Adapting to the New Face of Financial Risk

Adapting to the New Face of Financial Risk
Chapter 4
Adapting to the New Face
of Financial Risk
By Paul Mann & TJ Tillman
Deep in the heart of Central America, 40 miles from what is
now called Guatemala City, lies the ancient ruins of the once
great city, Mixco Viejo. It was a veritable fortress surrounded on
three sides by stone cliffs and accessible only by way of the main
entrance at the front of the city. The city proved to be impenetrable for over six centuries. In 1525, the Spanish conquistador
Pedro de Alvarado would put this fortress to the ultimate test.
Alvarado was ruthless and had proven to be a brilliant military
strategist before he arrived at Mixco.
Upon arriving, his forces laid siege to the city, anticipating a swift
victory. However, much to Alvarado’s dismay, Mixco Viejo withstood the relentless assault for more than three months. Finally,
one of the Spanish soldiers discovered a hidden passageway in a
cave that led under the fortified wall and directly into the city. After Alvarado’s army gained access to the city, it fell in a few hours.
As history has shown us time and again, even the best-laid plans
can fail with the smallest of miscalculations.
Our goal is to help you mitigate the financial miscalculations in
life to the greatest extent that you can. As we learn from the example of Mixco Viejo, even the slightest oversight can have dev47
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astating consequences. We all know it’s impossible to plan for
every financial pitfall that could ever arise. Nobody knows what
is going to happen tomorrow, next week or a year from now. But
barring some apocalyptic event that would devastate humanity
as a whole, the financial planning ideas that we’ll share with you
in this chapter should lay a pretty solid foundation for fortifying
against the financial uncertainties that life may throw at you.
Build a Team
It has been said that you don’t become an expert in something
by doing a thousand things one time, but by doing one thing a
thousand times. In our practice, we have found that the most
common flaw in an individual’s financial plan is the result of the
underutilization of experts. This is why it is imperative for you
to build a team of specialists who are experts in their field. We
know a lot of the do-it-yourselfers out there are going to hate
us for saying this, but you do need some help. There are several
things a lot of us feel like we can do ourselves. There are some
things however, that are far too important to handle on our own.
In these cases, we should seek out the advice of the experts.
In the world of basketball, some consider Phil Jackson to be the
best coach in the history of the game. He led two different franchises to a total of 11 NBA championships, the most by any
coach in the league’s history. There are those who argue that he
is not the best coach, but merely had some of the best players
in history on his respective teams. In your financial life, you are
the head coach. It is your job to surround yourself with the best
players that are available to reach the level of success you desire
for you, your family or your business. There are many experts
that you may need to seek guidance from for your financial plan.
All of the professionals that may be necessary for you to build
your specific team may not be listed here, but these should be
considered the foundation.
Financial Planner
The world of financial professionals can be a confusing one.
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Adapting to the New Face of Financial Risk
Most people don’t know the difference between a Stockbroker, Financial Planner, Financial Advisor, Wealth Manager
or any other name given to someone in this industry. To complicate the matter, many financial professionals may not even
know the right title for what they do. Ideally, you should find
a true Financial Planner or Financial Advisor who works on a
fee-only basis. This means that he/she will either create a financial
plan for you and charge a flat hourly rate, or charge a percentage
fee annually, based on the value of the portfolio he/she is managing for you.
These two approaches tend to weed out the inherent conflicts
of interest that are typically associated with the traditional commission-based pay of a Financial Advisor or Stockbroker. In a
fee-only relationship the advisor gets paid more if the client’s
portfolio increases. For example, the advisor would receive 1% of
$600,000 instead of 1% of $500,000. The better the advisor does
at managing your investments, the more he/she is compensated.
Also, the client is happier because the value of their portfolio has
increased.
Additionally, most Financial Planners can provide excellent advice on life insurance, which can be a critical component of your
financial plan.
It is important to check the credentials of any professional before
adding them to your team. There are so many professional designations that can be placed at the end of someone’s name, that
a thorough review is in order to ensure the designation really
makes that individual more qualified to handle your affairs. The
two most respected designations in the financial industry are the
CFP (Certified Financial Planner) and the ChFC (Chartered
Financial Consultant).
