This month we began using technology which combines real-time financial account aggregation, investor profile data, and a Monte Carlo projection engine to identify optimal asset allocation. Our innovation raises the bar for the financial advisory industry.
Two things make this groundbreaking and important for individual investors like you:
- It is truly personalized, based on your actual cash flows. The Monte Carlo engine helps show how much growth you need, and how much risk really makes sense for you.
- The use of account aggregation keeps your plan on track and updated. By having a real-time balance sheet and an easy one-stop place to enter your retirement goals, it is realistic to know when your asset allocation should change.
Asset Allocation is the most important driver of investment success, but for most people the process is sloppy and arbitrary. Most “do-it-yourself” investors fall into a random asset allocation based on a collection of historical purchases.
Target Date funds are a crude step in the right direction because they use some actual data (expected retirement date), but are too generic to be useful. Those who work with advisors are generally asked a handful of questions and then slotted into a model portfolio. Frequently it is based on little more than age and risk tolerance, and it is rarely updated unless someone complains or leaves.
Using our leading edge technology, we now incorporate these two critical variables (in real-time) in our algorithm:
- Required Growth Rate for individuals who are still working
- Expected Withdrawal Rate for those in or nearing retirement
Here’s how it works:
- Our Financial Dashboard tracks what you’ve got and what you owe, and can show you how much you are saving or spending, without any work from you.
- You indicate how much you want to spend each year in retirement. We’ll help figure out how much Social Security you will get, as well as any expected recurring retirement income like pensions or rental income.
- We’ve built a behind the scenes Monte Carlo projection engine which calculates:
- (if you’re still working) How much money you will need to retire and what growth rate you need to achieve it.
- (if you’re retired or close to it) Your projected withdrawal rate, the percent of your portfolio you will need to spend each year.
- Our internal algorithm utilizes these critical outputs in conjunction with traditional factors like age, retirement age, risk tolerance, time horizon, legacy wishes, non-liquid asset values, etc., to recommend an optimal asset allocation. For our Wealth Management clients, our Advisors and Investment Committee add an additional layer of human oversight and review.
Our algorithm is designed to balance your Need, Ability, and Willingness to take risk.
Unless indicated otherwise, the primary goal is maximizing the portfolio’s odds of providing for stated retirement spending targets (also known as “not running out of money,” which from our experience is the most common goal for our clients).
Knowing required growth rate and/or withdrawal rate is critical. Any algorithm that ignores them isn’t worth much.
Let’s say you’re 40 with a moderate risk tolerance and you want to spend $100,000 per year in retirement. There is a big difference between needing 4% growth and needing 8% up to retirement to be in a position to achieve this. Similarly, if you are 62 and want to spend $100,000 per year, we’ll project your cash flows to see what your average withdrawal rate is.
If you only need 1.5% of your portfolio in withdrawals, you can afford to be conservative if that suits you, or have the option to be aggressive. Your risk tolerance and desire for growth become more important. But if you need 4% withdrawals, diversification trumps other issues to ensure you don’t run out of money. If you need 6%, growth is critical.
Here are some visuals:
Yes, this can theoretically be done manually with a collection of account statements and Monte Carlo software. But let’s face it, you probably don’t know exactly what your balance sheet looks like and you aren’t going to do a four hour retirement plan every year. And your broker definitely won’t do it for you. Now you can have a real-time asset allocation custom designed to fit your cash flow needs as quickly as you can log in to our software. And we’ll show you how your current portfolio compares.
Starting this month, this technology is driving the Asset Allocation selection for the Investment Checkup feature of our free Financial Dashboard. It’s an important improvement. We’ve also begun using the data to improve how we track and manage money for our Wealth Management clients. I spend a good chunk of each day reviewing client strategies. We’re not willing to put our client’s money on auto-pilot. Having this increased level of analysis on demand allows our Advisor team and our Portfolio Management team to provide an even higher level of service.
We’re currently responsible for managing investment strategies for thousands of families, and that number is growing every day. It’s a responsibility I take very personally, so I’ve been dreaming about having access to something like this for years. No doubt there are a lot of Investment Advisors who would love to have this technology, but there is a reason it hasn’t been done before – at least in conjunction with account aggregation and a slick user interface that allows clients to easily keep profile data up to date. It’s really hard to create.
The next major step for us is revealing the Monte Carlo based planning tool on our free Dashboard. We’re working on that, but it’s not ready yet. When finished, our Dashboard users will have incredible clarity on where they stand for retirement. For most, it will be eye-opening. They will see if they are saving enough, when they can retire, or if they can feel comfortable spending more. They will be able to play with “what-if” scenarios for key variables (including asset allocation) and see how changes may impact their retirement.
It will be a big deal in the industry and I expect any serious financial institution will be forced to copy it. I’m thrilled we will offer this analysis for free, and I’m grateful to work with an incredible technology team who can make this possible.
If you haven’t already, I encourage you to aggregate your accounts on our Financial Dashboard and check out the newly improved Investment Checkup feature, complete with your personalized data driven Asset Allocation recommendation.
Craig Birk, CFP®
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