how to flip the switch to wealth preservation

at some point, entrepreneurs might need to change their risk perspective.

by anthony glomski

after helping clients sell a business, it’s crucial to focus on preserving wealth. this may require them to adopt a new mindset about their money, investing and risk.

more: how to outline your client’s big picture | your entrepreneurs need advice, but which kind? | three ways to work together on wealth | target the family ceo | five challenges of liquidating a business
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in the old world, you could choose not to help your clients with their investments. now it’s expected that at a minimum you will understand their investment plan and overall retirement plan. you don’t have to be the expert in every aspect of their financial plan, but you do need to make sure that all the different parts of the plan are aligned – and that all the other specialists working on behalf of your clients are aligned in their efforts.

that’s how you provide significant value.

when your clients realize significant wealth through a liquidity event, or are about to do so, they may suddenly find it quite easy to finance their current goals, desires and objectives. on the surface, they might feel like they have more money than they’ll ever really need – perhaps a lot more – at least that’s what their friends and family are implying.

but that doesn’t mean they no longer have to worry about having enough money to maintain their lifestyle in the long run. as hard-driving entrepreneurs or successful professionals for most of their adult lives, these types of clients will never be satisfied with the status quo. they’re not going to rest on their laurels and adopt an “i’ve got all i need” mentality. they have spent a lifetime building, creating, winning and always seeking more. that kind of drive is ingrained in their dna, so as their trusted advisor, the last thing you want to start doing is tell them to take their foot off the gas pedal and keep an eye on their fuel tank. you just don’t want them to drive over the financial guardrails now that they have some serious horsepower under the hood.

as a starting point, help clients realize that their money puts them in a unique position as investors. unlike the majority of people who invest in pursuit of maximum growth, your successful owner clients do not need to look to the financial markets or alternative investment opportunities to make their money. they’ve already done that through their businesses.

it’s now time to focus on preserving the money they have earn, often by overcoming seemingly insurmountable odds. yes, growth may still be one of their financial objectives, but it doesn’t necessarily belong at the top of the list. the biggest financial priority for your clients and their families now is to make sure their finances are managed intelligently so they don’t lose what they have worked so hard to build. we’ll look at what it means to make the smartest possible investment decisions in the wake of a business exit or other type of life-changing liquidity event.

rethinking investment risk, post-liquidity

“the way to become rich is to put all your eggs in one basket and then watch that basket.” – andrew carnegie

that quote from andrew carnegie certainly rings true for successful entrepreneurs. their laserlike focus on one basket – their company – is what got them where they are today.

but going forward, the single-minded approach that served them so well as business owners is probably not the best method for taking care of the wealth they have accumulated.

my team and i believe that wealth preservation – not wealth accumulation – should now be their primary concern. consider that nearly nine out of 10 affluent individuals (88 percent) say that “losing their wealth” is a major concern (source: aes nation).

if you can help clients preserve their wealth successfully, they can maintain their lifestyle, help their extended family and leave a legacy – all while avoiding financial mistakes along the way.

but the idea of investing to preserve wealth – rather than to make a lot more money – may require your hard-charging entrepreneurial clients to adopt a fundamentally different mindset.

ok, so where do i start?

as a successful business owner, your clients have probably been quite comfortable with risk. over the years, being a risk-taker – hopefully a calculated risk-taker – has served them well, and they may see risk-taking as essential to generating results both in business and in the capital markets.

but here is something i need you to keep in mind as your client’s most trusted advisor: even if a client now finds herself with more money than she’ll ever be able to spend – and therefore has no practical reason to take on significant investment risk – she may find herself drawn to “opportunities” that carry with them a sizable probability of losing most, if not all, of the investment. it’s part of her dna.

