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Wealth Management Retirement Planning Forum



Implementing a Goal-Based Servicing Model
to Help Investors Achieve Retirem...
Agenda


    ! Introductions
    ! Dimensions of Advice: A Description of the
      Challenge
       ! Understanding the C...
Advisor Software, Inc.


    ! Andrew Rudd
      ! Founder, Chairman and CEO of Advisor Software
      ! PhD in Operations...
Advisor Software, Inc.


    ! Organization Background
       ! Founded in 1995 by Andrew Rudd, co-founder, and former cha...
First Citizens Bank Capital Management Group


    ! Eric M. Teal, Chief Investment Officer, Capital Management Group
    ...
First Citizens Bank Capital                                                                                               ...
First Citizens Bank
     Investment Products and Services



                                         External            ...
Dimensions of Advice:
    The Challenges from the Investor’s
                Perspective




8             CONFIDENTIAL © ...
The Perfect Storm


    ! Early this decade, corporate treasurers faced the
      Perfect Storm
       ! Stocks and intere...
The Perfect Storm Rages


     ! Issue: Portfolios managed in asset-only
       framework, largely disregarding the liabil...
What Does This Have to Do with Me?


     ! Households save and invest to fund:
       ! Their essential expenses (living ...
The Perfect Storm

                                                            Maine Takes A Cautious Path On Its Pensions...
The Perfect Storm

     !   State and local pension funds use different accounting rules, but they may have other incentiv...
Characteristics of the Client


     ! Asset-Liability, Not Asset Only
     ! Household: Not Individual – Multiple Entitie...
An impossible task?


     ! To provide consistent and robust advice, we need to:
        ! Quantify the household’s resou...
Connect the Theoretical with the Real World

     ! The Rockwells
        ! Overview: Affluent Family with $998,000 in inv...
Connect the Theoretical with the Real World




17                  CONFIDENTIAL © 2007 Advisor Software, Inc.
Connect the Theoretical with the Real World

     ! The Rockwells
        ! Circumstances
            • Live in a five-bed...
ASI Wealth Manager: Comprehensive Balance
     Sheet View




                                                            ...
ASI Wealth Manager: Comprehensive Balance
      Sheet View
                   Reality
                   check!
          ...
Dimensions of Advice:
        First Citizens Bank
     Organizational Perspective




21         CONFIDENTIAL © 2007 Advis...
Individual and Organizational Challenges
     Individual Complexities


                                        Investment...
Key Departmental Objectives
     Incentive Structures




          Investments                     Taxes                 ...
Wealth Management
     Life Cycle Review




                          Comprehensive Wealth Management



            Iden...
25
Source: Celent Communications
                                                                             CRM/Contact ...
26
Source: Celent Communications
                                                                             CRM/Contact ...
Representative Workflow
        of an Investment Management Platform




                                              Ana...
General Organizational Competencies




                                              Analytics:
                         ...
Platform Design
     Resources and Requirements



      Asset Management Resources                                    Adv...
Incentive Structures
     Investment-Centric vs. Advisor-Centric


     Investment-Centric Approaches Offer Analytical Ben...
First Citizens Bank
     Organizational Case Study




31         CONFIDENTIAL © 2007 Advisor Software, Inc.
Organizational Size


               Smaller institutions generally utilize a core-satellite approach to hybrid
          ...
Proprietary Management


                 Assets are still largely managed internally, how can we do this
                ...
Portfolio Construction
                       Style Box Strategy



                                                      ...
Structured Equity Products
     Tax-Aware Investment Philosophy


     Challenge     • Impact of taxes on active equity ma...
Structured Equity
     Tax-Aware Investment Philosophy



      Approach    • Our solution measures tradeoffs between expe...
Portfolio Construction
     Core Satellite Strategy



                         Private                                   ...
Core/Satellite Strategy
      Advantages

     • Benchmark Flexibility – Tax-efficient separate accounts can be benchmarke...
Optimal Core Allocation



     Core allocations range from 50% to 90% and are generally contingent on the
     following ...
Proposed Asset Allocation and Holdings




40                  CONFIDENTIAL © 2007 Advisor Software, Inc.
Holistic Wealth Management




41          CONFIDENTIAL © 2007 Advisor Software, Inc.
Holistic Wealth Management, I



     ! Build upon the Balance Sheet view of the household
        ! Recall the Balance Sh...
Holistic Wealth Management, II


     ! Next step:
        ! Formulate investment strategy for meeting cash flows of
     ...
Holistic Wealth Management, III



     ! Apply optimal strategy to current year
       ! Joint solution of the strategic ...
ASI Wealth Manager



            Five key feature areas:

            1   Household balance sheet orientation
           ...
Rockwell’s Have a Healthy Balance Sheet:
     What About Cash Flows?

