Private Wealth Mgt (2) Flashcards
•••••••Private Wealth•••••••
Insurance
Risks that should be insured
Severe + Infrequent = Insured
Not Severe + Infrequent = Retained
Severe + Regular = Avoided
Not Severe + Regular = Reduced
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Insurance
Net Payment Cost Index / Surrender Cost Index
Net Payment Cost Index / Surrender Cost Index:
- (+) FV of Annuity Due - FV[PMT<strong>BEG</strong> of Annuity Premium]
- (-) FV of Dividends - FV[PMT<strong>END</strong> of Dividends]
- (-) Cash in x years [only for Surrender cost index. Net payment cost assumes death = no cash balance to surrender]
- (=) FV COST OF INSURANCE
- (=) PMT<strong>BEG</strong> COST OF INSURANCE
- (=) #5 PMT / (Face Value (i.e. Death Benefit) / 1,000)
•••••••Private Wealth•••••••
Insurance
How life insurance premium is calculated?
Based on:
- mortality expectations,
- the discount (interest) rate, [i = ⬆, premium = ⬇]
- and loading
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Insurance
Does insurance reduce risk?
NO, insurance is a form of risk transfer (not mitigation)
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Concentrated Positions
Typical Objectives in managing concentrated positions
(1) reduce non-systematic risk (diversify)
(2) increase liquidity (especially for retirement)
(3) optimize taxes
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Goal-based planning (Concentrated-Position)
Monetization is needed when…
Monetize is needed when concentration affects Primary Capital (personal risk bucket + market risk bucket). Investor needs to protect the Standard of Living (SLR).
Surplus capital = Aspirational risk bucket
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Mitigating risk with a concentrated position
1. Outright sale (then reinvest, large tax liability)
2. Monetize strategies (perfectly hedge position that creates liquidity and does not generate a tax liability)
3. Hedging the value of the concentrated asset (using derivatives)
•••••••Private Wealth•••••••
Monetization
(1) Concentrated Stock Position
(1) Concentrated Stock Position
- Sell the asset:
-
Equity monetization:
- Short sale against the box (borrow and short)
- Total return equity swap
- Forward sale
- Forward conversion with options
-
Hedging Strategies
- Protective Puts: long stock + long put
- Cash-less collar: long stock + long OTM put + short OTM call
- Prepaid variable forward: “Sell” the asset forward, receiving cash at initiation.
- Other Strategies
- Covered Calls
- Index tracking with active tax management
- A completion portfolio
- Gift the asset to charity
- Exchange fund
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Monetization Strategies for Private Business Owners
- Sale to a strategic or financial buyer
- Recapitalization: staged exit. 1 - Partial sell to PE, 2 - PE raises low-cost debt, 3 - grows company, 4 - Total exit @ higher price
- Management buyout
- Divestiture or sale of noncore business assets
- Sale or gift to family members
- Personal loan shares as collateral
- IPO
- Sale to an ESOP
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Monetization Strategies for Real Estate
3) Real Estate
- High loan-to-value mortgage financing
- Sale and lease back
- Donor-advised fund or charitable trust
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Traditional vs Economic Balance Sheet
Traditional Balance Sheet = Assets + Liabilities that are generally easy to quantify
Economic Balance Sheet = Traditional BS + Human Capital and Pension Wealth (assets) + Consumption and Bequests Goals (liabilities)
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How investment strategies can be modified to account for human capital risk?
selecting assets that correlate weakly with human capital.
