Strategy: Create, plan, protect assets

focusStandard & Poor’s 500 Index rises and falls akin to ocean waves, even occasionally crashing as breakers. The Nasdaq composite index and Dow Jones industrial average do much the same, although stock markets have been remarkably resilient lately, despite political turmoil.

One characteristic stays certain — investing in one’s future remains necessary, regardless of market vagaries.

Haphazardly buying the hottest stock or bond of the day doesn’t equate with investing or wealth management — it’s analogous to surfing during a hurricane.

A portfolio designed to ride out the storm and provide stability requires selective asset allocation.

Asset allocation

Return on investment depends far more on portfolio consistency — allocation to certain types of major asset classes — more so than picking good stocks or hiring good investment managers within quality mutual funds, said Robert Book, executive vice president, Strategic Financial Partners.

Determining the best mixture of those asset classes should include “discussions around timelines, risk tolerances and the types of investment assets available, as well as current and projected economic and market conditions,” Book said.

Above all, “chasing returns” should be avoided. Instead, step back to view the larger picture by determining how much each portfolio needs to achieve as a rate of return in order to accomplish long-term goals, Book said.

All too often, people haven’t taken the time to truly define their goals and timelines, making it difficult to determine whether they’re on track for retirement.

After selecting the correct combination of assets within a portfolio, then decide how to deploy assets within asset classes. Because individual investors’ needs vary, so will the portfolio, which may or may not include mutual funds, exchange-traded funds or individual stocks.

Investors committed for the long term, for instance, will typically view market corrections as buying opportunities (following the buy-low, sell-high adage), and are more likely to stay invested during significant market changes and “try to take advantage of those situations, rather than selling at a bad time and making emotional decisions,” he said.

Comprehensive plan

While many investors still fixate on investment returns, what one really needs is a comprehensive plan, said Susan Strasbaugh, president, Strasbaugh Financial Advisory.

Regardless of age, plans and goals are part and parcel of managing wealth.

Part of that plan includes lifestyle — present and future. Typically, people increase spending during their 30s and 40s, often disproportionately to their increase in income. Eventually, that habit no longer will be viable.

“At some point, you have to freeze your lifestyle instead of increasing it, or it makes it very hard to retire and live off passive income,” Strasbaugh said.

Although high-income earners don’t usually have to worry about lifestyle while they’re working, they will eventually have a finite amount of money to live on.

If a couple earns $400,000 annually, for instance, Strasbaugh said she may suggest they cap their spending at $150,000 per year, and “save enough so that lifestyle isn’t impacted negatively when they stop working.”

These days most people simply plan to work longer before retiring, but that’s not always an option. Health issues may intervene, or one may be laid off at age 62 or so, when it can be difficult to find another comparable position. Learning to scale back one’s lifestyle goes a long way toward financial safety.

“It’s really important to balance life now and later,” she said.

Fixed-income investments

Other than death and taxes, the next predictable thing will be an increase in interest rates. Bonds remain an important component of most asset-allocation strategies.

“A well-designed bond allocation acts like a flotation device and helps prevent a portfolio from sinking too much during market corrections,” Book said, adding that this requires mostly high-quality bonds.

Although this low-yield environment creates challenges, bonds remain a valuable part of portfolios, precisely for their stabilizing effect.

The 10-year U.S. Treasury rate has vacillated from 1.6 percent in December to 3 percent in early September, currently hovering around 2.5 percent.

“There’s a direct relationship between interest rates and prices within bonds and bond mutual funds,” Book said. As interest rates rise, long-term bonds lose value. At Strategic Financial, Book has transitioned some of his clients from bond mutual funds to more individually owned bond portfolios, which give investors more control.

If needed, they can hold the bond until maturity or sell prematurely. To that end, he recommends a “laddered” bond portfolio with individual bonds that have different maturities. Investors can reinvest the lower-yield bonds at the higher end of the portfolio in bonds that are paying higher interest rates.

Floating rate bond funds, Treasury Inflation Adjusted Securities and global bond funds might be good options within a portfolio as well, he said.

Protecting wealth

There’s more to wealth management, of course, than merely accumulating and investing dollars. Once there, money needs to be protected from the unforeseen and unthinkable — but statistically probable — events that may occur.

In case of a car accident or someone falling on your property, in this litigious society, one of the best ways to protect wealth is with an umbrella insurance policy, Strasbaugh said.

For clients, her rule of thumb is an umbrella policy twice one’s attachable net worth. An IRA, 401(k) or pension, for instance, isn’t attachable and cannot be taken in a lawsuit.

“If your net worth is $2 million, you probably need a $4 million umbrella policy to cover you, since they can attach income to pay a lawsuit,” she said. “It’s one of the easiest and most inexpensive ways to protect assets and income.”

For most people, a $1 million umbrella policy is less than $200 per year.

Another avenue that’s often ignored is disability insurance. Although it can be more expensive than life insurance, statistics show that people in their 40s are far more likely to become disabled than to die.

“And that loss of income can be devastating to your family,” she said.

On the other hand, for young, high-income professionals, life insurance remains very important.

“If someone’s depending on your income and you’re not around to provide it, life insurance will protect them, financially,” Strasbaugh said.

Tax strategies

For those who haven’t yet planned how to protect their investments, November is a good time of year to offset any gains. Although investors ought to have a tax-managed strategy throughout the year, they can at least take advantage of selling some stocks and “harvesting those losses before the year end,” Book said.

Be sure to collaborate with an investment advisor and certified public accountant to create a tax management strategy, especially since the capital gains tax has increased significantly for higher-income earners.

For further tax mitigation, make sure the full amount has been contributed to tax-qualified investments, such as an individual retirement account, Roth IRA, 401(k), or simplified employee pension plan, etc.

In the past, investors had to be very cautious about estate taxes. But the advent of the permanent estate tax (which is indexed to inflation) on Jan. 1 changed that dramatically. However, the simultaneous increase in the top marginal tax bracket, from 35 percent to 39.6 percent, created a new concern.

In addition, itemized deductions and exemptions are phased out at $250,000 for an individual, and at $300,000 for a couple.

“A lot of the time people have passive income,” Strasbaugh said. “And with the tax increase, this makes a multi-year investment plan more important than ever.”