your client’s reason for pursuing high-risk investment opportunities may be to continue to grow their bottom line and satisfy their adrenaline fix. in fact, for many in your client’s position, the money is secondary to the thrill of the challenge, the hunt or the competition. mark cuban, the internet billionaire and owner of the nba’s dallas mavericks, speaks frequently about being unable to turn off his competitive engine. it can be very difficult to disengage from risk-prone behavior in favor of placing one’s assets in “boring” strategies.

when it comes to wealth preservation, your client’s propensity to take risks can become a serious issue.

what if clients believe they can afford the risk?

even if your client can now afford to lose significant sums in pursuit of huge investment payoffs, or even if they are in a position to “spin the wheel” without being impacted too severely by poor “can’t miss” outcomes, it’s simply not the smart move. taking these risks can erode their ability to make a major difference with their money later in life – for example, by taking care of multiple generations of family members or by contributing to philanthropic organizations whose values align with theirs.

your client’s longstanding comfort with uncertainty might cause them to take on more investment risk than they realize they’re taking – or intend to take. it is not uncommon for these successful individuals and families to concentrate 70 percent or more of their investable assets in stocks. but, if you look closer, you’ll see that such investment positioning is often far more aggressive than it needs to be. would your client be okay (financially and psychologically) if their $20 million portfolio suddenly shrank to $12 million or even less? we’ve lived through moments in history where this, and even worse has happened. and we will continue to have these “once in a lifetime” events. your client’s risk allocation should be based on what truly matters to them – customized and bespoke to their unique situation – not an arbitrary percentage based on their age.

consider the example of a physician who owned a lucrative independent medical practice. through his work, he learned a lot about pharmaceutical companies. he became so enamored of one pharma company in particular that he allocated his entire pool of investable assets to that company’s stock. when i met with the physician, his stake in that company had lost 50 percent of its value. during our last discussion, he used the word “hope” when talking about his investment strategy. if you take nothing else away from this story, remember that “hope” is not a strategy.

this example may seem extreme – but it’s more common than you think. i have seen hasty decisions and poor advice lead to excessive stock concentration in failed investments like enron, bear sterns, lehman brothers, countrywide, fannie mae – the list goes on. these decisions have resulted in actual permanent loss and, in the most extreme case, the investor had to go back to work because of the damage suffered from his heavy concentration in a single failed stock.

the worst part: not one of these investors needed to incur so much risk in order to maintain their lifestyle. in fact, they weren’t even aware of the amount of risk they were exposed to until it was too late.

ultimately, there are two powerful opposing forces at work as your clients seek to build a post-liquidity investment portfolio:

(1) the entrepreneurial risk-taker who measures success in terms of the amount of growth generated, and

(2) the prudent investor who desires to preserve what’s been created so that money can be used for maximum benefit.

essentially, this is every investor’s dilemma – to balance risk and return. as we noted earlier, we believe that wealth preservation should be the primary post-liquidity concern of successful entrepreneurs.

so, if a client can’t invest in singular causes, how can they invest it?

when you have clients who are habitually drawn to high-risk investing, encourage them to fill this need through other outlets – in other words, encourage them to invest their time instead of their money in these pursuits. there’s a lot to be gained by pursuing visceral hobbies, offering their expertise to friends in business and engaging in strategic problem solving for philanthropic organizations. conversely, they might earmark a small portion of their assets for a personal investment or “venture fund” so they can pursue their interests without risking any life-altering losses. it’s important to continue to support their investment in themselves and in their businesses. i have always been a firm believer that the best investment an entrepreneur will ever make is in themselves. no one knows their company – or themselves – as well as they do.

potholes on wall street

“compound interest is the eighth wonder of the world. he who understands it, earns it … he who doesn’t … pays it.” – albert einstein

investing can be difficult at times. in one sense, we have every advantage over the long term to be properly compensated for the risk we take and to enjoy having the power of compounding on our side. along the way, however, we face tremendous obstacles thanks to our emotions, the media and attempts by the financial services industry to sell us the hottest new ideas and strategies. i refer to these obstacles collectively as the “potholes” on wall street.

