary can pro-

    vide the warm, fuzzy feeling?/I

    Beyer Remember those quad-

    rants illustrating different private

    client characteristics. Some cli-

    ents will not accept not meeting

    the

    person who buys or

    sells the

    securities in their portfolios, but

    many people can recognize the di-

    vision between the manufactur-

    ing, the distribution, and the ser-

    vicing aspect ofa product. Some

    firms have successfully combined

    these functions into one person

    or

    several people. Not every client,

    however, insists on

    knowing

    the

    portfolio manager and meeting

    with him all the time. t depends

    on how sophisticated they are

    and how professional the service

    contact is.

    Question 63 percent of cli-

    ents use referrals to find

    an

    advi-

    sor,

    what

    does this say about the

    role of professional marketing?

    Beyer t says that they ask a

    friend and next they contact the

    firm. Then, marketing can make

  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

    18/106

    a difference.

    One

    member of the

    institute wanted to place 5 mil-

    lion with

    an

    international man-

    ager. The member talked to

    friends

    and

    called 37 firms

    but

    also used a directory. It was

    amazing

    how

    poorly this person

    was handled by the majority of

    those firms. Many advisors did

    not

    know

    what to

    do with that

    cold call. So themarketing pro-

    fessional is important internally

    when

    a portfolio manager's client

    says, I want to send Jane Doe in.

    She is a friend ofmine, she has

    some money, and

    she

    wants

    to

    talk to

    you

    about managing it.

    The analysis before Jane Doe ar-

    rives the

    work

    on what you will

    show her,

    what

    you will

    not

    show

    her,

    and

    how the process will

    be

    managed is

    critical. Most port-

    folio managers

    do

    not have time

    to

    do

    this type

    of

    analysis. Thus,

    they do a standard Hello. Let

    me tell you

    about

    the firm for an

    hour or so,

    and

    they often lose

    the opportunity to gain a new cli-

    ent. In some cases they do not

    even follow up. They have the

    meeting, Jane Doe comes in,

    hears about the firm,

    and

    maybe

    gets a letter,

    but

    then there is

    no

    meaningful follow up. Jane Doe

    may have decided not to do any-

    thing for six months,

    but

    often

    the marketing professional is the

    only one in the firm

    who

    will

    keep

    her

    informed, maybe have

    lunch with her

    or

    see her three

    or

    four months down the road, and

    talk about

    how

    well she is com-

    ing along

    with

    her search for an

    investment advisor. The market-

    ing professional is the person

    who brings analysis of every situ-

    ation to the fore.

    Question Do

    you

    think wrap

    fees are too expensive?

    eyer Yes,

    bu t

    participating

    brokers will tell you the fees are

    coming

    down.

    Market forces are

    bringing them down. Although

    many

    of the big firms

    do not pub

    licly say they will negotiate re-

    duced

    fees,

    that

    is

    what

    they

    are

    doing. The broker makes a little

    less money on

    it,

    bu t

    consider the

    mutual

    funds' load fees. They

    used to get 8 to 10 percent, bu t

    those percentages have been ne-

    gotiated and brought down by

    the market.

    Question

    Are fee levels import-

    ant?

    eyer

    No. This does not seem

    to

    be

    a very fee-sensitive business

    yet.

    When

    I

    worked

    in invest-

    ment firms, however, my col-

    leagues discussed fees in such a

    way that it turned off the prospec-

    tive client,

    or

    they

    would argue

    with clients about increasing fees.

    What is

    important

    is the

    way

    fee

    levels

    are

    discussed and de-

    scribed. the process of explain-

    ing your firm has been

    done

    too

    routinely and predictably, when

    you

    get to fees, people will say,

    That is sort ofhigh. Another

    firm

    we

    spoke

    with

    charges less

    than

    that. Now at last, price is a

    topic they feel qualified to discuss

    with you.

    from the beginning

    your

    presentations are lively give-

    and-take

    about

    what they want

    their money to do, fees will be

    an

    afterthought, because you will

    have them signed up before

    you

    even mention fees.

    Question

    Please discuss your

    views

    on

    the ability of large orga-

    nizations, such as trust depart-

    ments, versus smaller investment

    counseling firms to serve private

    clients.

    eyer I believe both are

    equally capable. The question is

    how well

    an

    organization man-

    ages the process. To the extent

    that

    a firm has capable leaders

    and professionals who are analyz-

    ing the process of selling

    and

    ser-

    vicing, the firm will be successful

    with

    private clients.

