Discretion is the Better Part of Valor...and Portfolio Management

Discretion is the Better Part of Valor…and Portfolio Management

By John H. Robinson, Financial Planner (August 10, 2023)

What is Discretion?

In September, all FPH clients will receive a request to change the trading authorization on their accounts with us from “non-discretionary” to “discretionary.” Here is the definition of discretionary trading authorization as presented in Investopedia.

“Discretionary investment management is a form of investment management in which buy and sell decisions are made by a portfolio manager or investment counselor for the client's account. The term "discretionary" refers to the fact that investment decisions are made at the portfolio manager's discretion. This means that the client must have the utmost trust in the investment manager's capabilities.”

For my entire career, I have eschewed taking discretionary trading authorization. As a financial planner, I want our clients to be engaged in the investment management process, and I was never entirely comfortable with the idea of purchasing or selling clients’ investments without telling them first, even though discretion inures no financial benefit to me. For decades, I have incorporated this view into my client-first marketing mantra. I have worn non-discretion as a badge of honor.

So Why Are You Now Asking for Discretionary Trading Authorization?

As investment advisory regulation and my planning practice have evolved over time, I have come to realize that I would do well to take Falstaff’s oft-cited pearl of wisdom from Shakespeare’s Henry IV to heart.  In today’s investment world, not only is there nothing noble in my resistance to discretion but insofar as discretion may be a valuable client service, it may even be foolhardy.

What are the Client Benefits of Discretion?

There are two big reasons why I believe all FPH clients should welcome the change to discretionary trading:

(1.) Better Cash Management – We currently have approximately $300 million in client assets under management.  Each month dividends and interest are paid into client accounts as CDs and bonds mature.  The proceeds are deposited into an FDIC-insured sweep account that earns almost no interest.  This was not a big deal prior to 2022 because interest rates were so low that there was no rush to reinvest.  However, interest rates have risen dramatically over the past 18 months, and short-term, secure, liquid alternatives now may offer yields of 5% or more.  In this higher yield environment, it is in our clients’ interest to get that money working for them as quickly as possible.  However, without discretion, we must reach out to clients individually to obtain their permission to put their cash to work. It is a cumbersome and time-consuming process. It would be so much easier and more efficient if we had discretionary trading authorization.

2. More Egalitarian Portfolio Management – One issue that has popped up on the regulatory radar is the issue of client favoritism.  For instance, if a company in my rising dividend stock universe announces its intention to cut or eliminate its dividend (thus triggering a SELL in our predetermined investment discipline), which clients are advised to sell first? Should the adviser call the clients with the largest positions first? – that hardly seems fair.  Should I call alphabetically instead? – Not sure the Yamamotos or the Zimmermans would be keen on that idea.  With discretionary trading authorization, I can place sell trades for all relevant clients with a single click of a button in the Schwab trading platform.

The Last Straw

I had been contemplating making the change from non-discretionary to discretionary trading for more than a year.  I had just been so busy and distracted that it got pushed down my To-Do List.  The event that brought it back to the top of my list was Congress’ inane brinksmanship over approving the debt ceiling at the end of May.  With millions of dollars of clients' hard-earned savings in “risk-free” U.S. treasury money market funds and T-bills maturing in June, even the remote chance of a temporary default by the treasury was not an outcome I was willing to endure with clients’ “safe-money.”  However, trading out of these positions required Alicia and me to call more than fifty clients over the span of just a few days.

While the need to act with such extreme urgency is exceedingly rare (it also happened in 2008 when prime money market funds began to “break the buck” as a result of holding Bear Stearns and Lehman Brothers defaulting commercial paper), I swore I would never go through that stress again.  If such a need for expediency ever arises in the future, I want to be able to get all clients out in just a few minutes with a single trade execution.

Summary – Still the Same Old Me

I worried a bit that this demand for trading discretion might be perceived as a sign that I am getting too big for my britches. Rest assured I am the same old me. I still want clients to be engaged and educated, and I will still keep clients informed of the need for portfolio changes.

In keeping with the principles of transparency and disclosure, I would not be entirely truthful if I suggested that the change to discretionary trading authorization does not benefit me.  As you can see from the examples above, it will save me time and stress.  However, I hope I have also demonstrated the value that this change holds for you as well. Financial Planning Hawaii and Fee-Only Hawaii remain “client-first” in everything we do, and I am perpetually grateful and humble for your trust in me to manage your life savings.