Certified Public Accountant (CPA)
When searching for a CPA, there are several interview questions
to ask. How long have you been in the industry? What area do
you specialize in (business taxes, personal taxes, etc.)? Do you
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offer other services such as: financial planning, profit and loss
reporting for businesses, bookkeeping? It’s important to retain a
true professional who is willing to work as part of your team to
create tax strategies that can help you minimize your tax liability.
There is a recent trend among CPAs to get licensed to sell investments and investment-related products. We feel that there is a
conflict of interest in this case for two reasons. First, the CPA will
generally sell the investment products on a commission basis, and
as we have discussed, this creates an inherent conflict. Secondly, it
is vital that the members of your team are true specialists. Trying
to become an expert in too many things can lead to insufficient
knowledge in all areas. If a CPA is a specialist in taxes, that is
where his/her focus should be. There is far too much information
to know about taxes to also become an expert in financial planning. Likewise, we do not recommend having your taxes handled
by a financial planner. You will find more value in assembling a
team of specialists who drill deep into their own field and are true
experts in that one area.
Estate Attorney
An estate attorney is often the most overlooked member of a
financial team for two reasons:
1. People don’t think they can afford to work with an attorney.
2. People don’t like to think about dying.
Attorneys can be expensive in certain situations; however in creating an estate plan, generally prices are reasonable. Additionally, spending the money that it takes to implement a proper
estate plan can save you and your family a substantial amount of
money in the future.
The process for choosing an attorney should be very similar to
that of choosing a CPA. Their answers to the following interview
questions should give you an idea of how well they will fit on your
team. How long have you been in the industry? What do you
specialize in, e.g., Estate Planning, Family Law, Criminal Law?
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Adapting to the New Face of Financial Risk
Why did you become an attorney? This last question should be
asked when interviewing specialists in any industry. It will help
you better understand the level of passion they hold for the work
they do. An estate attorney should not be overlooked and can be
an absolutely critical component of piecing together your plan.
When choosing your team, you need to evaluate several factors. We
recommend interviewing more than one before you choose who
should represent you. Also, be sure to review your situation with
each one of your specialists at least annually. If possible, have them
collaborate on your behalf. A financial plan should be constantly
changing as it should reflect the dynamic of your changing life.
Old ‘Modern Portfolio Theory’
If you have a Financial Planner already, he/she most likely uses
Modern Portfolio Theory to manage your money and reduce
risk in your portfolio. Typically called diversification, this theory
states that the more diversified your investments are, the less
likely you are to lose a substantial portion of your funds if one
security or sector drops drastically. We use it in our practice, to a
degree, because it works... most of the time
The basic idea of Modern Portfolio Theory is to build a portfolio consisting of non-correlated investments that each carry
varying degrees of risk. By doing this, an investor is less susceptible to the investment risk of an individual security because
their assets are spread out among a broader range of investments.
Or, in layman’s terms, don’t put all of your eggs in one basket. As
an example, an investor may spread their money out to include
investments in stocks, bonds and/or real estate.
As we have become more of a global economy, the doors have been
opened for new investment opportunities, and Modern Portfolio
Theory has evolved as well. The options of investing a portion of
your portfolio into International stocks and bonds have been added to the mix, as well as Emerging Markets (countries that have recently exhibited explosive growth such as China, Brazil and India).
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In addition to investing in companies from different geographic locations and varying sizes, investors have also categorized
stocks into different classifications. Diversifying your portfolio
over Value and Growth stocks may help to reduce risk as well.
Value Stocks = Stocks that are considered undervalued compared to the fundamentals of their underlying
company. These stocks typically have a high
dividend yield and a low P/E ratio.
Growth Stocks = Companies whose earnings are expected to
grow at an above-average rate. These stocks
typically do not pay dividends.
Another key component of diversification is spreading your investments out among different sectors. For example, some in
healthcare, some in tech, some in financials and so on. We could
continue on for several pages about the many ways to diversify
your portfolio using Modern Portfolio Theory, but we’re sure
you get the idea.
The simplest way to take advantage of this theory is to invest in
mutual funds, which is how most investors and Financial Advisors utilize Modern Portfolio Theory. Mutual Funds receive
hundreds of thousands and in many cases hundreds of millions
of investment dollars from typical investors. Using his/her own
investment strategy, the manager of a mutual fund will diversify
that money over several different stocks or bonds. The average
mutual fund can have anywhere from 50 to 250 different stock
or bond holdings.
