Retirement Planning Global- Chapter-1

Preface Retirement planning in a financial context refers to the process of making financial provision for retirement. This normally results in the purposeful setting aside of money or other assets, with the intention of deriving an income from those assets at retirement. The goal of retirement planning is to achieve financial independence, so that the person should not be compelled by circumstances to work after retirement. Retirement planning is the process of establishing an income goal and gathering information about its potential sources at retirement. In other words, retirement planning is a process, which starts with estimating how much income a person will require after retirement to maintain a comfortable standard of living. Can you imagine your future with the financial support from your family if you didn’t see the value in planning for retirement? It would then become your children’s responsibility to take care of you. In your retirement, you shouldn’t be dependent on anyone, let alone your own family. Having a firm plan in place will make sure you don’t become a financial burden on those you love the most. You want to be in a position to help out a family member’s financial situation, not make things worse. Retirement planning is a part of financial planning addressing one’s purpose and aims to: ➣ Assess a clients’ readiness-to-retire given a desired retirement age and lifestyle, i.e., do they have sufficient money to afford such a phase? ➣ To identify clients’ decisions or actions to improve readiness-to-retire Retirement planning encompasses the plans and actions that individuals engage in to prepare for a smooth transition, from a life based mainly around working, to a life based mainly around not working. Retirement planning is especially important for business owners because their retirement is their own responsibility. With no company PF/Gratuity/Pension Plan as support, their standard of living in retirement is up to them. One of the first steps of retirement planning is to assess your current financial situation and figure out how it relates to your goals for retirement. CFP Level 2: Module 1 – Retirement Planning Page 1

Therefore, it is an “honest attempt” to figure out the amount of money you would need to invest every month in order to lead a comfortable retired life. The reason we say it an honest attempt is because it requires you to predict the future, which is almost impossible. For example, what sort of returns will your investments get over the next 20 or 30 or 40 years? How will the rate of inflation change over this time period? It is difficult to answer these questions with certainty. However, it is possible to take a careful look at the past, and make some educated guesses about the future. Traditionally, retirement signifies a release from the toil of work. Retirement means freedom and, with luck, an active, carefree leisure—relaxation and a chance to pursue long-postponed dreams and ambitions. By age 55-56, the individual should have discharged all his worldly duties i.e. Children’s education, their marriage and should be saving enough for his comfortable retired life. Once he is retired having a good corpus, the couple can spend more time on pursuing hobbies, give more time to yoga and meditation and on self-improvement. People see retirement planning as something that could be postponed till tomorrow. The fact is that the earlier you start, the more you are able to accumulate. Pension by employers used to be a regular source of income after retirement till a person is alive, but now even central and state governments have shifted to Defined contribution system in place of Defined Benefit plan. As there are no defined pension benefits, it becomes all the more important to plan for retirement. This course will explore retirement planning areas including:  Understanding clients’ retirement goals  Determining funding amounts needed to provide required retirement cash flow  Options for accumulating desired funds  Assessing available resources  Distribution options and concerns, including ensuring funds last throughout the client’s lifetime This course will explore retirement planning to prepare you to develop strategies and use techniques for wealth accumulation and withdrawal during retirement years; taking into consideration asset locations and the client’s personal financial goals, risk tolerance, risk capacity, and structure and impact of public and private retirement plans on the client’s financial plan. CFP Level 2: Module 1 – Retirement Planning Page 2

Chapter-1 Retirement Principles Learning Objectives Upon completion of this section, students should be able to:  Explain the value of planning for retirement  Analyze strategies for funding retirement Topics  Value of early and consistent planning for retirement  Investing for retirement • Accumulation strategies Introduction When a person works in any organisation, retirement age is mandatory so he is very well aware about number of his working years and age of retirement. Sometimes poor health can make continuing to work a practical impossibility. In that case, he has to plan more efficiently as number of working years will be less as compared to earlier and more number of years are shifted to distribution stage ( when income stops). When there is no mandatory retirement age, the decision to retire can be more complex. Social and cultural norms can influence the decision, as can relational issues, personal life choices and goals. Additionally, the need to accumulate sufficient money to fund retirement can greatly affect the decision. This chapter will begin by looking at some non-financial retirement planning aspects. Then, it will explore the financial implications of building an investment portfolio to fund client goals. In the process, we will have to evaluate consumer attitudes toward retirement planning and consider education to provide guidance. CFP Level 2: Module 1 – Retirement Planning Page 3

