Private Wealth

Managing the assets of high-net-worth individuals has become a core business specialty for investment and financial advisors worldwide. Keeping abreast of the latest research in this field is paramount. That's why Private Wealth, the inaugural offering in the CFA Institute Investment Perspectives series has been created. As a sister series to the globally successful CFA Institute Investment Series, CFA Institute and John Wiley are proud to offer this new collection. Private Wealth presents the latest information on lifecycle modeling, asset allocation, investment management for taxable private investors, and much more. Researched and written by leading academics and practitioners, including Roger Ibbotson of Yale University and Zvi Bodie of Boston University, this volume covers human capital and mortality risk in life cycle stages and proposes a life-cycle model for life transitions. It also addresses complex tax matters and provides details on customizing investment theory applications to the taxable investor. Finally, this reliable resource analyzes the use of tax-deferred investment accounts as a means for wealth accumulation and presents a useful framework for various tax environments.

Foreword ix

Introduction 1

Part I: Life-Cycle Investing Chapter 1

Chapter 1 The Future of Retirement Planning 7
Robert C. Merton

Reprinted from The Future of Life-Cycle Saving and Investing, The Research Foundation of CFA Institute (October 2007):5–18.

Chapter 2 Is Personal Finance a Science? 19
Paul A. Samuelson

Reprinted from The Future of Life-Cycle Saving and Investing, The Research Foundation of CFA Institute (October 2007):1–4.

Chapter 3 Lifetime Financial Advice: Human Capital, Asset Allocation, and Insurance 23
Roger G. Ibbotson; Moshe A. Milevsky; Peng Chen, CFA; and Kevin X. Zhu

Reprinted from The Research Foundation of CFA Institute (April 2007).

Chapter 4 The Theory of Optimal Life-Cycle Saving and Investing 99
Zvi Bodie, Jonathan Treussard, and Paul Willen

Reprinted from The Future of Life-Cycle Saving and Investing, The Research Foundation of CFA Institute (October 2007):19–37.

Chapter 5 Is Conventional Financial Planning Good for Your Financial Health? 117
Laurence J. Kotlikoff

Reprinted from The Future of Life-Cycle Saving and Investing, The Research Foundation of CFA Institute (October 2007):55–71.

Chapter 6 The Life Care Annuity 133
Mark J. Warshawsky

Reprinted from The Future of Life-Cycle Saving and Investing, The Research Foundation of CFA Institute (October 2007):103–106.

Chapter 7 The Longevity Annuity: An Annuity for Everyone? 137
Jason S. Scott

Reprinted from the Financial Analysts Journal (January/February 2008):40–48.

Chapter 8 A Sustainable Spending Rate without Simulation 151
Moshe A. Milevsky and Chris Robinson

Reprinted from the Financial Analysts Journal (November/December 2005): 89–100.

Chapter 9 Asset Allocation without Unobservable Parameters 169
Michael Stutzer

Reprinted from the Financial Analysts Journal (September/October 2004):38–51.

Part II: Investment Management for Taxable Private Clients

Chapter 10 Investment Management for Taxable Private Investors 191
Jarrod Wilcox, CFA; Jeffrey E. Horvitz; and Dan diBartolomeo

Reprinted from The Research Foundation of CFA Institute (January 2006).

Chapter 11 Core/Satellite Strategies for the High-Net-Worth Investor 299
Clifford H. Quisenberry, CFA

Reprinted from CFA Institute Conference Proceedings Quarterly (December 2006):38–45.

Chapter 12 The Higher Equity Risk Premium Created by Taxation 311

Martin L. Leibowitz

Modified from the Financial Analysts Journal (September/October 2003):28–31.

Chapter 13 Tax Deferral and Tax-Loss Harvesting 317
Jeffrey E. Horvitz

Reprinted from CFA Institute Conference Proceedings: Wealth Management (October 2005):24–30.

Chapter 14 Tax Management, Loss Harvesting, and HIFO Accounting 327
Andrew L. Berkin and Jia Ye

Reprinted from the Financial Analysts Journal (July/August 2003):91–102.

Chapter 15 Investing with a Tax-Effi cient Eye 345
Robert N. Gordon

Reprinted from CFA Institute Conference Proceedings: Wealth Management (October 2005):31–40.

Chapter 16 Diversifying Concentrated Holdings 361
Scott D. Welch

Reprinted from AIMR Conference Proceedings: Investment Counseling for Private Clients III (August 2001):30–35.