Like we said earlier, the reason Modern Portfolio Theory is used
so widely to minimize risk in a portfolio is because it works…
most of the time. The funny thing about Modern Portfolio Theory is that it was conceived by Harry Markowitz in 1952. That
makes it over 60 years old! Therefore, the concept is not as modern as the name implies anymore.
As our society has become more global, and with the sudden ex52
Adapting to the New Face of Financial Risk
plosion in technological advancements giving us access to news
and information instantaneously, certain problems and even
flaws with Modern Portfolio Theory have surfaced. For example,
political unrest in Europe may cause a sell-off in the US Stock
market. Which then creates a ripple effect and stock markets
around the world are affected as well. This creates uneasiness in
the minds of investors. The media blows the story out of proportion, which heightens the situation from uneasiness to full panic
and the US market tanks 800 points in two days.
This phenomenon is known as systemic risk. During a systemic
market decline, regardless of how well your portfolio is diversified (be it real estate, US stocks, international stocks, or bonds),
you will lose money because all asset classes drop simultaneously.
The most recent examples of systemic risk occurred in 2007,
2008, and mid-2011 when some well-diversified investors lost
up to 60% of the value of their portfolio.
To minimize the effects of systemic risk in our practice, we
strongly recommend that our clients have a portion of their
money invested in products that have guarantees on the principle. These include investments such as individual Government Bonds (not Bond Mutual Funds), Certificates of Deposit
(CD’s), and Fixed Annuities. Of course the growth potential for
these types of investments are typically not as high as they are
with the stock market. However, in a world where market volatility can wipe out 50% of someone’s retirement savings in a few
short months, our clients have found it invaluable to know that
the guaranteed portion of their money will still be there when
they need it.
One of the core beliefs at our firm is: it isn’t how much you
make, but how much you keep that matters most. Using this
philosophy as well as the other strategies we have touched on
in this chapter, we have been able to help several of our clients
achieve their financial goals. To sign up for our weekly email
newsletter, visit our website at: www.empirewealthaz.com.
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About TJ
With nearly a decade of experience in banking, debt
management, and retirement planning, TJ Tillman
has worked in the capacities of Banker, Certified Debt
Counselor, and Financial Advisor. Through his experience, TJ has developed a unique and holistic financial
planning approach that has been incorporated into the planning process
at his firm, Empire Wealth Management.
After working for some of the largest financial services companies in the nation, it became apparent to TJ that these companies were solely interested
in growing their profits without regard to the well-being of their clients. In
response to his frustration, TJ co-founded Empire Wealth Management. As a
fee-only financial planning firm, the advisors at Empire Wealth Management
are able to avoid the conflicts of interest that have typically plagued the
financial services industry.
As a Financial Advisor with Empire Wealth Management, TJ helps people
plan for their futures by considering all aspects of their financial lives including retirement planning, college planning, budgeting, debt payoff, business
interests, estate planning, and life insurance.
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Adapting to the New Face of Financial Risk
About Paul
Paul Mann has been a Financial Advisor for over 12
years. After spending several years working for a few
different large firms, Paul reached a certain level of
frustration with each of these companies. In an effort to
achieve the high level of service he desired to extend to
his clients, Paul co-founded Empire Wealth Management
Paul focuses on using tax-efficient investment strategies to manage his client’s financial risk, and protect their assets. In 2007, Paul received special
recognition from a local Police Department for protecting his clients from
financial exploitation and assisting in the arrest of deceitful individuals.
Paul believes one of the dilemmas with the financial services industry is that
over the past 100 years, many of his associates have done everything they
can to make investing sound as convoluted as possible. Paul has designed
clean, easy-to-understand investment strategies that he explains to his clients in simple everyday language.
TJ Tillman and Paul Mann have established themselves as frontrunners in
the financial planning industry in recognizing and safeguarding against systemic investment risk. By utilizing their groundbreaking investment strategies, TJ and Paul have positioned their firm, Empire Wealth Management, as
the trailblazer in portfolio tax efficiency, asset preservation, and contemporary retirement income planning. To sign up for their weekly email newsletter, please visit: www.empirewealthaz.com.
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