The Outlook for Wealth

No one is certain about the direction of the markets, but the wealth management business has a range of ideas about the outlook for the coming months.

Timing is everything. This is particularly true with financial decisions. Investors who bought equities at the end of 2007 lost fortunes in 2008. Investors brave enough to enter the market in early 2009, when the global economy appeared to be on the verge of collapse, reaped outstanding returns. During 2010, markets continued to improve, particularly due to the weakening U.S. dollar and quantitative easing by the U.S. Federal Reserve, which has flooded emerging markets with cash.

A recent report by one major investment bank highlights the dangers. Entitled “The Anatomy of Bubbles,” the report stresses that “easy money” could result in asset bubbles forming in Asia. Monetary loosening in the U.S. will exacerbate the problem.

According to the report, economic prospects at this stage are extremely difficult to judge, and risks are deemed to be extraordinary in a historical context.

Another leading wealth manager also views the environment as uncertain. “There are considerable risks to the global economy, though we do not expect a double-dip recession,” it says. “Markets are likely to alternately focus on deflation risk and recovery alongside the health of the corporate sector.” Barclays, however, notes that it dislikes cash, as it won’t perform well in a recovery and provides no additional protection if deflation emerges.

This special feature will look at what banks are saying about key asset classes.

Equities

The end of 2010 and the beginning of 2011 will be interesting times for world equity markets, particularly emerging markets such as Asia and Latin America. Low interest rates in the U.S. and additional quantitative easing are likely to see “hot money” continuing to flow into emerging markets. A new carry trade has emerged, in which investors borrow U.S. dollars and invest in higher-yielding assets abroad.

A big American brokerage sees parallels with the recent past: “In a mirror image of the path of capital flows that resulted from the Asian crisis and tech bubble a decade ago, the current injection of liquidity by the Fed to ameliorate the poor balance sheets in the West is being reallocated to the stronger balance sheets in emerging markets. The strength of this capital flow is leading debt, equity and currency markets in emerging markets to bubble even higher.”

What could pop such a bubble? One Singapore fund manager says that if strong economic numbers suddenly emerge in the U.S., emerging markets could take a hit. “If the U.S. economy starts to rebound strongly, then U.S. rates are likely to rise. This could see ‘hot money’ flowing back to the States, which is bad news for bubbles in emerging markets.”

Commodities

One British firm feels commodities still have a valuable role to play in one’s portfolio. It notes that commodity prices have moved in tandem with equity prices over the last two years.

“This relationship has persisted longer than we expected and, on the margins, diminishes the diversification benefit commodities provided to investment portfolios,” says the firm in a recent publication. “Because we see ample supply in both the energy and agricultural sectors to meet current demand, we are introducing commodities with an underweight position for the fourth quarter. We still believe that over the longer term, commodities have a valuable role to play in portfolios.”

Real Estate

Asian real estate markets have had a terrific year, with property prices climbing sharply across the region due to cheap interest rates. Two countries, notably China and Singapore, have taken steps to apply the brakes, imposing rules on key reasons for rising property prices, such as mortgage levels.

“Don’t expect Asian property prices to double again from here,” says one analyst. “It’s not in any government’s interest to let real estate prices keep galloping upwards. All of them will be concerned with the reaction in the middle class.”

Gold

In tandem with a falling U.S. dollar, gold has had a spectacular run this year, capping a decade of solid returns. Increased demand for gold from China and India is good news for the gold price, but how long can the run last?

Some investment houses are optimistic: Gold is still below its historic, inflation-weighted highs. The counterpoint is that gold has no real intrinsic value, and is a mere anachronism touted by “gold bugs.”

“The price of gold is difficult to predict,” says one trader. “In retrospect, the lows it touched in 1998 were a screaming buy, but at the time it did not seem that way. For average investors, however, it can offer a sense of security. Unfortunately, owning physical gold creates the need to store the stuff. Investors are much better off buying gold through easily tradable instruments available on the stock market or at their banks.”

Where It’s Going Is Hard to Say

Every bank and research house canvassed for this story is wary about the direction of financial markets in the coming year. Many talk of bubbles, but go on to say that bubbles can grow for years, offering terrific opportunities for investors who keep their heads and get out before it is too late.

One investment bank puts it nicely: “The key is whether policymakers will eventually step up to the task and spoil the party. History suggests that this is extremely difficult to do, and the current mindset among the region’s central bankers makes decisive action less likely. Not every recession, of course, sets the stage for an asset bubble, but, as things stand currently, this looks like one of those times.”

Managing Wealth In Tumultuous Times

The wealth management industry learned a great deal in the financial crisis—and is more indispensable than ever to high-net-worth individuals and families.