Meaning of Retirement What does retirement mean? You can expect many answers to this question. Earlier people used to wait for retirement so that they can sit around in a rocking chair and getting older every day. These dreams are no longer valid for most people. Retirement can mean starting a new business, getting additional education, travelling the world or to see children and grandchildren, shifting from one job to another, consulting, expanding hobbies, donating time for charitable causes, and much more. At some point it may even include relaxing in a rocking chair. When you have to start conversation with your clients about what is their understanding about retirement, it is not just an interesting conversation starter. A person’s view of their retirement will provide the foundation for developing their retirement plan. A plan for someone who intends to spend most of retirement sitting at home and one who wants to get an advanced university degree or start a new business will involve different approaches. Therefore the firstand most important retirement planning step is to gain a clear understanding of what retirement looks like to the client. Have you heard “I have stopped working but I have not stopped earning”? We all assume that once a person reaches retirement age, he or she wants to stop working. If this is the case, the primary planning goal becomes providing enough money so the individual has sufficient capital or available cash flow to stop working. However, while leaving a current full-time job may be desirable; ceasing to work or remain active is rarely the goal. Let’s look at a variety of activities clients may take up in retirement.  Additional education: A person may wish to join some course of his interest and go back to university to continue education and perhaps get an advanced degree. He has to provide extra money for the education. The newly retired person may have the time and the desire to study.However, in addition to the personal satisfaction gained, it is also possible that an advanced degree may help the retiree qualify for a new job, or start a new business. In this case, even though the education is a financial drain initially, the new degree or skills might help generate additional cash flow over time, which could eventually offset the initial expense.  Giving back: Some retirees plan to give back to society as they spent lifetime in earning a living. It is the time to give back to society. Top executives may take the opportunity to coach entrepreneurs or newly minted managers on how to succeed in business. Lawyers might provide legal services for non-profit organizations at little or no charge. Teachers may help educate children who cannot afford a coaching. Healthcare professionals may join an organization to provide medical care for those who would otherwise have little or none. CFP Level 2: Module 1 – Retirement Planning Page 4

All these activities will involve spending. A person has to plan separately for these activities during his working life itself. Sometimes, individuals keep a percentage of their corpus for contributing to society.  Starting a business: Starting a business is a dream of many retirees. Since they could not start the business earlier as they had to meet various family responsibilities, they want to start their dream business now. They may be avid gardeners and want to share their knowledge and the fruit of their labours with others. People sometimes want to expand a hobby into a business or grow a small business into a larger one. Doing this can be extremely rewarding, and potentially lucrative. However, business start-ups do not come with cash flow guarantees, and often result in much more cash flowing out than in. If successful, a new business can provide a good retirement cash flow supplement. However, the individual should carefully consider the amount of money he or she is willing to invest in a new venture to put a cap on the resource- draining potential.  Travel and hobbies: Today’s retirees look forward to traveling during retirement. There are many places to see and cultures to experience. Also, parents want to spend time with children and with grandchildren. Retirement seems the perfect time to travel, and it is, as long as the client’s health and money are there to support this activity. In fact, there are a few activities that fit into this category. Retirement provides the free time to do new things, but the client must exercise care in the amount of money allocated to these types of recreational pursuits. This is especially true during the early years of retirement, because once money is gone; it is gone, with little opportunity for the client to earn more. Earning money becomes difficult after retirement so planning spending very carefully becomes very important.  Working at a new job: May people wish to retire from their present hectic job and start a new job which gives them more time for rest and recreation. A person might have worked for the same employer for many years, and likes his or her job, but wants a venue change. While not guaranteed, a cut in cash flow would likely accompany such a change. Loss of benefits (e.g., healthcare or pension) is another area that could be an issue. On the other hand, shifting to a part-time or consulting arrangement can be a good way to supplement retirement cash flow, and can also serve to keep the retiree active. This list is in no way exhaustive. There can be more options which can be considered by retirees to keep themselves busy and healthy. One can become Yoga instructor; it will help in himself maintaining good health and also contribute to society by making people aware about benefits of yoga. Each of the activity also has the potential to have either a positive or negative impact on retirement cash flow. It is CFP Level 2: Module 1 – Retirement Planning Page 5