                                                    ...
Cash Flow Analysis – Key Transition Years
                                                                     Potential “...
Cash Flow Analysis Key Transition Years




     Mortgage
     paid-off




                Anthony retires,
48
          ...
Holistic Investment Recommendations:
     Investment Structure


     ! The investment structure problem is one of picking...
Investment Recommendations: Julie’s IRA, Anthony’s
     401(k), and Joint Brokerage Account


     ! Investments are sprea...
Investment Recommendations: Multiple
     Account Tax Efficient Investment Selection


     ! Asset Selection – Fund selec...
What If….




                   If Anthony’s career
                 experiences a downturn




52               CONFIDEN...
Cash Flow Analysis: Anthony’s Career Downturn




53                  CONFIDENTIAL © 2007 Advisor Software, Inc.
What If…




            If Anthony were to
             become disabled




54                         CONFIDENTIAL © 200...
Cash Flow Analysis: What if Anthony Were to
     Become Disabled?




55                  CONFIDENTIAL © 2007 Advisor Soft...
Key Takeaways



56      CONFIDENTIAL © 2007 Advisor Software, Inc.
Key Takeaways, I
     Organizational



     ! The organizational problem is alleviated by incorporating
      institution...
Key Takeaways, II
     Investment Management



     ! A core/satellite structure is an optimal structure for the
      ta...
Key Takeaways, III
     Understanding the Client


     ! It is not sufficient to concentrate on the client’s financial
  ...
Key Takeaways, IV
     Investment Strategy


     ! The investment strategy is dynamic, and must be
       responsive to t...
Advisor Software and First Citizens Bank




              Questions & Answers




61                  CONFIDENTIAL © 2007...
Advisor Software,
 First Citizens Bank

Thank You
Andrew Rudd
(925) 299-7782
arudd@advisorsoftare.com

Eric Teal
(919) (91...
Advisor Software,
 First Citizens Bank

To Request an Electronic Copy of this
Presentation:

Contact:
Andrea Corry
Advisor...
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  1. 1. Wealth Management Retirement Planning Forum Implementing a Goal-Based Servicing Model to Help Investors Achieve Retirement Goals Andrew Rudd, Chairman and CEO, Advisor Software, Inc. Eric M. Teal, Chief Investment Officer, First Citizens Bank Capital Management Group
  2. 2. Agenda ! Introductions ! Dimensions of Advice: A Description of the Challenge ! Understanding the Client’s Problem ! Organizational Challenges ! Case Studies ! Holistic Wealth Management ! Key Takeaways !Q & A 2 CONFIDENTIAL © 2007 Advisor Software, Inc.
  3. 3. Advisor Software, Inc. ! Andrew Rudd ! Founder, Chairman and CEO of Advisor Software ! PhD in Operations Research, MBA in Finance at UC Berkeley ! Co-founder and former chairman and CEO of Barra, Inc. ! Finance Professor at Graduate School of Business, Cornell University ! Co-Author of "Modern Portfolio Theory: The Principles of Investment Management" and "Option Pricing" 3 CONFIDENTIAL © 2007 Advisor Software, Inc.
  4. 4. Advisor Software, Inc. ! Organization Background ! Founded in 1995 by Andrew Rudd, co-founder, and former chairman and CEO of Barra ! Privately held ! Experienced management team: Barra, Morningstar, Wells Fargo, Oracle-PeopleSoft, Bloomberg, Financial Engines, etc. ! Approximately 60 employees based in Lafayette, California ! Mission ! Provide competitive advantage for financial services institutions, empowering them to focus on core competencies and deliver more personalized advice for maximizing client relationships and increasing assets under management ! Method ! Bring institutional-caliber analytics to the financial advice market 4 CONFIDENTIAL © 2007 Advisor Software, Inc.
  5. 5. First Citizens Bank Capital Management Group ! Eric M. Teal, Chief Investment Officer, Capital Management Group since 2003 ! Investment management and oversight of approximately $7 billion in assets under management • Oversees asset allocation, overall investment strategy, and equity as well as fixed income portfolio management for the Bank • Actively conducts and oversees research and management of all structured equity investment products ! Director of Equities, managing active investment strategies for Wachovia’s mutual fund company, Evergreen Investments ! M.B.A in Finance from the University of Memphis ! Attended London School of Economics 5 CONFIDENTIAL © 2007 Advisor Software, Inc.
  6. 6. First Citizens Bank Capital Third Quarter 2007 Management Group: Quick Facts Group Background: The Capital Management Group is the investment division of First Citizens and IronStone Bank, servicing the investment and financial needs of institutional and high-net worth markets. We offer a wide range of products and services tailored for: High-net Worth Market Charitable Organizations Unions Health Care Institutions Corporations Governmental Bodies Educational Institutions The Capital Management Group and First Citizens and IronStone are performance and service-driven organizations. We believe three key elements are critical to success in meeting the needs of our clients: Focus, Talent, and Discipline. Assets: Total Assets Under Management ($mm) Equity 4,260.0 Fixed Income 1,436.0 Manager of Managers 832.6 Total 6,528.6 Professional 1 Chief Investment Officer Staff: 2 Equity Managers 2 Fixed Income Managers 4 Portfolio Strategists 4 Research Analysts 4 Systems Analyst Products: Internal and External Investment Offerings Comprehensive Wealth Solutions Capital Management Group Raleigh, NC IronStone Bank Offices in Missouri, Oklahoma and Kansas opening 4th quarter 2007 6 CONFIDENTIAL © 2007 Advisor Software, Inc.
  7. 7. First Citizens Bank Investment Products and Services External Large Cap Investment Equity Strategies Strategies Tax Aware Fixed Income Mid Cap Strategies Equity Strategies Tax Aware Passive Index Small Cap Strategies Equity Strategies Tax Aware Internal Investments – Non-Taxable and Tax Aware Strategies Manager of Managers Programs – SMAs and Funds 7 CONFIDENTIAL © 2007 Advisor Software, Inc.
  8. 8. Dimensions of Advice: The Challenges from the Investor’s Perspective 8 CONFIDENTIAL © 2007 Advisor Software, Inc.
  9. 9. The Perfect Storm ! Early this decade, corporate treasurers faced the Perfect Storm ! Stocks and interest rates dropped precipitously ! Pension portfolios, typically equity biased, dropped in value ! Pension obligations grew dramatically ! Corporate plans became severely under-funded ! Accounting standards require (part of) this shortfall to be recognized on the corporate books 9 CONFIDENTIAL © 2007 Advisor Software, Inc.
  10. 10. The Perfect Storm Rages ! Issue: Portfolios managed in asset-only framework, largely disregarding the liabilities ! Pension liabilities have little “equity” exposure ! Instead inflation and interest rate exposure dominate ! Solution: Structure the pension portfolio to match the liabilities ! Asset-Liability Management (ALM) or Liability Driven Investment (LDI) now an integral part of institutional asset management 10 CONFIDENTIAL © 2007 Advisor Software, Inc.