The last few years have, to say the very least, been challenging for the wealth management industry. Nonetheless, high-net-worth individuals fortunate enough to have a competent wealth manager should have been able to grow their money. Though times are tumultuous from a financial perspective, such chaos offers opportunities for investors with patience, discipline and skill—attributes that are the hallmark of top wealth managers.

High-net-worth investors fit countless profiles, and all have unique challenges and needs. There is no typical profile of a wealthy individual or family: Fortunes can range from as little as US$10 million—a very challenging amount to manage—up to billions of dollars. The fortune can be concentrated in just one asset, such as a company, or it could be spread over dozens or even hundreds of properties, equities and other holdings, making for a challenging asset management approach. Goals vary too: For most wealthy individuals, the preservation of capital and the maximizing of returns are a priority. For some, family members are more concerned with making a living off the fortune’s proceeds: for example, interest or dividend payments.

The wealth management world, after suffering a dent to its reputation in the financial crisis of the last few years, is placing a premium on a return to investment fundamentals—and a renewed focus on the all-important client.

“The investment strategy world learned lessons from the financial crisis, but it is important not to throw the baby out with the bath water,” says Manpreet Gill, Asia strategist, Barclays Wealth. “For example, we learned to respect the value of liquidity in investments, and the value of a wider advisory committee that brings together greater experience from a wider range of asset classes and regions. But nothing specific to the crisis leads us to conclude that the basics of investing and of asset allocation have changed.”

If a high-net-worth investor decides to seek help managing wealth from external sources—and there will be no shortage of those offering advice—it is essential that he or she select an advisor with the capacity to help build a truly diversified and comprehensive wealth management system. Prior to meeting potential advisors, investors should conduct thorough due diligence on the advisor’s background and make sure he and his company have the financial pedigree to manage large sums of money. The best advisors thoroughly assess investors’ situations, appetite for risk and needs before making recommendations. Advisors who seem more interested in selling financial products and ideas, without first understanding the needs of the family or individual, should be avoided.

High-net-worth individuals need financial advisors who look at their entire financial situation, as opposed to selling products on a transactional basis. Leading wealth managers will take the time to get to know their clients. In addition, they will try to get clients to understand their own long-term financial and life objectives.

Getting to Know You

One firm uses a Financial Personality Assessment to determine investors’ needs. The survey helps the firm measure the aspects of an individual’s personality that are most important for shaping financial decisions. It is intended to help the firm’s clients and their private bankers begin discussing individually tailored wealth management strategies, and it helps the firm guide clients in constructing the most suitable portfolio and provide services that are aligned to their needs. The bankers themselves are trained for this approach, the objective of which is to help clients with their long-term investment needs.

However, wealth is often controlled not by one individual, but by a family. This is particularly true when the wealthy founder of a company dies, leaving assets to relatives.

“Where an individual thinks of his financial future in the limited terms of his own lifetime, wealthy families need to think in generational terms,” says a Hong Kong–based private banker. “Often the wealth has been accumulated by one generation or one part of a generation. As the years roll by and the older generation fades away, they inevitably pass responsibility for the family fortune to the next generation, which often is not equipped to deal with the complex financial challenges involved with managing great wealth. Family members often have different views of how the money should be handled, and such disagreements have resulted in the fragmentation and disappearance of many fortunes.”

She stresses that for individuals who have built a successful company, whatever their age, a key first step in preserving their financial legacy is to separate the financial needs of the family from the needs of the company. In today’s global marketplace, a company’s fortunes can change quickly, possibly spelling financial disaster for a family with all of its money concentrated in just one firm.

Once the family wealth is segregated from the company, there are key principles to adhere to in order to establish a family wealth management plan. It is important that family members manage their wealth in a professional manner, much as they would manage a company. The risk appetite of all family members must be assessed, as well as the needs and expectations of various family members. Will interest be used to provide income for family members? Will one family member be tasked with managing the wealth, or will this function rotate among family members? Are conflict resolution measures in place should family members have a disagreement?

Avoiding Common Mistakes

When asked about the mistakes high-net-worth individuals and families make, Gill of Barclays points out that it is hard to generalize given the diversity of this group.

“But to narrow things down a bit, we like to use behavioral finance, among other things, to help identify investing behaviors and common mistakes,” he says. “Investors who have lower composure may be more likely to sell too close to the bottom or buy too close to the top. But mistakes like these can be avoided by first understanding one’s financial personality and likely investment behaviors, and then thinking about investing strategies to mitigate the risk—using strategies that are less volatile and more absolute return oriented, for instance.”

Every year the financial world becomes more complex. Advances in technology, liberalization of financial markets, new financial products and globalization will continue to challenge investors. To chart a course to continued financial success, high-net-worth individuals and families need wealth managers who understand both the needs of their clients and the tumultuous world of finance.

ABN AMRO Private Banking
www.abnamroprivatebanking.com

AMP Capital Investors
www.ampcapital.com

UBS
www.ubs.com