important to remember that there are no right or wrong options (except, of course, those that are illegal or demonstrably unsound financially). Understanding Client Goals For financial advisor, understanding the goals of clients is very important before giving them any recommendation. There are several implications, including those that specifically are financial and may impact funding for the individual’s desired retirement choices. You should have good listening skills to have deeper understanding of client’s goals. How will you do this? Roy Diliberto, in his book Financial Advice: The Next Step suggests the following to guide the process (Diliberto, 2006, p. 69):  Begin the dialogue by reviewing clients’ answers to preliminary questionnaires.  Ask about the future – not retirement.  Help them to discover what is important to them.  Uncover current and future transitions.  Ask about your clients’ attitudes about charitable giving.  Be a biographer – ask about your clients’ histories.  Discover your clients’ values and attitudes about money. Diliberto encourages advisors to get to know their clients. Don’t just know about them, know them. Understand the client’s values, his or her dreams. Learn about their personal and family history to uncover what is important to them, and the concerns they have. Focus on the present but also learn what they hope to accomplish in the future. Some part of the process might include guiding them to look beyond themselves to helping others. All of these things will help the advisor understand client goals, and help him or her to develop an appropriate retirement plan. Importance and Relevance of Retirement Planning: A comprehensive financial planning of an individual should aim at more than one objective. Though, ultimately the aim of every plan is to have a more comfortable life, various stages of life require different kinds of planning. One of the important stages of life, which require careful planning, is retired life. As we have seen in the introduction, people no longer can look forward to retirement as a quiet phase of life to be spent with the family. Today, people anticipate vibrant retirement in which, they would like to enjoy life to the hilt without any financial dependency or penury. Now, this anticipation is easier said than done. In fact, achieving CFP Level 2: Module 1 – Retirement Planning Page 6

what is anticipated in retired life is the most difficult part of financial planning in today‘s environment. The difficulty is not merely because of the changes in the social fabric, whereby, informal joint family system, which was flourishing in our country till recent past, has started disappearing. It is the changes in the economic environment, the changes in the world of medical science and the increased longevity that add to the many woes of the persons in their retired life. It sounds rather ironical that certain advancements made in the world of science are actually seen as causes for increasing the worry of people. 1. Due to improvements in medical science, the longevity of the people and the capability of treating diseases, which were hitherto considered to be life threatening, have improved by leaps and bounds. 2. Greater urbanisation, improved living conditions and better facilities also resulted in reduced family sizes and mobility of labour. Hence, the joint family system with one earning member taking care of a bigger family consisting of members, who are not earning, is collapsing. With advancement of medical science, the cost of treatment of ailments has gone up manifold and it is almost becoming impossible to finance the medical expenditure unless it is planned through a system of healthcare financing. To cap it all, the working span of a person is also reducing, with longer educational span and reducing retirement age because of fall in productivity and efficiency of labour at old age, add to the problems or difficulty in planning for a longer and comfortable retired life. While these problems have become more acute with passing time, people who are in the prime of their youth do not realise the need for starting a retirement plan early in their working life. They are becoming more obsessed with the current needs and improvement in the quality of life of the present unless someone makes them aware of the need to plan for a retirement and set aside a portion of the current income towards creating wealth meant for retired life. It is here, that the role of financial planners like you become of crucial importance. This does not mean that you will straightaway put every client of yours into a state of panic by presenting a gloomy picture of the future and divert all his savings towards retirement benefit building. It only means that Retirement Planning has to be an integral part of the financial planning of every individual and the quantum and the proportion of the financial plan that will go towards retirement planning would depend upon many other factors that we would be discussing throughout this module. The basic characteristics of an individual‘s financial planning should include the following core issues: a) Maintenance of present family living standards and continuing the same in future through income support after retirement. CFP Level 2: Module 1 – Retirement Planning Page 7

