Wealth Management or Returns? Part III
The Cash Flow Strategy Decision
The previous two essays in this series compared the results of four identical cash flow and investment strategies. The context was the order in which the annual returns may occur and the benefits of market outperformance.
By necessity, the illustrations were simple, but not simplistic. The simple part was that the investment strategy was 100% US equities, and the cash flow strategy was 100% withdrawals. Life is never that simple, but it demonstrated the uncertainty and complexity of capital markets.
Conversely, if this investor was contributing and not spending, the outcomes would be reversed. And if the investment strategy had been diversified with high quality bonds and other asset classes, the differences in outcomes would have been muted. But in either case, lessons to be learned from sequence of return risk include:
Higher percentage returns do not necessarily buy more time, but failure to anticipate the consequences of sequence of return risk could mean that an investor runs out of time and money.
There are circumstances when a lower expected return - and the lower risk of an efficient strategy - can increase an investor’s dollars of future wealth.
If a lower risk and return profile can buy time, then risk capacity should not be squandered. It should be treated as a capital asset and reserved for specifically chosen values.
To assume more risk than necessary for the sake of higher percentage returns would be to sacrifice lifestyle values for the dubious goal of beating an index that has nothing to do with your defined values and the goals for achieving them.
But there’s more. What if the effort to outperform achieved underperformance? It happens a lot. That would have a negative impact on all four of the cash flow scenarios (constant return, actual sequence, reverse sequence and outperformance). Essentially, that adds underperformance to market risk exposure and sequence of return that comprise controllable investment risks.
To the objective investor, the natural consequence of this is to change your investment performance benchmark to dollars of future wealth. And that is radical, but by using The Moneyball Method, goals will be assigned ideal and acceptable monetary values and time frames - and funding status will be known.
Yet, there’s one more that must be addressed: overspending risk. So, to become a wealth manager and avoid being a rate of return investor, your cash flow strategy must become primary, and your investment strategy must be subordinate to the new performance benchmark: living the one life you have with confidence. That will be the subject of the next essay. To learn more, please click the link below:
https://www.amazon.com/Moneyball-Method-Middle-Class-Manifesto-Objective/dp/1696009111/