Goal-based Financial Planning: Funding The Right Investments At The Right Time

The American College of Financial Services
January 18, 2018

Planning for the future requires setting goals. Whether it’s preparing for college tuition payments for the next four years, saving for a second home in retirement, or something else entirely, every client will have a range of imminent and distant financial desires. The calculus for successful wealth planning involves knowing what needs to happen in the short term – and the long term – and knowing that clients will have the funds when needed.

But here’s the rub: it’s difficult to work toward the future if the future hasn’t been defined. That’s where goals come in.

Successful wealth management is not simply picking the right stocks or “beating” the market. Instead, to really add value and see continued success, wealth managers must come to know their clients on a personal level, understand what they hope to achieve with their finances, and help forge a path to get there by making smart recommendations that are tailored to the clients’ needs. This, in essence, is goal-based investment planning.

Why Employ a Goal-based Approach to Planning?

Goal-based planning has a number of advantages, one of which is simply getting clients to think about their goals in the first place.

“There seems to be a sort of outright behavioral motivating effect out of setting goals,” financial advisor and writer Michael Kitces said in a video produced by The American College Northwestern Mutual Granum Center for Financial Security. “When we set goals, we get some clarity around where we’re trying to go, and we’ll be a little more likely to follow through.”

Simply establishing goals provides a level of clarity that seems to help people progress down the path to achieving the goals, Kitces explained.

With goal-based planning, the future is as clear as the client’s goals.

Finding the Right Approach

The investment portfolio is not, as Dr. Michael Finke, chief academic officer of The American College of Financial Services, puts it, a “monolithic entity.” Instead, the client’s overall portfolio should be seen as a collection of investment portfolios, each of which has the purpose of funding a specific future spending goal.  

“If a client has a goal of sending a child to college, they need to determine the best way to invest for college. Is it best for them to save in a 529 plan? Or does a Roth IRA make the most sense? Perhaps the client needs a combination of accounts, given their current and projected tax situation. And what investments are most appropriate for the college savings goal? That depends in large part on how flexible the client can be if risky assets fail to deliver when the money is needed,” Dr. Finke wrote in Investopedia.

“To provide the best advice to help clients reach their goals, a wealth manager needs to understand the range of possible accounts that are available for each particular goal. He or she also need to understand how drawing money from these accounts will impact the clients’ taxes and even their eligibility for financial aid.

“This means wealth managers need to understand a range of topics that are crucial to making sound investment recommendations for individual investors that have nothing to do with picking stocks.”

Challenges of Goal-based Planning

Although developing a plan to address financial goals seems simple, wealth managers must first establish a rapport with clients to have productive and meaningful conversations around financial goals.

An advisor who has not taken the steps to more deeply understand a client might say something like: “Tell me what your goals are, and I’ll help you get there.”

Statements like this put clients on the spot. And when you put this kind of pressure on a client, they will frequently just make something up – on the spot. This, in turn, starts a cycle of planning for goals that were made without careful deliberation or necessarily complete information.

In reality, many clients don’t know what is possible and what is unrealistic with their personal financial situation. Some clients overestimate their potential, while others underestimate it. To be effective, financial planners need to be equipped to help people understand possibilities.

Having a client properly formulate and articulate their goals is a powerful tool advisors can use to get clients thinking about the compromises or trade-offs that need to happen to reach those goals, Dr. Finke said.

On his Nerd’s Eye View blog, Michael Kitces stresses that advisors engaged in goal-based planning should first educate clients on possibilities before selecting goals.

When the planning process starts, Kitces suggests “helping clients to just explore the possibilities – using financial planning software as a collaborative tool to test multiple scenarios and evaluate the trade-offs – and then select the goals with an understanding of which goals are realistic and feasible in the first place.”

Only when the perimeter of the possible is established can attainable goals be set, and appropriate plans be implemented. Successful advisors know this and will take steps to educate clients to make effective choices by helping them to understand various trade-offs.

Becoming A More Educated And Effective Financial Planner

Understanding how to talk to clients about goals is an aspect of behavioral finance that is covered in depth by the new wealth management education program developed by The American College of Financial Services.

A team of investment researchers including Dr. Michael Finke, Dr. David Blanchett, head of retirement research at Morningstar, Dr. Wade Pfau, professor of retirement income at The American College of Financial Services, and dozens more, created the Wealth Management Certified Professional® designation, or WMCP®.

The comprehensive WMCP® program delivers specialty knowledge in areas where advisors can provide the greatest value to their clients. With a focus on evidence-based research, the curriculum is designed around what an advisor needs to know to develop an efficient, goal-based investment portfolio. Here is a preview of one of the WMCP® lessons, a feature on the bucketing approach, a useful way to incorporate behavioral finance into investment management.

If you like what you see, take a look at this wealth management guide to the various stages of lifecycle planning for more information about the philosophy behind the WMCP® curriculum.