8 FORUM JANUARY / FEBRUARY 2013

INVESTING

Filtering

NoiseOut the

Staying focused on investment goals

JANUARY / FEBRUARY 2013 FORUM 9PHOTO: ROB TEK / ISTOCKPHOTO

These days it seems everyone from fund managers to market analysts and economists has an opinion oninvesting. Sometimes those opinions agree, sometimesthey clash. And while it’s comforting to make decisionsbased on a strong consensus, as Michael Callahanreports, having to decide on a course of action whenthere is no clear agreement can prove challenging

here’s no shortage of investinginformation available to advisors— countless websites, social media,television and radio stations dedi-cated solely to stock markets andeconomic news. Making sense of allof this information, however, is notalways easy. How are advisors to

make decisions based on “expert” opinions when equal-ly credible sources offer contradictory advice?

At OddsConsider Mercer’s 2012 Fearless Forecast: A Survey ofCanadian and Global Capital Markets and IndustryTrends, which reflects the consensus opinions ofCanadian and global investment managers on capitalmarkets, and on the economy in general. In particular,the forecast included input from 50 investment man-agement firms, including some of the most prestigiousasset managers in the world. Among other items, man-agers were asked to comment on what they expectedwould be the top and bottom performing sectors of theS&P/TSX Composite Index in 2012.The results are anything but consistent. For exam-

ple, 20 per cent of managers indicated financials would

be the top performing sector. Interestingly, the samenumber of managers — 20 per cent — also indicatedfinancials would be the bottom performing sector. It’s asimilar story with the forecast for the consumer discre-tionary sector: 12 per cent of managers expect consumerdiscretionary to be the top performing sector and yet 12per cent of managers expect consumer discretionary tobe the bottom performing sector.How is it that a group of financial professionals, with

the same designations and credentials, and looking atthe same base data, can come to opposite conclusions?And more importantly, how are advisors supposed tointerpret this information and make informed invest-ment decisions?

A Bigger Picture Approach“The majority of one’s financial success comes fromproper financial planning first, followed by strategicasset allocation decisions, and finally — of lesserimportance — individual manager/stock selection. Wefilter out the noise by focusing on what really mattersto the client,” says Dylan Reece, CFP, CLU, CIM, afinancial advisor with Nicola Wealth Management inVancouver.

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10 FORUM JANUARY / FEBRUARY 2013

INVESTING

Countless studies, such as the classic BHB (Gary P. Brinson, L.Randolph Hood, and Gilbert L. Beebower, 1986) study of 91 largepension funds, demonstrate the importance of asset allocation overindividual security selection. In 2000, a similar study by Ibbotsonand Kaplan examined the returns of 94 U.S. balanced mutual fundsand found similar results: the vast majority — over 90 per cent —of a portfolio’s returns are attributable to asset allocation ratherthan individual security selection. Keep in mind that we’re refer-ring to strategic asset allocation — the percentages of the portfo-lio allocated to specific asset classes (cash, bonds, equities, realestate, etc.) — as opposed to tactical asset allocation, which refersto moving in and out of various asset classes in an attempt to out-perform over the next short period of time (i.e., market timing).As Reece points out, whether now is a “good time” to buy gold

or XYZ stock — or anything else for that matter — has very littleconnection to clients having a comprehensive plan that helps themachieve their goals. Yet, unfortunately, it seems that many finan-cial advisory firms are more intent on analyzing the latest and great-est stock, sector or investment trends, such as high tech and thedot-com boom of the 90s, or more recently, commodities and realestate. In doing so, they may fail to look at the broader picture ofa client’s overall financial situation.“As fee-based financial advisors and investment counsellors, we

provide our clients with a financial plan that covers a broad rangeof planning issues including retirement projections, tax and com-pensation planning, estate and insurance issues, real estate strate-gy, and business succession planning,” adds Reece.

Portfolio ConstructionThis brings us to an important point: An investment portfolio isnot, in and of itself, a financial plan. It is, however, a key element ofa comprehensive plan. FORUM spoke with David Christianson, BA,CFP, R.F.P, TEP, an investment advisor and vice-president withNational Bank Financial Wealth Management, about his process.“First and foremost, my job is to make sure I know everything

I need to know about my clients,” says Christianson, who is theauthor of Managing the Bull – Detect and Deflect the Crap. A No-Nonsense Guide to Personal Finance. “When it comes to construct-ing investment portfolios for clients, we start by determining theoptimal asset mix for each client. Then we look at what they alreadyown, make changes where needed, and ultimately build a portfo-lio of ETFs and various specialty holdings. Our clients typicallyonly hold individual securities if they came to us with these exist-ing positions they wish to retain. As far as individual product

“The majority of one’s financial success comes from proper financialplanning first, followed by strategicasset allocation decisions, and finally— of lesser importance — individualmanager/stock selection. We filterout the noise by focusing on whatreally matters to the client.”

— Dylan Reece, Nicola Wealth Management

“Filtering through all the noise is a huge challenge. One method is tonarrow it down to a couple ofsources that you trust, and focus onthem. Otherwise, it can overwhelm.”

— David Christianson, National Bank Financial Wealth Management

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* Time to double determined using a logarithmic formula which fi rst calculates the factor of exponential growth that would be required to double a single unit of measure, then determines the compound growth rate that the given interest rate will have on that investment, and fi nally divides the exponential growth by the compound growth rate to determine the number of years a given investment will double. Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing. Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated. Bissett Investment Management is part of Franklin Templeton Investments Corp.