  11. 11. What Does This Have to Do with Me? ! Households save and invest to fund: ! Their essential expenses (living costs, mortgage payments, etc.) ! Their expected expenses (e.g., retirement expenses) ! Their aspirational goals (e.g., vacation home) ! These categories represent the claims against the household resources (just as pension liabilities represent claims against pension assets) ! The household’s challenge is to balance the claims that they face against their resources 11 CONFIDENTIAL © 2007 Advisor Software, Inc.
  12. 12. The Perfect Storm Maine Takes A Cautious Path On Its Pensions By MARY WILLIAMS WALSH 23 April 2004 (c) 2004 New York Times Company ! After being hammered in the financial markets for the last few years, many pension funds are turning to riskier investments, hoping that hedge funds, venture capital and the like will fuel returns and cover recent losses. But Maine has drawn a different lesson from the recent pension woes. Instead of shooting high, it is deliberately aiming for low, but guaranteed, investment income to pay for the retirement benefits of its workers. ! Maine's pension fund recently put a portion of its money into very conservative bonds. The bonds pay a low interest rate, but their values will rise or fall in tandem with the value of the pensions the state must pay its retirees, no matter what the markets do. The bonds' durations match the scheduled payouts to retirees. It is a contrarian approach, but one that Maine thinks best serves its retirees and its taxpayers. ''It's a source of puzzlement to me that so few people have come to the same conclusion,'' said Rex W. Holsapple, chief investment officer of Maine's system of pension funds for public workers. He said he knew of no other United States pension fund doing what Maine was doing, a strategy known as matching. ! Pension officials who dared suggest matching in recent years were scoffed at. Thomas Flanigan, formerly the chief investment officer at California's big pension fund for teachers, was dismissed in 1997 after pushing the idea at a time when stocks were red hot. But academics have said the strategy, adopted early enough, could have prevented the recent collapse of the pension funds at US Airways, Bethlehem Steel and other companies. Had those companies matched their pension funds in the late 1990's, their pilots, steelworkers and other retirees would probably still be collecting full benefits. Not only could it have saved those pension funds from failure, but it could have kept the recent pension crisis from erupting across corporate America, prompting Congress to ease requirements for funding pensions. In a properly matched pension fund, asset values cannot move down when benefit values go up. ! In Britain, the Boots Company, a retail drugstore chain, applied the strategy to its pension fund in 2000 with spectacular results – Boots locked in a surplus and its pension fund rode out the bear market unscathed. But United States pension officials have dismissed Boots' achievement as a product of British accounting rules, with nothing to offer pension plans in this country. ! Still, the concept of pension matching may be starting to gain currency. Earlier this year, the government agency that guarantees pensions announced it was matching its investment portfolio, to reduce the risk of a taxpayer bailout. ! Now Maine appears to be the first pension fund in the United States to embrace matching since the long bear market began in 2000, raising questions about whether companies and governments are investing their employees' retirement money in the most prudent way. Maine made the conversion late last year. Before the change, the investment returns on Maine's assets varied from year to year, as with most pension funds, ranging from a gain of 25.7 percent last year, when the stock market rose, to a loss of 10.4 percent in 2002, when stocks fell. These swings will not be totally eliminated, because Maine is not using bonds to match its entire investment portfolio. So far, it has matched about a third of its assets. The remainder is still invested in stocks, on the assumption that over time, the stocks will grow faster than the conservative bonds. Maine is doing this because it has a pension deficit, and an allocation of stocks may close it over time. ! But even by matching a third of its investments, Maine has made an important break with the rest of the industry. ''It's a step in the right direction,'' said Jeremy Gold, an actuary who advocates matching for both corporate and public pension plans. ''Every pension plan would benefit from having more bonds. But there is considerable advantage in taking those bonds that you do have, and matching them.'' ! To explain the new approach, Mr. Holsapple drew a comparison between the pension business and personal financial planning. Good personal planners do not urge their clients to shoot for big investment returns for the returns' own sake, he said. Rather, they find out what their clients are saving for, determine when they will need the money and then tailor investments to meet those goals. ! But the pension business works the other way around. For several reasons, pension professionals are geared to think in terms of investment returns and of peer-group rankings. The amount of money owed to retirees, and when it must be paid, do not typically enter into investment decisions. ! At corporate pension funds, this single-minded focus on asset growth is fueled in part by accounting rules. The rules reward and encourage aggressive investing, by allowing companies to project their pension returns a year in advance, then use the projected returns to bolster the corporate bottom line. If companies matched their pension funds, using conservative bonds, they would miss out on this opportunity for a paper gain. 12 CONFIDENTIAL © 2007 Advisor Software, Inc.