    Question Given the changes in

    the character of the private client

    market, do you see more ofa will-

    ingness

    or

    demand for interna-

    tional investing? Also, is there a

    trend

    toward

    more

    than one

    advi-

    sor, such as in the pension world,

    which uses specialty advisors?

    eyer Only 8 percent of the

    institute's members' assets

    were

    diversified overseas as of mid-

    1992, but virtually three-quarters

    of

    our

    members said they are

    looking at international invest-

    ments. So

    of

    the more than half

    of our members planning to hire

    managers, practically all are look-

    ing at international

    or

    global in-

    vestment advisors.

    In response to the trend to-

    ward

    multimanagers,

    on

    average

    institutemembers use five manag-

    ers, but that does not mean a

    large

    bank or

    a large firm cannot

    implement a multistrategy ap-

    proach. Tad Jeffrey wrote

    an

    arti-

    cle

    about

    having too manl portfo-

    lio managers in the stew. This

    was

    a compelling

    argument

    for

    having one firm implement a

    multistrategy approach rather

    than hiring several different

    firms. You can argue this both

    ways. The trend

    may

    stem from

    a dearth of ideas or new sugges-

    tions coming from the one firm

    clients currently are using.

    lRobert H. Jeffrey, Do Clients Need

    Many Portfolio Managers? ournal of

    Portfolio anagement(Fall 1991l:13-19.

  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

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    Investment Planning for

    ntrepreneurs

    Peter avis

    irectorof

    Family

    usiness Executive Education Programs

    Wharton

    School

    University

    of

    Pennsylvania

    As a group entrepreneurs provide a unique set of challenges to investment advisors.

    Because they harbor psychological resistance to dealing

    with

    such threatening issues as

    estate planning advisors must demonstrate great communications skills exercised in a

    context of trust.

    Private

    clients as individuals

    an d

    as families pres

    ent some unique challenges to investment advisors.

    The financial issues ar e frequently

    complex-a

    we b

    of intermingled concerns about business strategy

    estate

    an d

    tax planning organization

    an d

    succession

    planning

    an d

    perhaps most significantly personal

    psychology.

    A good scare is worth a

    pound

    of advice. Wecan

    talk until we are blue in the face about such issues as

    estate planning

    bu t

    we will notmake much progress

    until these clients realize some tangible consequence

    for

    no t making decisions.

    Entrepreneurs an d

    wealthy individuals usually strongly resist dealing

    with change in their personal lives. Yet good finan

    cial planning requires anticipating

    an d

    planning for

    change. This deep psychological resistance to deal

    ing with such threatening issues as estate planning

    or gifts tothe children can be overcome onlyby great

    communications skills exercised in the context of

    trust. Entrepreneurs as a group provide a

    unique

    set

    of challenges to

    an

    investment advisor.

    The ntrepreneurial Psyche

    For most entrepreneurs the concerns of investment

    advisors fit into their priorit ies in a secondary way.

    As I talk to founders an d entrepreneurs about tran

    sitions they want to talk about their children their

    businesses an d their strategies bu t they do

    no t

    want

    to talk about managing their money. They make a

    distinction between wealth creation

    which

    is what

    they do an d wealth preservation which is

    what

    the

    investment advisor does. In good years the success

    ful entrepreneurs have seen their corporate equity

    grow more than percent a year. Thus they do

    no t

    ge t

    too excited when the

    advisor

    is talking 7 percent

    as opposed to 6 percent. They have also m ad e b ad

    investment

    mistakes in the past because they have

    n ev er h a d the t ime to take investing ser iously

    an d

    friends have given them a tip that performed disas

    trously. At base they do no t trust investments they

    cannot control.

    For most entrepreneurs wealth preservation is a

    reactive process. they make a lot of money they

    pu t some away.

    they get scared over their ow n

    mortality they pu t some more away. They draw

    money down in

    large

    amounts

    to

    fund

    their

    pe t

    projects. Most good entrepreneurs

    do

    no t look after

    their money because deep

    down

    they feel they could

    always make more. Yet as we all know sometimes

    looking after your money is important. Throughout

    their lifetimes entrepreneurs build businesses. The

    businesses develop net worth which remains highly

    illiquid an d the

    entrepreneurs

    develop personal as

    sets mostly real estate. They also develop personal

    liquidity although no t much. They develop signifi

    cant debts in some phases of th e life cycle including

    personal debt an d obligations to support their busi

    nesses

    and

    corporate debts to finance growth. In

    other words

    they

    have many

    financial pockets cor

    porate an d personal and how these fit together is

    important. Looking after their money is o n e p ar t of

    the puzzle bu t entrepreneurs rarely stop to analyze

    the total financial picture an d look

    at

    the manage

    ment of personal l iquid assets in the context of an

    overall financial plan.