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going nowherewith low-yield investments?

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selection is concerned, our firm has recommended lists, but ofcourse we have the discretion to deviate from those recommenda-tions as appropriate.”Dylan Reece has a similar approach: “Once the planning is com-

plete, we look at strategic asset allocation, which we approach likea pension plan. We have a number of model portfolios that reflectour macro-economic views and investment philosophy, but weadjust the models based on the clients’ unique objectives, risk tol-erance and external holdings.” Reece “eats his own cooking” too,since the partners and staff of Nicola Wealth Management investalongside of their clients in similar investment portfolios.

Information OverloadIt seems one way advisors can effectively filter out the noise is byfocusing on larger, more important issues such as financial plan-ning and asset allocation. Yet, ultimately, advisors must make invest-

ment recommendations to their clients. So how do they wadethrough the sea of information available and develop advice inaccordance with their investment philosophies?“Conflicting information in our business is sometimes a good

thing. We can read about different points of view and ultimatelybe better prepared to formulate our own investment thesis,” saysReece. “For example, you may see two analyst reports — one witha strong buy and one with a strong sell. By reading both viewpointsand valuation methodologies, we can get a sense of how each ana-lyst interprets the company’s business prospects and their ratio-nales, thereby helping us formulate our own opinions.”It’s like Warren Buffet says about successful investing: while

filtering out the noise may sound simple, it’s anything but. “It’sis a huge challenge. One method is to narrow it down to a cou-ple of sources that you trust, and focus on them. Otherwise, itcan overwhelm,” adds Christianson. “Unfortunately, there’s noeasy answer. For me, a lot of it is experience and instinct, and

12 FORUM JANUARY / FEBRUARY 2013

exercising common sense. Mutual fund road shows can beinformative and very persuasive. But we must keep in mind theyare typically focused on what can be sold now, and what’s hotnow, which is often at the time when that trend has run its course.”As for digesting forecasts, research and reports, Christianson

offers this advice: “Analysis reports and hot tips [should be taken]with a grain of salt, and for the most part ignored. If you comeacross two conflicting reports, chances are there is a middle groundthat is the right answer.”

Educating ClientsAdvisors know that helping their clients focus on bigger issues,such as comprehensive planning and establishing an appropriatelong-term asset mix, is much more important than trying to fig-ure out if security X is going to outperform security Y over thenext period of time. But what about when clients ask such ques-tions? How do you manage things when, after watching TV or surf-ing the web or reading a newspaper, they have become convincedthat now is the time to move out of oil and into gold, or out ofenergy and into financials?Barbara Stewart, CFA, an investment advisor with Cumberland

Private Wealth Management in Toronto, discusses the importanceof educating clients. As Stewart points out, advisors learning howto filter out the noise for themselves is one thing, but helping theirclients do the same is equally important. “I think this topic is anextremely important one. In fact, I would say that coaching clientson this issue of filtering out noise is a fundamental part of our jobas advisors,” says Stewart. “It is our job to educate clients as to hownoise is or is not relevant to their investment strategy. Once theyunderstand the role of noise in their plan or strategy, they willbe less vulnerable to all of the conflicting opinions in the market-place.”Stewart describes her approach for setting the proper frame-

work with clients. “I start by defining three concepts: strategic assetmix; capital market conditions; and tactical asset allocation. Yourstrategic asset mix is determined from a thorough discussion aboutreturn requirements, risk tolerance, time horizon, liquidity needs,and more. These would typically be the items identified in aninvestment policy statement.”By establishing these fundamentals, Stewart is able to work with

her clients to determine an appropriate asset allocation. For exam-ple, a typical allocation might look something like zero to 20 percent cash equivalents, 20 to 40 per cent fixed income securities and40 to 60 per cent equities.“Next, I discuss capital market conditions. This is essentially

the ‘noise’ we need to keep a handle on. But it’s important we dis-cuss an overall perspective and view on the economy and worldmarkets,” adds Stewart. “And finally, we discuss tactical asset allo-cation, which is where the first two points come together.Depending on our perspective regarding capital market condi-tions, we will decide whether to be more or less invested in therange for each of the specific asset classes.”As Stewart points out, it needs to be clear to clients how the

market environment is factored into their investment plans. “Getthem to understand that they have a well-thought-out strategic

INVESTING

asset mix, which is based on their own input, personality andsituation. Also, they should understand that there is an associatedtactical asset allocation decision, which is based on a well-thought-out perspective on capital markets. If this is understood, there isfar less likelihood that they will become concerned about conflict-ing views.”For Stewart and the other advisors FORUM spoke with, it isn’t

about being right all the time. “It’s about having a well-defined planthat will work over time,” she says. “And by engaging in this typeof discussion, whenever there is a lot of noise and conflicting opin-ions, we have something concrete to guide us.” �

MICHAEL CALLAHAN, CFP, is a financial planner at RBC Investments inOttawa and can be reached at callahan_michael@yahoo.com.

“It is our job to educate clients as to how noise is or is not relevant totheir investment strategy. Once theyunderstand the role of noise in theirplan or strategy, they will be less vulnerable to all of the conflictingopinions in the marketplace.”

— Barbara Stewart, Cumberland Private Wealth Management