  13. 13. The Perfect Storm ! State and local pension funds use different accounting rules, but they may have other incentives to shoot for big investment returns. For one thing, the outside money managers who assist pension funds earn larger fees if they invest more aggressively. Also, many public pension officials are elected, and they know that a strong year-to- year investment performance is easy to grasp, and likely to impress pensioners, who vote. The virtues of a well-matched pension fund are nowhere near as immediately apparent. ! In fact, it should not make much difference to retired government workers whether their pension fund's investments soared or shriveled in a given year. Their benefits cannot be cut; governments are required to pay them the pensions they have earned, in good markets and bad. If a public plan's investments sour, and cash runs short, then the taxpayers have to chip in. ! That is happening in some places. The mayor of San Diego, Calif., has suggested a tax increase to fill that city's $1.1 billion pension shortfall. Colorado pension officials have asked the Legislature for an increase in the state's contributions, which are financed by taxpayers. The mayor of Syracuse has warned that the demands of New York State's pension funds could drive up city property taxes 45 percent. Other governments are engaging in financial gymnastics to avoid such tax increases. Texas officials have considered taking out life insurance policies on teachers, and using the payouts on those who die young to help finance retirement benefits for those who live well into old age. Many states and towns are selling bonds to generate cash for their pension funds. Still others are camouflaging their pension shortfalls by amending their funding laws. ! Mr. Holsapple's approach runs counter to such techniques. He acquired his point of view 20 years ago, when he worked in the corporate treasury department of Phillips Petroleum. First T. Boone Pickens, then Carl C. Icahn, mounted back-to-back takeover battles, and preserving the company's independence was extremely costly. Mr. Holsapple usually handled foreign-exchange transactions and short-term debt, but during the raids he was brought into the pension team, which was removing a $400 million surplus from the pension fund to pay down debt related to takeover defenses. ! Doing this did not change the employees' benefits, Mr. Holsapple said. But his dealings with the pension fund introduced him to a startling fact: while all short-term debts are measured more or less the same way, there are many ways to measure pension debts to the work force, and seemingly small variations between them can make the benefits balloon, shrink or practically anything in between. And make-or-break decisions could depend on which method was chosen. If Mr. Holsapple's team measured the benefits owed in the way the financial markets did, the benefits looked small relative to the value of the assets; that meant there was a $400 million surplus to be retrieved. But if they measured the benefits the way actuaries did, they were much larger, and there appeared to be little or no surplus at all. ! Given the company's dire circumstances, the perils of measuring the pensions incorrectly were glaring. ''I learned the ropes then, and it just made sense to me that you had to look at a pension plan that way,'' Mr. Holsapple said. ''That lesson has stayed with me.'' That was the lesson he brought to Maine, when the state pension fund hired him as its first chief investment officer early in 2002. Soon, he initiated a broad review of investment policy. ''This was many hours' worth of meetings and discussions,'' recalled Kay R.H. Evans, the executive director of the system, which consists of a few large pension funds for Maine's teachers, judges and other state employees and more than 100 small pension funds for municipal employees. Much of the talk was about Mr. Holsapple's ideas on the need to focus on the size of the benefits to the work force, and the timing of the payouts. ! The long discussions eventually brought Maine's trustees to the conclusion that they should not think about their investment portfolio in a vacuum. ''It's there to fund the benefits,'' Mr. Holsapple said. That may sound obvious to a nonspecialist, but in pension practice, it represents a watershed. It meant Maine would no longer think about its investments the way most of the industry does -- striving for high returns, and avoiding a low peer-group ranking. Instead, Maine would strive for returns commensurate to its obligations, and