July 5, 2020

When advice can become dangerous

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From an investment management point of view, reduced risk has much to do with the historic perspective of locking in guaranteed rates from Government Bonds. Of course, on an historic basis, such lock-ins then were far more attractive than they are now as, in the past, interbank interest rates were 4 or 5 times current levels and it made sense just to be conservative. Why wouldn’t one lock in high interest rates if one had the option, especially if inflation was likely to fall into the future, which it did! Dangerous financial advice would have you do otherwise.

The major personal difference between now and, say, 30 years ago is that life expectancy, through better health services, has extended the need for income and, in some cases, capital.

It is all very well to say that as a person moves into the last chapter or two of their life that they have fewer expense needs as their lifestyle slows down and their mortgage is paid off. Ask anyone, however, who is either elderly or has an elderly relative if they would have anticipated 15 years ago how much money an 80 year old retiree might need, especially with regard to healthcare. This has not been helped by the Government’s announcement of the effective future curtailment of the Fair Deal Scheme for nursing home care. For those unable to get government financial support in such circumstances at such a vulnerable time of their life, the financial burden may be untenable.

And just in case readers of this article think that it can’t be that bad, just do the maths!  The average cost of nursing home care is €1,200 per week or €62,400 per annum. Pay this fee for, say, 4 years and you realise that a need for €249,600 can easily occur. This is a massive sum.

There is no doubt returns are correlated with risk, and that equities are more risky and volatile than bonds over most periods. But as long as your time horizon is 10 years or longer the risk in owning stocks seems to be overdone especially if one has a broad-based diversified portfolio. 

Just because someone is 60 or 65 doesn’t mean that they need to go to cash immediately even if they are risk-averse. The higher cost of long term care means that it probably doesn’t become a serious issue until age 70 to 75 and onwards. This means that in many cases, some level of investment risk could still be considered over the intervening period, providing that the risk is spread broadly over a wide range of assets.

The historical option of buying Irish Government stock is no longer the safe bet that we had previously thought and it would be a very brave adviser who might recommend a large holding of such bonds. The current high yields attaching to Irish government stock is the stock market’s way of recognizing the high risk that such bonds hold.

Equities require far more growth now than they have priced in which is stretching their valuations. This being said, time in markets usually produces results. Even moderate exposures to equities can make substantial differences to portfolios relative to cash only holdings.

Of course conservatism is necessary for those who are naturally risk-averse irrespective of their stage in life. But ignoring an investment return needed to maintain a portfolio is like throwing the baby out with the bathwater. Riskless investors face a difficult dilemma with risk-free returns currently so low. The best solution is to never be in this plight in the first place.

No matter how old a person is, any investment planning needs to start with an investor’s net financial worth before balancing expected investment returns with expected income and capital needs. This is as applicable to all adults.  

In any event, my belief is that the automated old age / low risk approach needs to be revisited by many investment advisers to reflect not only the different personal circumstances of their elderly clients but also the changed economic environment we now live in. To do otherwise may be doing such clients a disservice.

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