b) Building up funds for emergencies like accidents, disability, critical illness or chronic sickness. c) Providing for expenses on large anticipated outlays such as purchase of residential accommodation, helping the children through financing expensive professional education and providing financial support for a start-in-life for them. Value of Early and Consistent Planning for Retirement Do the Hard Work Doing the hard work does not mean learning about clients goals and developing a plan (although it is time consuming) and also doing calculations to find out how much he needs to invest per month. The actual hard work is helping clients realize they have to adjust current lifestyles to achieve future goals. As Saly Glassman points out, you should expect to pay a price – either now or later – for the choices you make about handling your money (Glassman, 2010, p. 103). For many people, current lifestyle choices inhibit their ability to save for their future. As a result, a big part of retirement planning must focus on current cash flow management. Let us take an example to understand this. Assume a person will need to accumulate Rs.2 crore by age 65 to fund his or her retirement. If this individual begins setting aside money at age 30 and can earn an average annual return of seven percent, he or she would have to make annual periodic contributions in the amount of around Rs.1,35,215 to achieve the goal. This would mean the person has that amount less to spend for other pursuits. It also means that sometimes, the person may have to forego certain purchases that might otherwise be desirable. However, a person with that kind of retirement goal usually will be able to save a little more than Rs.11250 each month (@Rs.2812/week). Shift the timeframe forward 10 years, to starting at age 40 and the annual amount becomes almost Rs.295525. Waiting until age 50, the person must save almost Rs.743825 annually. By waiting to begin saving for retirement, the individual creates his or her own difficulties, to the point that eventually, the person has little or no hope of accumulating the required amount of money. The causal factor in all this is the individual’s lack of ability or desire to make the lifestyle changes early in adulthood required to support future dreams and goals. Getting the client to see this and act accordingly is the advisor’s hard work. Bigger Picture Here we are talking about how the client visualises his future during retirement. Many people are not able to articulate their future goals. Here the financial advisor needs to play a role. Money accumulation is very important but there is more to retirement planning than the money. Putting first things first requires understanding a client’s goals. Doing this is not necessarily as easy as you might think. Unfortunately, many individuals have difficulty articulating future goals. Further, a large group of CFP Level 2: Module 1 – Retirement Planning Page 8

individuals, when asked to envisage their retirement years, can barely bring to mind a vague picture of no longer working. Beyond that, they cannot foresee, let alone state, concrete plans or future goals. However, until the advisor can help a client do this, retirement planning will only be nominally effective. Without clearly stated goals, you have no way to know the ultimate destination. This means you also have no way to identify how much funding will be required, by when. Retirement Accumulation Investment Portfolio Let us assume that the client has at least 15 – 20 years’ time before beginning retirement. This time period is important, because when available time is much less, investment options get narrowed down considerably and the inherent investment risk factors also play its role. In fact, with only five years in which to accumulate funds, the individual will mostly be limited to bank fixed deposits, Post Office Time Deposits, Debt Funds of Mutual Funds and debt oriented Balanced Funds of Mutual Funds. Why have these limitations? Five years is too short a time to invest in any investment with normal volatility. There is a good possibility that the individual’s portfolio will experience a downturn at the time he or she needs the funds. Since retirement lasts quite a few years, there’s time to allow for greater investment diversity. However, during the initial retirement period, which normally coincides with higher spending levels, it will be important to focus on savings that have a much lower level of volatility (i.e., risk). Assuming that we have sufficient time to invest money to fund retirement, we can consider potential investment vehicles. The overall amount to invest is one of the first considerations. For individuals with relatively small amounts of investable income, focusing on collective/pooled investments (e.g., mutual funds, ETFs, UITs) will make the most sense. Individual stocks, bonds, real estate, and similar, may allow for more targeted investments, but using them also requires larger amounts of money to diversify properly. High net worth (HNW) clients may consider using more individual investment options, but they also may prefer collective/pooled investment options/Mutual Funds. While building a portfolio, taking too much risk is not sensible, taking too less risk is also not prudent. Greater return almost always requires accepting a higher level of risk. Individuals who are excessively risk-averse often put their funds in vehicles that barely have any earnings relative to inflation and the cost of living. While this may seem safe it will not help the individual address on-going purchasing power requirements. Average global inflation rates have averaged around three percent (with some countries like India experiencing rates that are 5-6%). In a three per cent inflation environment, the cost of almost any item will double in slightly less than 25 years (well within the average retirement period timeframe). CFP Level 2: Module 1 – Retirement Planning Page 9

