Aft-Cast Financial Planning
vs. Hit-Or-Miss Forecasts
While many wealth managers rely on forecast-based simulation tools to build financial plans, we are aware that such assumption-driven and normative tools have many limitations and we are skeptical of their realism and utility.
As an example, the so-called “efficient frontier,” which represents the set of portfolios with the highest return for every level of risk, has dramatically shifted in unpredictable ways over the years.
A “comfortable” 8%-risk portfolio needed to have a 30/70 stock/bond allocation in the 2000s, but a 70/30 in the 2010s—all determined only in retrospect! With such wild and unpredictable shifts, the lesson of history is clear:
Investors cannot ensure that they will be able to cover their recurring expenses or meet their funding objectives with the variable payouts of traditional strategic asset allocation portfolios.
History shows that the conventional financial plans made for incoming retirees just ahead of the dramatic downturns that began in 2000 and 2007 were based on a completely unrealistic set of asset class and economic projections, and statistically marginalized the possibility of such a dramatic adverse sequence of returns.
As a consequence, incoming retiree investors were confronted with a rude awakening—first, their conventional financial plans failed to appreciate and alert them about the danger presented by the front-loaded bear markets; and, second, they did not provide them proactively with any effective portfolio guidance as to how to best navigate them.
For investors who have vowed to look for a better alternative, there is good news. At GNH Capital we prefer to use sophisticated “aft-cast” models that are free from economic, asset, and statistical assumptions.
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AFTCAST FINANCIAL PLANNING walks forward a specified window of time across the actual historical market record. The window is calibrated to reflect the investor’s horizon. As an illustration, a 20-year aftcast study begins by determining the portfolio viability during the 1900-1919 passage, followed by that of 1901-1920, all the way to the 102nd passage of 2002 – 2021.
The sliding time frame generates a wide-ranging resampling of conditions which is of critical importance. This methodical splicing of the historical record supplies a sweeping set of alternative investment paths. Each path reflects a distinct investment climate, anchored in a different sequence of returns, with all of them being irreducibly complex and eminently realistic.
Take, for instance, the 1929 crash, which gave rise to a generational secular bear market. Or 1983, which launched history’s longest bullish market regime. Each of them would exert a very different impact and would require a very different investment plan, if it were to happen at the beginning of a lengthy savings stretch, 20 years ahead of retirement, or in the beginning, the middle, or near the end of a 20-year retirement stretch. Aftcast captures all those distinctions.
Aftcast studies preserve the unequaled richness and natural flow that characterizes the complex interrelations that exist amongst the myriad of economic and market variables that collectively shape the performance of portfolios and determine investors’ wealth outcomes.
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CONVENTIONAL FINANCIAL PLANNING resorts to simulations, scenario analyses, and stress tests that are based on artificial datasets populated by forecasts and projections, or featuring isolated historical episodes (like the oil embargo, the Gulf War, or the crash of 1987).
As a result, conventional planning suffers from limited economic realism, is vulnerable to selection biases, is riddled with blind spots, and remains heavily constrained by its asset and economic projections as well as by the assumptions that underpin its statistical engines.
Aftcast planning augments our capability to outline and track with historical realism a great variety of contextually complex pathways of wealth formation. This gives us a dual-edge: It helps us give our clients actionable strategic advice that opens up new horizons for them, and it allows us to create portfolios that remain resilient across market cycles.