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Oct 28, 2020

Are investors missing the big picture? Q&A with Andrew Hall

Are investors missing the big picture? Q&A with Andrew Hall

In today's information age, investing has never been more convenient. New technology has given investors access to seemingly unlimited information and allowed them to make trades based on that information in real-time from almost anywhere. These realities allow investors to make more informed and quicker decisions when investing on their own, or if working with an advisor, allows the client to more quickly and accurately monitor the actions taken by their manager and the progress of their assets. These advancements are powerful and certainly beneficial, but while they make the act of investing "easier," they don't remove the ambiguity that still permeates the industry. All the information in the world doesn't guarantee that investors will ask the right questions when approaching the market on their own or when consulting with an advisor. So, what should they be asking? Are investors missing the big picture? We asked Andrew Hall, a portfolio manager and Narwhal's Vice President, what areas of this complex industry today's investors may be overlooking.

Let's jump right into it. Do you think people are missing the big picture when it comes to their investments? If so, why is that the case?

Andrew: "Honestly, I'm not sure that most people even know what the "big picture" is in this instance. That might sound insulting or condescending, but I really don't mean it that way. The reality is that everyone's "big picture" – their specific goal – varies. It varies from person to person, and it even varies for any one person over time. What's right for one of our clients may not be right for another client. The best path for a client today may lead us to a whole new set of objectives down the road. The targets are varied, and they move a lot. This makes the "big picture" awfully hard to grasp.

People don't like uncertainty. They want absolutes, and they want systems that readout Pass/Fail results quickly. Obviously, markets and asset classes don't work that way. They're volatile, they take time to mature, and they change every single minute. So far too often, I think, investors become captivated by the bottom line. Do I have more money than I had a year ago? If so, this is going well. Have I lost money? Uh oh, it might be time for a change.

And the reality is our industry, financial advisors as a whole, haven't been proactive enough to change that narrative. Investing is nuanced. It's not pass/fail. Yes, it's very numerical, and those numbers matter, but there's a granularity to the numbers and a lot of contexts that are often overlooked."

It sounds like you think the industry itself is partially to blame. Is that a fair assessment?

Andrew: "I think it's absolutely appropriate to make that assessment. Look, the reality is that our industry – the field of giving financial advice – was built upon a sales-dependent strategy and a commission-driven compensation structure. Historically speaking, the way to make a lot of money as a financial advisor has been to get a lot of clients (sales), generate transactions to get paid (commissions), and build relationships to keep clients. Notably absent from that formula for success: answering tough questions and providing an abundance of transparency.

To be perfectly clear (and avoid the ire of fellow advisors), that's not to say there aren't good, well-intentioned advisors who have always done things the right way, but structurally speaking, the industry has been pretty consistent in motivating people to make sales rather than spend extra time educating clients. That's not unique to financial services, by the way. When you are providing a service in a complicated arena (per your first question about the "big picture"), it is admittedly much easier to guide your clients towards an over-simplified pass/fail test and hope for the best. Put another way, if all clients care about is seeing their portfolio grow on an absolute basis year-over-year, then investment management is a pretty easy gig. I was born in 1987. The S&P 500 has only been negative for six calendar years since I was born. If success is as simple as the account growing, then advisors should have been successful 28 times over that time period. Those are favorable odds if that's all your client cares about."

If the portfolio's value doesn't do a good enough job of capturing success, what would you recommend investors look at?

Andrew: "Ultimately, investors need to be thinking a little more diligently about their portfolios—and this applies to every investor, in my opinion. I don't care if you're an aspiring day-trader on RobinHood playing with your high school graduation money or if you've got tens of millions of dollars. You should expect your portfolio to go up over time because that's what the market does, and ultimately that's why people invest. Obviously, that data-point matters, but when we review accounts (both internal accounts we manage as well as those of potential clients), we think it's vitally important to understand how the portfolio is performing in light of four major factors: asset allocation, relevant benchmarks, taxes, and fees."

Why do you place such an emphasis on those items – asset allocation, benchmarks, taxes, and fees?

Andrew: "That's a great question, and I think the biggest reason is that when we work with clients—particularly newer clients—those four topics tend to expose a real knowledge gap. None of those items are inherently complicated, but it is exceedingly rare that a new client comes on board with a pre-existing understanding of all of those items. The reality is this: If someone's investment returns make sense relative to their asset allocation and their benchmarks and the tax and fee liabilities are reasonable, that person probably isn't looking for a new financial advisor. Frankly, they probably don't need one. On a handful of occasions, we've met with potential clients who really understood those items, and those four boxes were checked. In those instances, we can't in good faith make a compelling pitch for why they should hire our firm. But that's incredibly uncommon."

Let's unpack those four themes. What are clients missing on asset allocations?

Andrew: "This is a big one. Asset allocation is just a fancy way of saying, "here's the type of investments you own." Most people own stocks in some fashion, many hold bonds. Some have exposure to real estate or gold. Some keep cash in the portfolio strategically. There are only a handful of buckets in play here. Asset allocations are almost always shown on brokerage statements, so if pressed, most folks can figure it out by looking at that pie chart. Still, very few know why they're allocated that way, and even fewer can speak to the consistency of that allocation. Monthly, quarterly and year-end statements can be a bit deceiving because they show a temporary snap-shot of the portfolio. That's helpful, but by the time you receive those statements, the data is already out-of-date because the market has moved, and trades have been made. Being 60% exposed to stocks at month-end is not the same as always being 60% exposed to stocks."