Current interest rates on safe government or high-grade corporate investment notes around the world vary, but on average, are around two per cent or less (some countries even have negative interest rates). While individual putting money into one of these interest-bearing accounts is unlikely to lose principal, he or she is very likely to lose purchasing power over time, with applied interest not even keeping pace with inflation. This means an average person’s standard of living will gradually decrease. A more prudent approach is to invest money where the return is at least likely to equal or exceed the rate of inflation. This way, the individual can maintain purchasing power over time, and maintain a desired standard of living. Accumulation Strategies All the strategies and guidelines which we follow to accumulate money for various goals remain applicable for creating retirement corpus as well. The idea is to accumulate as much money as possible, while remaining true to the client’s risk profile and money philosophy. The strategies we will focus will be applicable during the accumulation period, and throughout the retirement distribution period. There areMicro Level (Client Level) and Macro Level (Economy, Industry level) changes taking places on an on-goingbasis.Client situations and goals change. Investment returns change. Inflation rates and cost-of-living percentages change. Expenses change. Most of life, and especially financial life, is in a more-or-less constant state of change. For example, we may assumeof a 5per cent inflation rate and a 9% average annual rate of return while planning for retirement goal but actual return and actual inflation may vary calling for review of portfolio every year at least. I always suggest evaluating portfolio created for any financial goal at least every 6 months. . I am sure you remember standard deviation? Standard deviation identifies the degree to which returns vary from the mean or expected return. While standard deviation has several applications, one is related to both accumulation and distribution of retirement funds. Especially in an investment with high variability, the environment in which an individual deposits or withdraws money has a great impact on the size of the accumulated funds. All things being equal, lower standard deviation is better than higher standard deviation. This will become especially relevant when we look at portfolio distributions and sequence risk in a later chapter. Accumulation calculations are often made assuming consistent returns. And the forecasts are almost always based, to some degree, on historical returns. Historical returns are ok to create base but future returns and risk may be different calling for need to review regularly. CFP Level 2: Module 1 – Retirement Planning Page 10

Monte Carlo analysis, named after the gambling center in Monaco, is a probability simulation model that, in simplified terms, attempts to analyze and synthesize a large number of prior-year investment returns. It then runs repeated simulations to determine how likely it is for a particular outcome to result from the inputs. The analysis includes a range of possible future outcomes based on a very high number of randomly generated processes, which explore quite a few different scenarios. When used with retirement planning portfolios, Monte Carlo analysis attempts to estimate not only how much money an investor’s portfolio may accumulate, but also how long the money will last. A Monte Carlo analysis will incorporate inputs, such as interest rates, number of years until retirement, spending plans (goals and habits), portfolio make-up and diversification, along with anticipated years living in retirement. From these data points, the analysis will project the likelihood that a client will achieve retirement financial goals (Paul V. Sydlansky, 2017). The following chart (Kitces, Monte Carlo Analysis, 2017) shows an example of what a Monte Carlo simulation can look like. While it may appear a confusing mess of lines, it’s actually showing many possible outcomes based on advisor inputs. This analysis does not forecast based on future results based on straight-line investment returns (e.g., large cap stocks will average 10per cent annually year-after-year), Monte Carlo analysis reaches back into history to capture actual returns over many given periods. As an example, rather than simply using a consistent +12per cent annual return, the analysis will identify that one year the return was -10per cent, the next it was +30 per cent. The two returns average 10 per cent but not as an annual 10 per cent return would forecast. With this scenario, rather than a 10 per cent return on Rs.1, 000 over two CFP Level 2: Module 1 – Retirement Planning Page 11

