Chicken Soup for Your Retirement: How to Address Financial Fears

Posted By on Mar 24, 2014|0 comments


I met with an existing client recently in Denver, Colorado. He and his wife like to travel, and they enjoy going to Arizona to play golf in the winter to escape the Rockies when it gets cold.

I had called them several weeks ago to review their tax situation and discuss our plan for the coming year. They are financially well-off and could live on what they have in the bank. But, they don’t like paying taxes, so I wanted to work with them on how we could decrease their tax liability.

The benefit of collaborating with clients and diagnosing what they need is that you learn more about your clients and are able to address the value you can provide to them.

Needs Assessment

I began by introducing our agenda and asked them what issues they wanted to address. I also asked them about their current financial situation.  Specifically, they wanted to manage how much they were paying in taxes and wanted help to decrease their tax liability.

I learned that their current fear was experiencing another stock market decline like the ones experienced in 2000 and 2008.

Their current situation is that they own investments in stocks, ETFs and mutual funds that have large embedded capital gains from holding them for a long time, which in some cases has been since the mid-1980s. This couple is fearful that the stock market has gotten ahead of itself and another downturn could hurt them significantly like it did in 2001/2002 and 2008/2009.

The couple does not want to sell their investments and incur the larger tax bill, which could be as much as 23.5% due to their income bracket and Medicare surcharge – not to mention the opportunity cost of being “out of the market.” However, they are not sleeping well due to their fears of what the value may become if another decline in the market occurs.

With their current situation, even if their portfolio were to see a 57% decline, like the S&P 500 experienced in 2000, they would have more than enough money to live the lifestyle they want. The husband has kept a significant amount in cash since 2008 when the stock market began to decline. The wife, on the other hand, sees excitement in watching the stock market and, specifically, her account rise in value. But as my notes from past meetings attest, their risk perception does not align with the risk the wife takes.

Given their strong economic position, they could hold and do nothing. They don’t need to incur taxes on the sale of stock nor do they need to incur additional costs to lower the risk of their portfolio. But what if the emotional stress of another downturn is too much for them and they can’t “hold on” so they end up selling when the market is depressed and miss the subsequent run up? This strategy could be detrimental to their long-term goals. As such, we wanted to look at additional solutions.

Risk vs. Reward

We considered a tax efficient, risk mitigation strategy to allay their fears while also protecting against market declines.  This strategy doesn’t require them to change their asset allocation, underlying holdings or create unnecessary tax liabilities. The risk that the couple faces with this option is managing the sequence risk of returns. Being in their late 60s and experiencing two significant losses in wealth in the last 13 years, they are emotionally scared and risk making a poor decision at the precisely the wrong time.

A recent Northern California Financial Planning Association article titled, “Solving the Sequence of Returns Conundrum,” found a great way to address risk management. Paul Touchstone, CFA, Partner at Fort Point Capital Partners, suggests that “covered call option strategies reliably mitigate the negative compounding of distributions when volatility is highest – during market declines.”

Consequently, I provided my client with the concept of using option strategies to create risk management and protection for an individual’s portfolio, as suggested in the article, “Solving the Sequence of Returns Conundrum.” This solution would increase the management fees the client pays, but it would deliver some level of comfort to them as they would know that risk is being actively managed with a liquid, transparent and tax-efficient strategy.

As Touchstone suggests, “By adding extra layers of protection to portfolios with covered call strategies, advisors can offer clients a better investment experience, differentiate their business, and outperform the competition.”

Through it all, I was able to collaborate with the clients and discover what they really wanted as well as figure out how to reduce their emotional fears and lower their tax bill.

While the recommendations of financial advisors and their clients do not always blend perfectly, it is important for advisors to listen to their clients to help address emotional fears and evaluate all available tools. Together, we were able to find a solution – the options strategy – that appealed to them and eased their financial hesitations.

Next Steps

Think about how you can better collaborate with clients to get past their fears and address their needs.  Consider using all available tools in the marketplace to help your clients achieve their goals.  Look into outsourcing your non-core competencies so that you can focus on creating value for your clients.

Most advisors do not have the expertise to execute innovative, differentiated investment programs, such as option strategies, therefore utilizing a firm like Fort Point may be advantageous.

photo credit: Enokson via photopin cc

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