it would avoid drawing more tax dollars. It also means, of course, that in some years Maine is likely to look bad next to other pension funds, because the rest of the industry still charts its health, and competes, in terms of investment returns. The trustees tried to picture what it would be like, in the inevitable quarters when their selection of long-term, inflation-indexed Treasury bonds landed them at the bottom of the peer-group rankings. They wanted to be sure they would not waver and sell out at the bottom of the market. After much soul-searching and discussion, they decided their resolve was firm. ! The trustees then set about commissioning an asset-liability study, a standard tool that most big pension plans use every few years to reassess their investment strategies. That proved problematic at first, because virtually the entire industry does such studies in a way that applies one statistical method to the assets, and another to the obligations. ''I don't know how to sugarcoat this,'' Mr. Holsapple said. ''Most asset-liability studies are done incorrectly.'' He thought the flaw was severe, and likely to bias the study in favor of riskier investments. As it turned out, Maine's pension consultant, Richard M. Ennis, also had doubts about the way pensions were being measured. He brought in a new actuary who was willing to apply the same rigor to projecting the benefits as to projecting the assets. When the study was done, it confirmed the trustees' hunch that matching would be the most prudent course. ! ''It showed that if they invested in bonds that had characteristics that were more like their liabilities, the risk of having an underfunded plan in the long run would be reduced,'' Mr. Ennis said. Not only was the risk of shortfalls lessened, he said, but in many instances Maine's cash contributions would be reduced too. 13 CONFIDENTIAL © 2007 Advisor Software, Inc.
  14. 14. Characteristics of the Client ! Asset-Liability, Not Asset Only ! Household: Not Individual – Multiple Entities ! Human Capital is a resource ! Taxable and Tax-Deferred accounts ! Multiple Goals ! Dynamic Not Static Single Period ! How Much Debt? 14 CONFIDENTIAL © 2007 Advisor Software, Inc.
  15. 15. An impossible task? ! To provide consistent and robust advice, we need to: ! Quantify the household’s resources: • Financial assets • Illiquid assets (real estate, human capital, etc.), social security, etc. ! Identify and value household claims: • Financial liabilities • Present value of expenses • Value of the household goals ! In other words, we develop a household balance sheet 15 CONFIDENTIAL © 2007 Advisor Software, Inc.
  16. 16. Connect the Theoretical with the Real World ! The Rockwells ! Overview: Affluent Family with $998,000 in investable assets, not including home equity. ! Members: • Anthony: 50-year-old mid-level financial services executive • Julie: 48-year-old high school teacher, full-time mom • Two children: - Kerry (13) - Jake (10) 16 CONFIDENTIAL © 2007 Advisor Software, Inc.
  17. 17. Connect the Theoretical with the Real World 17 CONFIDENTIAL © 2007 Advisor Software, Inc.
  18. 18. Connect the Theoretical with the Real World ! The Rockwells ! Circumstances • Live in a five-bedroom, single family home in the suburb of Scarsdale New York with 10 years left on the mortgage. ! Family’s Goals • Kerry wants to go to Cornell. She loves horses and dreams of being a vet one day. • Jake: too soon to tell • Anthony: planning to retire at 65. • Julie wants to move to a smaller house in Scottsdale, Arizona when Anthony retires. • Mortgage needs to be paid • Julie would like to remodel their home in a few years • Insurance is a consideration 18 CONFIDENTIAL © 2007 Advisor Software, Inc.
  19. 19. ASI Wealth Manager: Comprehensive Balance Sheet View Balance sheet view enables Essential Goal-directed risk management Expected Human capital is a significant part of the Rockwell’s resources… Aspirational Resources & claims about on par… not a lot of room for error 19 CONFIDENTIAL © 2007 Advisor Software, Inc.
  20. 20. ASI Wealth Manager: Comprehensive Balance Sheet View Reality check! Components of primary Focus on goals primary goals Essential Margin of Safety: Can lose up to 56% of resources and still remain fully funded However, not much room for error on the additional goals Human capital dominates the Rockwell’s resources – Consider Living expenses are more than 80% of insurance? More their essential goals. At age 50, the on this later… cost of their pre and post-retirement expenses are about the same… 20 CONFIDENTIAL © 2007 Advisor Software, Inc.
  21. 21. Dimensions of Advice: First Citizens Bank Organizational Perspective 21 CONFIDENTIAL © 2007 Advisor Software, Inc.
  22. 22. Individual and Organizational Challenges Individual Complexities Investments Relationship Taxes Management HNW Business Trust Development Risk Management Integrated investment management must be comprehensive and goal based. Investments cannot be viewed in isolation. 22 CONFIDENTIAL © 2007 Advisor Software, Inc.
