CAPE TOWN – In this advice column Robin Gibson from Harvard House answers a question from a reader who is concerned about the risk of having all his assets with a single financial manager.
Q: I am a pensioner and have a small pension from my last employer. The rest of my income is derived from my investments.
Nearly all of my investments are managed by a single financial manager. I am happy with his performance and investment philosophy and I am sure that I can rely on his integrity and the security of my investment.
However, I am very conscious of the ‘all eggs in one basket’ risk. If my financial manager were to become the victim of a dishonest employee, all my investments would be at risk.
What would you suggest?
The risk of having ‘all your eggs in one basket’ is really multi-faceted and needs to be understood from a number of different angles.
Unfortunately many of us have a confirmation bias in that we will seek out proof to support our views, no matter how isolated that proof may be. Having all your assets with a single financial service provider is the sort of risk one worries about when citing examples such as Sharemax, Tigon or some other spectacular failure.
There are, however, probably as many individuals who have applied a focused approach with great success, but these generally don’t make headline news. For me, cases like Sharemax are the exception, not the rule.
The first level of protection which every investor should employ to their finances is to delegate and not abdicate. In other words, delegate responsibility, but know the details of where your money is.
By far the biggest risk is to the client who is not prepared to be a little bit cynical and ask their adviser some difficult questions. Remember, it is your money and only you live the consequences of what happens to it.
Firstly consider the financial adviser. Know how they are registered and licensed, and establish how they are remunerated in terms of the product solution they propose to you. Specifically ask them to detail both the percentages and values that you will pay, and make sure that they do this for every level of service provider involved.
Legislation also requires advisers to make disclosures up front. In terms of your specific concerns, one of these disclosures is what the adviser holds in terms of professional indemnity cover and fidelity cover.
These are your right of recourse should they either make a professional mistake or their staff pilfers your money. In both cases, the cover ensures the adviser has the ability to pay should something go wrong as a result of fraud or theft or a gross professional error.
The second area to consider is the product supplier. Whether you are investing in a LISP, a collective investment scheme, an endowment, share portfolio or any other vehicle, understand who holds your money and know where the risk lies of it disappearing. A crucial part of this is establishing whose balance sheet the assets sit on.
If your money becomes part of the assets of the company you are investing in, that is when the risk is greatest. Make sure that you read the documents you are given and that they make sense. If they don’t, ask your adviser since that is what you are paying for. If they baulk, head for the door!
If you cannot get to grips with the product and it does not fit well-established themes or has convoluted structures that you cannot understand and that your adviser cannot clearly simplify, then it is not the product for you.
Similarly, make sure that the administration firm is registered, licensed and has a reasonable reputation. If the service provider is recommended by your adviser, ask them to show you what due diligence they have done in making this choice, especially if the firm is not one you know or does not partner with reputable institutions.
These would largely be what I consider to be the systemic risk to your ‘eggs’. You can certainly use one adviser and one administrator if they satisfy the investigation outlined above.
The final risks to your ‘eggs’ I would consider are the market risks. There are really not that many asset classes, and understanding the risks within each is key to understanding diversification.
For example, a long-dated government bond has much higher risk than a short-dated government bond, because its capital value is more sensitive to minute interest rate changes. However they are both the same instruments issued by the same institution.
Likewise, if you have a share portfolio that is well diversified and holds steady dividend payers like SABMiller, Vodacom and Bidvest, that is lower risk than a portfolio that invests only in small market cap companies with less established track records and dividend histories.
Be aware, however, that market risk is unavoidable. The collapse of African Bank Investments (Abil) last year showed that investors can even lose capital in money market funds.
What is crucial is that investors understand the mandate they are giving their money manager and also are familiar with where the risks lie. Avoiding market risk by staying away from investing in shares, may merely expose you to inflation risk since your capital cannot grow fast enough to keep its value.
In a nutshell then, understand what the risks are to your ‘eggs’ and how your particular ‘basket’ is addressing them.
Robin Gibson CFP ® is a director of Harvard House Investment Management in Howick.
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