Chapter 17 Hedging Low-Cost-Basis Stock 373
Robert N. Gordon

Reprinted from AIMR Conference Proceedings: Investment Counseling for Private Clients III (August 2001):36–43.

Part III: Tax-Efficient Wealth Accumulation

Chapter 18 Tax-Advantaged Savings Accounts and Tax-Efficient Wealth Accumulation 387
Stephen M. Horan, CFA

Reprinted from The Research Foundation of CFA Institute (June 2005).

Chapter 19 After-Tax Asset Allocation 475
William Reichenstein, CFA

Reprinted from the Financial Analysts Journal (July/August 2006):14–19.

Chapter 20 Withdrawal Location with Progressive Tax Rates 485
Stephen M. Horan, CFA

Reprinted from the Financial Analysts Journal (November/December 2006):77–87.

Part IV: After-Tax Performance Measurement

Chapter 21 After-Tax Performance Evaluation 507
James M. Poterba

Reprinted from AIMR Conference Proceedings: Investment Counseling for Private Clients II (August 2000):58–67.

Chapter 22 Taxable Benchmarks: The Complexity Increases 521
Lee N. Price, CFA

Reprinted from AIMR Conference Proceedings: Investment Counseling for Private Clients III (August 2001):54–64.

Chapter 23 Explaining After-Tax Mutual Fund Performance 535
James D. Peterson; Paul A. Pietranico, CFA; Mark W. Riepe, CFA; and Fran Xu, CFA

Reprinted from the Financial Analysts Journal (January/February 2002):75–86.

About the Contributors 553

Index 555

STEPHEN M. HORAN, PhD, CFA, manages professional education and private wealth management content for CFA Institute members. Dr. Horan has served CFA Institute as both an editorial board member and abstractor for the CFA Digest and as an ad-hoc reviewer for the Financial Analysts Journal. He holds a PhD in finance from the State University of New York at Buffalo, publishes frequently in academic and professional journals, and has authored several books. Prior to joining CFA Institute, he was a professor of finance at St. Bonaventure University, principal of Alesco Advisors LLC, and a financial analyst and forensic economist in private practice, providing expert witness testimony and preparing economic impact studies.

Managing the assets of high-net-worth individuals is a complex and comprehensive process. And with investors being asked to assume greater responsibility for their financial future—particularly as it relates to retirement planning—the demand for savvy wealth management services has grown immensely.

That’s why Private Wealth: Wealth Management in Practice—the first in the CFA Institute Investment Perspectives series—has been created. CFA Institute has a long tradition of publishing content from industry thought leaders, and now, this new collection offers unparalleled guidance to those working in the rapidly evolving field of investment management.

Organized around 23 informative pieces drawn from the Research Foundation of CFA Institute, the Financial Analysts Journal, and CFA Institute Conference Proceedings Quarterly, this reliable resource taps into the vast store of knowledge of some of the most prominent thought leaders in private wealth—from Nobel Prize winners and academics to practitioners—who have focused their energies on solving the complex problems facing individual investors.

Filled with in-depth insights and expert advice, this guide skillfully addresses the essential issues found in today’s private wealth arena, including life-cycle investing, investment management for taxable private clients, tax-advantaged savings accounts, and after-tax performance measurement. Although the work contains material ranging from practical guidance on common problems, such as managing concentrated stock positions, to frontier thinking that pushes the boundaries of traditional practice, all of the ideas found here can help you become a better wealth manager.

This guide is divided into four parts that address the critical issues in private wealth management:

• Part I puts the state of financial planning in perspective with Robert Merton’s “The Future of Retirement Planning” and Paul Samuelson’s “Is Personal Finance a Science?” and presents possible solutions to the fundamental problem of life-cycle investing.
• Part II addresses the numerous issues confronting high-net-worth investors and explores tax-efficient asset allocation and portfolio management techniques.
• Part III develops an analytical framework and rules of thumb for investors facing decisions involving tax-advantaged savings accounts such as 401(k) plans and Roth IRAs.
• Part IV describes the challenges involved in estimating after-tax performance and identifies mutual fund characteristics that drive a fund’s tax drag.

Today’s wealth managers must be familiar with both financial assets in general and the implied assets and liabilities in an individual’s or family’s portfolio. They must also have a firm understanding of the complex interactions among investments, taxes, and estate planning. With Private Wealth as your guide, you’ll quickly discover how to excel at this difficult, but important, endeavor and learn how to effectively provide optimal financial solutions for your clients.