years resulting in Rs.1, 210, the analysis will show a two-year return of Rs.1,170. (Rs.1000* (1-10%)= 900, (Rs.900 *1+30/100= 1170) If we take average return of 10% p.a. for 2 years it will be=(Rs.1000*1.10*1.10= 1210), it can also be done using CMPD function in your calculator-CASIO FC200V. That Rs.40 may not seem like much, but over a 25 or 30-year period the variance can make a big difference, especially in the distribution phase of a retirement portfolio. Run that type of scenario thousands of times to reflect 30 or more years of returns and you can begin to see how Monte Carlo analysis can provide valuable information. In that respect, it is a useful tool. But we need to understand that Monte Carlo analysis may be a useful tool, but it has a significant problem. It depends on the provided data, and we have already seen how past returns do not necessarily reflect future results. Mutual Funds also come with a warning that past returns do not predict future returns accurately. There is no way to incorporate all the variables that may arise. Just as no one can accurately predict future market results, it is impossible to know what will happen to the client’s financial or personal situation, the economy, government and taxes, health and technology developments, etc. over time. You can run thousands of Monte Carlo iterations, and still not be any closer to predicting actual future returns. However, Monte Carlo does help develop guidance as to probabilities that a client may or may not achieve future investment goals, especially when paired with historical return data. It will not accurately predict future investment results, though. An advisor who runs a Monte Carlo analysis for a client will be able, based on the software’s built-in assumptions and advisor input, to tell the client the likelihood that he or she will succeed or fail in the attempt to reach a goal (both the accumulation and distribution sides). An advisor, for example, might be able to tell a client that he or she has a 70 per cent chance of success (which unfortunately, also means a 30 per cent chance of failure). From a theoretical standpoint, this means that in 70 per cent of the analytical iterations, the client would achieve his or her goals. Also, in 30 per cent of the iterations, there would not be enough money to fully fund goals. Such a scenario misses several key points, as Curtis further articulates:  Monte Carlo assumes that the plan never changes during its full span. This is unlikely to happen, assuming the advisor does his or her job and includes annual reviews in the planning process.  Clients in retirement tend to become more conservative as they age.  The projection does not say anything about the degree to which the portfolio failed. A small shortfall is counted the same as a large one. Failure is failure to Monte Carlo.  The projections only consider whichever portion of a portfolio the advisor includes. Other cash flow sources will have an impact on the client’s ability to maintain cash flow throughout retirement. CFP Level 2: Module 1 – Retirement Planning Page 12