Where does benchmarking come into play?

Andrew: "Benchmarking is vitally important, and advisors know this. Frankly, I think that's why there have been many silly things done with benchmarks by professionals. I could go on and on about that, but as a firm, we really believe in benchmarking integrity, which means you need to 1. Have benchmarks, and 2. Have appropriate benchmarks. Earlier I mentioned the market being up far more often than it's down. Last year (2019) presented a beautiful case-study on why benchmarks matter. Pretty much everything was up in 2019. Large Cap, Mid Cap, and Small Cap U.S. stocks were up. International stocks were up. Real Estate was up. Bonds were up. Cash was up. Everything was up. Simply having a portfolio that was "up" was not, in our opinion, a victory. You really would have had to try to lose money in 2019, and even then, I'm not sure you could have pulled it off.

What matters is how much were you up relative to the types of investments you own. On the equity side, for example, we primarily hold Large Cap U.S. Stocks. On paper, a 20% return for those investments might have looked like a home run. We would vehemently disagree. The S&P 500 was up 31.49%, so only being up 20% would have been a cataclysmic failure. On an absolute Pass/Fail basis, a 20% gain is a 20% gain. But in this scenario, tons of money would have been left on the table.

Many investors don't know what benchmark is appropriate because advisors have told them different things. A lot of folks struggled to out-perform the S&P 500 in 2019. As a result, we saw a lot of other advisors suddenly benchmarking to the MSCI World Index, which was up about 27%—even though the client was almost entirely invested in U.S.-based companies."

Are Taxes really your problem? Aren't portfolio taxes a natural byproduct of good investing?

Andrew: "As much as I'd like to blame tax issues on our accounting department as they're the ones that actually file the returns for many of our clients, I can't do that. Taxes are a challenge to manage around, and that challenge is amplified by the fact that we've seen the market appreciate pretty consistently for over a decade. But I'd say the bigger problem here is not the tax burden itself but the lack of understanding behind it. A client should never be blindsided by his or her tax burden. Further, a client should never be writing a large tax check when there are losses available for harvesting within the portfolio. A major reason we emphasize individual stock and bond selection (as opposed to mutual funds or ETFs) is that it gives us more agility as it relates to client tax challenges. We can be proactive in trying to keep capital gains low. We can try to minimize short-term gains. We can position the portfolio to have qualified dividends as opposed to non-qualified dividends. We can prioritize tax-free income off municipal bonds. To your earlier point, to an extent, some gains are unavoidable. Dividends are going to come in, and they're going to be taxed no matter what. We can live with that, and most clients are very understanding of that. But clients need to be focused on after-tax returns too—not just the dollar value of the portfolio before the tax bill gets paid."

Fees are a hot-button issue. I'm actually surprised you had that last on your list of items to scrutinize. Are fees less important than the other items?

Andrew: "This might be an unpopular opinion, but I do think fees are less important than the other items I've discussed. If a client is appropriately and consistently allocated, out-performing appropriate benchmarks, and not getting hamstrung by taxes…then fees are a secondary concern. That being said, they can still present a big problem. I do think the industry has done a better job on the fee front over the past decade or so, though I can't necessarily give advisors too much credit as most of that is a byproduct of increased regulation. It's also good for investors that increased technology and competition have driven fees down. However, far too often, we talk to people who have no idea what their total cost of investing actually is. Most folks know their advisor fee (if they have one), and a lot know their brokerage's commission structure. Very few know what fees are embedded inside of mutual funds and other structured products. We try to be as fee-conscious as possible on anything going to a third party. Fees going to investment platforms (brokerages, mutual fund companies, etc.) don't really help the client, and they certainly don't help us. Another benefit of our emphasis on individual stocks and bonds is that we're usually able to keep extraneous fees quite low. We never require clients to custody their assets with any particular broker, but our relationship with Charles Schwab (which offers commission-free trading) has been a big win for our clients."

There's a lot to unpack here; what would you recommend someone reading this to do with all this information?

Andrew: "Honestly, start by asking questions. Any time we look at a portfolio (whether it's one we manage or one someone just wants us to review), that's how we start—and we ask the same questions about the topics above. It really boils down to those four things:

Those are perfectly fair questions to ask any advisor, and if you're managing your own assets, we'd be happy to help you find answers. It may sound like a gimmick, but if you're four-for-four on those questions with solid answers, the last thing we're going to do is try to sell you."

Andrew Hall


Andrew’s career with Narwhal began as an intern during the summers of 2008 and 2009. He was hired in a full-time capacity in 2011. Andrew oversees the strategic direction of the firm and enjoys a role split between portfolio management, client engagement and operations. He previously served on the Advisory Board for the Mercer University Student Managed Investment Fund and completed the Charles Schwab Executive Leadership Program as a member of the 2019 class. Andrew and his wife Amanda live nearby in Marietta with their two kids.

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