    A recent experience illustrates the importanceof

    evaluating an entrepreneur s total financial position.

    A founder died very suddenly in his early sixties.

    Because h e h a d been a healthy man he had done very

  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

    20/106

    little in the

    wa y

    of es ta te planning. The chi ld ren

    bought the operating business from the founder be-

    fore his death. They

    paid

    little for it because they

    assumed

    the

    company s debt would

    reduce the

    ne t

    worth to precious little. More

    than

    200 million

    worth

    of real estate

    was

    placed in the trust, together

    with

    5

    million cash. Thevalue of the real estate

    wa s

    dependent on

    the performance ofthe operating com-

    pany. The children operat ing the company were

    under

    the

    gu n

    from the banks,

    which wanted

    to see

    better performance an d more collateral. The

    trust

    only

    ha d 5

    million, however,

    an d

    the trustees

    ha d

    to

    worry about

    the

    widow

    an d

    other

    financial con-

    tingencies. The trust

    ha d

    to

    draw th e

    line

    on

    lending

    to

    t he op er at in g c omp any w hi ch h ad n o other

    sources of capital.

    The situation was interesting because it involved

    a growing adversarial relationship

    among

    trustees,

    the family

    members running

    the

    company an d th e

    banks. Clearly, the estate

    wa s no t

    sufficiently liquid.

    The founder could

    no t

    afford to die in a

    down

    mar-

    ket. Perhaps the problem could have been solved

    by

    life insurance. Perhaps it could have been solved

    by

    a carefully built pool of l iquid assets sufficient to

    keep the overall portfolio (business assets, business

    debt, personal assets, personal debt, tax liabilities,

    an d

    so forth) in better liquidity balance.

    Entrepreneurs

    badly

    need comprehensive finan-

    cial planning that

    subsumes

    corporate

    an d

    personal

    resources

    an d

    needs, as well

    as

    future liabilities.

    They probably find this service

    hard

    to

    ge t

    because

    the service providers offer a fr agmented view of

    what

    they need. Insurance brokers offer an insur-

    ance view, accountants offer an income statement

    view,

    an d

    investmentadvisors just

    want

    to carve

    ou t

    a piece of it (the l iquid piece)

    an d

    hold it in a fund.

    The

    new opportunity

    is in a more comprehensive

    approach that looks

    at

    investment opportunities in a

    broader

    context

    an d

    establishes investment goals ac-

    cordingly.

    Ho w

    can

    we

    get an entrepreneur to listen

    and

    not feel that these approaches are too expensive,

    boring,

    or

    constraining? This is th e challenge.

    Five Phases

    of

    usiness

    evelopment

    Investment advisors considering the entrepreneurial

    market mustlookat investmentadvice in the

    broader

    context of a client's total financial needs,

    much

    of

    which is built around the business. They also

    must

    learn persistence in the face of likely

    stubborn

    resis-

    tance. A third piece of advice is to recognize

    that

    the

    financial needs of

    an entrepreneur are

    very

    depen-

    dent

    on the business life cycle. Churchill

    an d

    Lewis

    identified five phases of business

    growth

    an d

    devel-

    opment, each having different implications for fund

    management.

    1

    hase 1: Existence

    This is the founding stage

    o ft h e

    business, in

    which

    the founder is the business,

    systems

    an d

    formal planning are nonexistent, loyal

    customers are few

    an d

    far between,

    an d

    financial

    crises are frequent. Collateral obligations intermesh

    personal

    an d

    corporate finance,

    an d

    capital is des-

    perately short . The founder needs income, credit,

    an d forgiving creditors.

    hase 2: Survival

    The

    owner

    is still synony-

    mous with

    the business, bu t the business looks more

    respectable-as

    if it will be

    around

    for a while. To

    ensure

    survival, the

    owner

    takes on major projects

    such

    as

    building

    control, hiring an experienced

    fi

    nancial officer,an d investingin newplant

    an d

    equip-

    ment. In the survival phase, cash

    management

    is

    key. Whatever cash

    th e

    business has generated is

    used

    for expansion.

    hase

    3:

    uccess disengagement

    Success dis-

    engagement occurs after 10

    or

    15 years in the busi-

    ness. By now, the

    owner may

    be in his mid-40s

    an d

    is a presence in

    the industry

    association. The busi-

    ness is established in a niche, with survival likely.

    The goa l is to keep the

    company

    stable

    an d

    profit-

    able. For th e entrepreneur, keeping control is im-

    portant, bu t delegatingnonessential tasks isthe trick.

    The

    founder

    can

    no w

    go

    away

    for three days,

    bu t

    he

    is on the

    phone

    every day talking to employees

    an d

    getting reports

    on

    what

    is going

    on-letting

    every-

    one know he

    is always there.