In his writing on Monte Carlo, Curtis recommends an alternative or additional analytical tool of stress testing the portfolio. He identifies five core steps in the process:  Help clients create a picture of their goals.  Create a base plan using average returns.  Stress test the client’s plan for return-sequence risk and unsystematic risks.  Repeat steps 2 and 3 as necessary to create an effective plan.  Apply Monte Carlo analysis to compare results if it is helpful to a client. Stress testing includes considering things like bad timing (e.g., sequence of returns). By this we mean that sometimes an investor may experience particularly bad results for an extended period of time, because of a certain economic cycle. If this happens at the beginning of retirement, it can cause long- term difficulties. Of course, the reverse is also true, and clients can sometimes experience results that are far better than they expect. When stress testing a portfolio, advisors can evaluate potential return scenarios, based on historical data, to show the impact of asset allocation, market returns, timing and amounts of deposits and withdrawals, and the like. A stress test also can incorporate significant events, such as the global economic meltdown during the 2007, 2008 period. Some firms have proprietary software for stress testing. Advisors also may run a Monte Carlo simulation to review stress testing scenarios. Sustainable Investing Keeping in mind the risk profile of investor, asset management and investing must first focus on goal achievement. The goal should not get lost inthe effort of accumulating as much money as quickly as possible. This is unfortunate, because focusing only on accumulating as much money as possible usually results in a strategy shift, which may result in losing money rapidly rather than accumulating it. One should not chase returns to structure a retirement planning (or any other) portfolio. As Russell Investment’s Don Ezra (Global Director Emeritus, Investment Strategy) wrote, “Since I retired, I’ve come to the conclusion that the standard measure of success for retirement investing is virtually irrelevant to me and other retirees. Investment managers often spend their entire careers chasing time-weighted excess returns – also known as alpha. But retirees can’t eat time-weighted returns When a person starts accumulating for retirement, the time horizon to achieve goal is long term so investment should be made in equity through Mutual Fund route but as time to retirement approaches near, slowly a shift towards some portion in debt and then more portion in debt as time comes closer further. Let us take an example to explain this. A 30 year old starts investing Rs.10000 p.m. to accumulate retirement corpus. Since time horizon is very long term, he should invest all amount in equity. As he becomes 50 years of age, he should slowly start transferring some investments in debt CFP Level 2: Module 1 – Retirement Planning Page 13

funds so that by the time he reaches retirement age at 60, 40% is transferred to debt or may be 50% is transferred to debt. When we plan for retirement we always look at the present cost, inflation rate and future cost. Inflation will be there after retirement as well. Return on investments after paying taxes and meeting inflation need to be in positive territory. Client Attitudes and Financial Education When you meet a client to help them make their retirement plan, you may find lack of financial knowledge leading to different attitudes towards various asset classes. As we all know, with having better financial education, risk appetite of clients also improve as earlier they were not aware of many products and their risk return attributes.You cannot fault people for their investing behaviour, but you can educate them so they take a better approach. It’s good to remember that the average person is exposed to quite a bit of financial information – much of which is biased, irrelevant or invalid. A good financial advisor will include an element of education when working with clients. Your clients will benefit greatly from your unbiased information and guidance.What kind of education should you provide? You have to be careful and make sure clients understand that past performance is no guarantee of future results. If they understand that truth, then you can provide some historical return information for perspective. You can also develop sample portfolios to show theoretical results. Now, let’s look at returns from eight asset classes over time arranged from least risky to most risky (Deutsche Bank AG, 2015)[7]. Asset Class – Index Best Worst Cash 4.7% 0.0% High Grade Bonds 7.84% -2.02% Large Cap Value Stocks 38.36% -36.85% Commodities 31.84% -35.65% International Stocks 38.59% -43.38% Large Cap Growth Stocks 38.71% -38.44% Small Cap Growth Stocks 48.54% -38.54% REITs 36.74% -37.97% CFP Level 2: Module 1 – Retirement Planning Page 14

Except for cash, each asset class has had at least one year of negative returns. As you might expect, bonds had the least negative return other than cash. Think through the variability of each class based only on the information presented. You may reach two conclusions from this data. First, you never can guarantee positive returns every year. Second, if you built a portfolio of different asset classes and weights, you would decrease the maximum potential annual return, and you would also improve the worst return relative to overall performance. Specifically, if we built a portfolio based on 15% large cap stocks, 15% international stocks, 10% small cap stocks, 10% emerging market stocks, 10% REITs, 40% high-grade bonds, and used annual rebalancing, here would be the results. Asset Class Annual Best Worst Asset Allocation Portfolio 8.73% 25.9% -22.4% Information such as this may help clients understand both the variability of all investment options and the need to diversity and stick with their retirement plan even during times of volatility. CFP Level 2: Module 1 – Retirement Planning Page 15