consider the following headlines from 2007 when the stock market was establishing one of the most significant peaks in history (and right before everything crashed):

• “stocks are on track for solid gains … there’s limited downside risk in the u.s. stock market from current levels.” (hedge fund superstar leon cooperman, fortune, august 8, 2007)
• “dow soars past 14,000 to register new all-time high, buoyed by belief that the worst of the credit crisis has passed.” (cnbc, october 2, 2007)
• “the impact on the broader economy and financial markets of the problems in the subprime market seems likely to be contained.” (ben bernanke, march 2007)
• “we expect a return to a more normal earnings environment.” (chuck prince, citibank, october 2007)

two years later, with the financial crisis fresh in our memories, the market was at it again as it fell to a bottom of historic proportions. here were some accompanying headlines:

• “we believe that 2009 will be tougher than many anticipated … the world’s first global recession is just getting started.” (ian bremmer and nouriel roubini, wall street journal, january 23, 2009)
• “it’s way too early to get back into u.s. stocks … expect meltdowns in securities backed by credit card debt, home equity, student and auto loans as well as commercial real estate.” (gary a. shilling, “field day for short-sellers,” forbes, february 16, 2009)
• “no end in sight for equities’ bear hug” (financial times, february 25, 2009)
• “dow 5000? there’s a case for it” (wall street journal, march 9, 2009)

… none of that sounds accurate. how do the experts navigate all this?

most often, they don’t. six years later, the s&p 500 had returned over 300 percent, more than tripling in value from its bottom set in march 2009. bond returns were equally perplexing. it was the consensus among amateurs and pros alike that interest rates would only go higher as the economic recovery progressed. yet rates remained historically low and bonds performed just fine (to everyone’s surprise). no doubt, we will see similar predictions with covid-19 and other future financial crises.

most of what we see and hear is just noise, but we have a difficult time avoiding it. in light of the current environment, it helps to tune in to a few consistent voices of reason and experience. sober veterans like berkshire hathaway’s warren buffett and john bogle (the late vanguard founder) long advocated the “keep it simple” mantra. neither buffett nor bogle believed in, or even trusted, wall street. bogle created a way for the average person to invest directly in the market. and buffett has gone on record as saying that once he passes away, his money will be invested in the simplest way possible.

markets are driven by fear and greed. the media is driven by headlines and provocative stories. sadly, the majority of financial news (both on television and in print) is designed to “sell” advertising and subscriptions rather than to inform and educate. maybe this isn’t surprising, but it’s often forgotten. the media is a powerful force.

but what about the pros on wall street? well, they have a very high bar: turnover, fees, evaluations based on quarterly results, and the pressure of having to predict the market in the short term are all tough. but they are professionals on wall street – in the know and very smart. how do they fare against the s&p 500? as the table below shows, not very well:

	equity funds (managed)	s&p 500	$100k compounded in equity funds	$100k compounded in the s&p 500
20-year	4.25%	6.06%	$229,891	$324,364

returns are for the period ending december 31, 2019. average equity investor, average bond investor and average asset allocation investor performance results are calculated using data supplied by the investment company institute. investor returns are represented by the change in total mutual fund assets after excluding sales, redemptions and exchanges. this method of calculation captures realized and unrealized capital gains, dividends, interest, trading costs, sales charges, fees, expenses and any other costs. after calculating investor returns in dollar terms, two percentages are calculated for the period examined: total investor return rate and annualized investor return rate. total return rate is determined by calculating the investor return dollars as a percentage of the net of the sales, redemptions and exchanges for each period.

 

the good news is that there exists a solution for every challenge – a path for navigating the potholes. while we never advocate a one-size-fits-all approach for entrepreneurs, the basic, most powerful principles are true for everyone. depending on your specific goals, values and objectives, strategies and solutions can be developed in sync with your unique situation.

posted on november 6, 2023