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Pivoting to Capital Preservation after Long Bull Run

Given the aging bull market and sudden turn to bonds, it’s an opportune time for advisors to discuss taking risk off the table.

For investors, the path of least resistance is to let the good times roll, especially when the good times have been rolling and rolling and rolling. Who wants to sell when the S&P 500 has surged more than 300% since its March 2009 low?

The market has had a “fun run,” says Matt Archer, founder of Raleigh, NC-based Archer Investment Management. "What's funny about the market run-up is that we have not had a lot of clients who are really concerned or worried about their investments." Perhaps they should be.

Given that the aging bulls’ legs are shakier and more prone to buckling, now is an opportune time for advisors to speak frankly with clients about why capital preservation makes tremendous sense. And given the recent rally in bonds, clients are getting a taste of their benefits, which may make the timing for that conversation easier.

While part of that discussion could involve market concerns such as trade war fears and slowing global growth, the focus should be on the big picture. In short, U.S. equity investors have been handed a gift with a decade-long rally and they shouldn’t get greedy.

To underscore the point of how good things have been here, it might be worth pointing out that emerging market stocks have effectively gone nowhere in the past decade while European stocks have registered just modest gains. In comparison, the U.S, stock market has been an absolute monster and its valuations are pricier than its overseas counterparts.

Though having this kind of discussion might not always be received by clients with open ears and an open mind, the backdrop couldn’t be more constructive for doing so. Better to book some profits and take risk off the table while prices are still high on a multi-year basis. For advisors looking to have that talk, here are some things to consider:

1. The Right Conversation Makes All the Difference

Clients are subjected to a deluge of noise thanks to endless talking heads on TV, breathless “breaking news” and friends with “hot tips.” Getting out in front of this is easy, says Archer, if advisors focus upfront on what clients need to achieve rather than to simply focus on returns. “People obviously get concerned and upset if they open a statement and see a retirement loss,” he says. “We address this through regular commentary.”

2. Volatility Isn’t a Dirty Word

According to the most recent (spring 2019) Advisor Top-Of-Mind Index (ATOMIX) Survey by Eaton Vance, managing volatility scored highest on its list of concerns for advisors. The 128.2 rating was essentially unchanged from last fall. Meanwhile, 45% of advisors in the survey reported that managing volatility for clients is now “extremely important.” However, given that many clients will be in long-term equity oriented investments, they need to understand that although stocks provide superior long-term returns to other assets, they also generate far more volatility. Clients need to tangibly appreciate that. If they can’t (advisors will know once the market next blows up) they should cut their exposure to stocks.

3. Anxiety Is a Given

In a 2018 Global Investor Survey, PwC analyzed responses from 663 investment professionals in 96 countries, alongside an additional 19 in-depth interviews in six countries. While CEOs were most concerned about over-regulation, terrorism, and cyber threats, they found common ground with investors in fretting about cyber threats and geopolitical uncertainty. The future of the Eurozone captured 35% of investor concerns in 2017 and fell to 13% last year, while the speed of technological change rose to 37% in 2018, from 21% in 2017. Advisors should remind clients that fear is a constant. The names and concerns are what constantly change. Explaining that while offering positive solutions will help clients breathe easier.

4. When Discussing Alternatives, Think Madoff

Madoff “made off” with $50 billion. Convincing clients to consider alternatives is tough, Archer says. “Investors are fearful of Ponzi schemes, or that somebody’s doing something, and it’s understandable.” So rather than cloak suggestions coyly, Archer suggests discussing in detail why alternative investments might bolster a client’s overall bottom line, including further diversification and a lack of correlation to stocks. Private equity, real estate, hedge funds and commodities all can play a part, complementing bond ownership. If a firm has a proven track record and is in the business of educating clients from the start, there is less opportunity for miscommunication or unwarranted skepticism. “We explain why we want to allocate [a certain percentage] here,” adds Archer. “We show the data about why [a particular alternative] is out there and how going forward, it could be a very good option to reduce risk.”