    He

    relies on experi-

    enced, long-term employees

    an d

    avoids business

    risks.

    He

    is cementing customer loyalty, expanding

    outside

    interests, an d consolidating wealth.

    The business is

    on

    a plateau.

    No

    exciting

    ne w

    initiatives are being taken. The

    owner

    has reached a

    level of security in the business an d begins to enjoy

    three

    months

    in Florida every winter. Typically, the

    corporation is converted to SubchapterS status, an d

    cash is taken

    out of

    the business. This is the first

    period

    in

    which

    the

    entrepreneur

    can be self-re-

    warded

    for business success. Priority expenditures

    are for life-style projects-boats houses,

    an d

    air-

    planes. Some cash

    ma y

    build

    up

    bu t the entrepre-

    neur

    still needs liquidity because large uncertainties

    still exist

    an d

    because of the next phase.

    hase 4: uccess growth

    The

    entrepreneur

    must

    consolidate resources

    an d

    redirect th em-u su -

    ally

    toward

    growth. This is because

    50

    years ago, a

    family business could stay

    on

    a plateau of success

    disengagement indefinitely,

    bu t today

    the rate of

    technological an d competitive changeforce frequent

    periodic reevaluations of corporate priorities. Every

    dollar of corporate equity

    no w

    becomes invaluable

    lNeil C. Clmrchill an d Virginia Lewis, Five Stages of

    BusinessGrowth,

    Harmrd usiness Review (May

    /June 1983).

  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

    21/106

    to the company struggle to find the resources neces

    sary to fuel growth. The corporation ma y be recapi

    talized an d

    n ew p ar tn er s m ay

    be

    brought

    in if the

    capi tal needs are extreme. Whatever resources the

    entrepreneur has managed toaccumulateoutside the

    business

    must

    be conservatively invested to balance

    the enormous risk the business is facing.

    Phase Take off As the

    owner

    struggles

    with growth he learns some basic truths.

    He

    no

    longerknows itall

    an d

    he can

    no

    longer do it all. He

    must learn to delegate

    an d

    trust

    bu t

    this is counter

    intuitive.

    He

    has never experienced a real depen

    dency on others ye t he begins to realize tha t he

    cannot ge t along without significant others support

    ing him in key manageria l

    an d

    advisory roles. He

    begins to

    open up

    an d seek advice.

    For the financial advisor this

    phase

    is an import

    an t period of the

    entrepreneur s

    life. This is the first

    time that comprehensivefinancial

    planning

    becomes

    possible. The entrepreneur is seeking balance be

    tween

    time

    spent

    in the business

    an d

    time

    spent on

    personal pursuits between hands on direction

    an d

    delegation

    an d

    between the risk

    an d

    opportunities

    of business an d the security of outside investments.

    It ma y be necessary to restructure finances go public

    bring in ne w investors an d / or establish

    an

    em

    ployee stock ownership plan. His personal portfolio

    ma y be builtlookingforward to thefuture

    an d

    taking

    on

    more r isk as the business r isk progressively di

    minishes.

    13

  • 8/10/2019 Investment Counsel for Private Clients 1993 Peavy

    22/106

    Question and nswer

    Session

    Peter

    vis

    Question Ho w

    can

    yo u

    con-

    vince the business owner t ha t h e

    can take on additional risk out-

    side his business i his business is

    doing well? In other words ho w

    do

    y ou g et h im

    ou t

    of money mar-

    ket funds?

    Davis Wh y

    do

    yo u want to

    do

    that? Getting

    ou t

    of money mar-

    ket funds ma y no t be appropri-

    ate. Once yo u get to the risk

    issue you immediately start push-

    ing yourself into client control

    an d the typical owner l ikes a lot

    of control. he is going to

    have

    risks he wants to control. yo u

    want to deal with control issues

    with him yo u will earn every

    penny

    you get. I would suggest

    backing off giving

    hi m

    space let-

    ting him ru n his business. yo u

    push too hard you ruin the rela-

    tionship. A basic characteristic of

    successful

    entrepreneurs

    an d

    founders is the

    need

    for control.

    You ar e

    on

    a leash an d that leash

    can be pulled quickly if yo u lead

    hi m

    ou t beyond his risk tolerance.

    Question

    D o b a nk s h av e a

    unique

    opportunity

    to leverage

    their client relationships with

    business owners in managing

    their personal assets? so

    ho w

    should this opportunity be

    pur-

    sued?

    Davis

    The

    entry point

    to

    many

    of these issues like th e estate

    planning

    issue is through such

    entities as banks accountants

    an d

    lawyers. Th e relat