Has investing become as easy as using an ATM? It can certainly seem that way: Put your money into an index fund and, over a period of years, your returns can potentially match whatever market index that fund mirrors. For the past nine years (since March 2009) — the length of the current bull market — that has been the "easy" choice for many investors. Index funds are thought to be so simple to use that investing in them is often labeled "passive": Investors may feel that they can just sit and watch, no work required of them.
Why do anything different? For starters, all investing involves risk, but if all or most of your assets only track the markets, when the bull market turns into a bear, you may risk losing more money than the general market. While there are few signs that the current bull market is ending, there are signs that it is maturing, which may mean more volatility — and new considerations for investors.
Understanding the challenges of "easy" investing
The idea of "easy" investing brings unique challenges for high-net-worth individuals. "They are typically in the highest tax bracket," says Chris Haverland, Senior Vice President and Global Asset Allocation Strategist for Wells Fargo Investment Institute, "so constructing a portfolio for tax efficiency is a high priority." Some high-net-worth investors may without noticing have a disproportionate share of their wealth in company stock or ownership of a private business — which may elevate risk.
There's also the current state of financial markets. Interest rates have been low for a long time, notes Kei Sasaki, Regional Chief Investment Officer for the Northeast at Wells Fargo Private Bank. This has reduced the prospects for many income-generating assets and has encouraged many investors to opt to invest in riskier assets to pursue higher return potential, which has helped drive up stock prices.
"Investors shouldn't look at active and passive investing strategies as an 'either/or' choice." — Kei Sasaki, Regional Chief Investment Officer for the Northeast, Wells Fargo Private Bank
"Passive investing tends to outperform active investing in the early through the mid parts of a market cycle, after which active tends to outperform," Sasaki says.
Choosing an active/passive investing combination
Sasaki believes that investors shouldn't look at active and passive investing strategies as an "either/or" choice.
"Being able to blend the two and having exposure to active and passive management provides the opportunity for investors to diversify," he says.
In some market segments, active management may deliver better results. "Active managers have been able to take advantage of inefficient markets such as small-cap equities and high-yield fixed income," Haverland reveals.
Thinking beyond stocks and bonds
Haverland and Sasaki point out that high-net-worth investors often can take advantage of illiquid investments, such as private equity or private debt.
"High-net-worth individuals typically have a long time horizon and lower liquidity needs, making them better suited to invest in illiquid markets," Haverland says.
These assets are illiquid because, unlike mutual fund shares or bonds traded on the financial markets, they can't be sold on demand for cash. But illiquidity brings the potential for higher return — for those who are patient and willing to choose an alternative route over what's currently thought to be "easy."
"Being able to access illiquidity, or the illiquidity premium, can help enhance risk-adjusted returns," Sasaki says. Financial advisors can use other approaches to help clients increase their return potential as well, often combining investing in traditional stocks and bonds with other types of assets.
According to Sasaki, a typical portfolio might include a core of traditional stocks and bonds, plus "satellite" investments in alternative assets, such as private capital. Investors can also access strategies such as tax-loss harvesting to enhance potential tax savings.
"Regardless of the strategies used, we feel that advisors should always start with an investor's investment goals — not necessarily with the choices that are easiest," Sasaki states. "Depending on the unique client needs and unique client circumstances, that's when a personalized approach starts to take shape."