  23. 23. Key Departmental Objectives Incentive Structures Investments Taxes Trust •High Alpha •Minimum Taxes •Fiduciary/Legal Requirements Risk Relationship Business Management Management Development •Risk Minimization •Effective •Increase Sales Communication Different incentive structures make the organizational problem challenging. 23 CONFIDENTIAL © 2007 Advisor Software, Inc.
  24. 24. Wealth Management Life Cycle Review Comprehensive Wealth Management Identification Portfolio Wealth Goal Planning Development Management Transfer •Client profiling •Risk profiling •Market monitoring •Estate Planning •Prospecting/marketing •Asset allocation •Investment Management •Succession •Referral tracking •Financial planning •Reporting Planning •Client contact •Product selection •Client communication •Order execution 24 CONFIDENTIAL © 2007 Advisor Software, Inc.
  25. 25. 25 Source: Celent Communications CRM/Contact Management Account Aggregation Client Prospecting/ Sales Tools Advisor/Client Financial Planning/Advice Performance Measurement Portfolio Construction (Analytics & Modeling) Representative Architecture CONFIDENTIAL © 2007 Advisor Software, Inc. Model Administration Advisor Productivity/Client Profitability Compliance (Alerts system) of a Wealth Management Platform Advisor/Home Office Document Storage Central Data Repository
  26. 26. 26 Source: Celent Communications CRM/Contact Management Account Aggregation Client Prospecting/ Sales Tools Advisor/Client Financial Planning/Advice Performance Measurement Portfolio Construction (Analytics & Modeling) Representative Architecture CONFIDENTIAL © 2007 Advisor Software, Inc. Model Administration Advisor Productivity/Client Profitability Compliance (Alerts system) of a Wealth Management Platform Advisor/Home Office Document Storage Central Data Repository
  27. 27. Representative Workflow of an Investment Management Platform Analytics: Financial Fund Select Generate Rebalance/ Asset Portfolio planning Statistics, Investment Custom Monitor Allocation Compliance tools Simulations, Products Proposal Accounts Comparatives 27 CONFIDENTIAL © 2007 Advisor Software, Inc. Source: Celent Communications
  28. 28. General Organizational Competencies Analytics: Fund Select Generate Rebalance/ Financial Asset Portfolio Statistics, Investment Custom Monitor planning Allocation Compliance Simulations, Products Proposal Accounts tools Comparatives 28 CONFIDENTIAL © 2007 Advisor Software, Inc. Source: Celent Communications
  29. 29. Platform Design Resources and Requirements Asset Management Resources Advisor Program Requirements ! Investment Management ! Risk Tolerance Measures ! Accounting ! Proposal Generation ! Compliance ! Asset Allocation ! Performance Measurement ! Model Administration ! Portfolio Modeling ! User Entitlements ! Reconciliation ! Portfolio Compliance ! Reporting ! Investment Product Architecture ! Risk Analytics ! Investment Commentary ! Trading ! Tax Management 29 CONFIDENTIAL © 2007 Advisor Software, Inc.
  30. 30. Incentive Structures Investment-Centric vs. Advisor-Centric Investment-Centric Approaches Offer Analytical Benchstrength: ! Goal – develop optimal investment solution for a given client case. ! Client experience – risk/return expectations met or exceeded. ! Tools – risk questionnaire, asset allocation selection, model portfolio and investment product selection, style and sector analysis including look-through capabilities, simulation of returns (security level), mean-variance optimization, tax-lot optimization, rebalancing support. ! Result – (tactical) investment proposal, implementation plan / trade list. Advisor-Centric Approaches Support the Client Relationship: ! Goal – client acquisition / maintenance / retention. ! Client experience – consistently high quality of service and advice. ! Sample Tools – CRM including task lists and alert system, comprehensive and goal-oriented financial planning, risk questionnaire, asset allocation selection, simulation of cash flows and returns (asset class level), collaboration tools. ! Result – plan discussing client goals and needs, strategic direction, advice. Our goal was to develop the best of both structures. 30 CONFIDENTIAL © 2007 Advisor Software, Inc.
  31. 31. First Citizens Bank Organizational Case Study 31 CONFIDENTIAL © 2007 Advisor Software, Inc.
  32. 32. Organizational Size Smaller institutions generally utilize a core-satellite approach to hybrid architecture, while larger banks tend to employ a best of breed platform approach. 25% 50% Core-Satellite 100% Best of Breed 75% 50% Less Than $10 $10 Billion - $50 More Than $50 Billion Billion Billion 32 Source: VIP Forum Open Architecture Survey 2007 CONFIDENTIAL © 2007 Advisor Software, Inc. VIP Forum research.
  33. 33. Proprietary Management Assets are still largely managed internally, how can we do this better? 40.0 30.0 16.7 13.3 Extremely Mostly Proprietary Fairly Open Very Open Proprietary Source: VIP Forum Open Architecture Survey 2007 VIP Forum research. 33 CONFIDENTIAL © 2007 Advisor Software, Inc.
  34. 34. Portfolio Construction Style Box Strategy Style Box Structure may result in: Value Core Growth Diversification Divides equity exposures by size, styles, Large Cap Large Cap geography, and investment approach. Large Value Growth Institutional Portfolio Design May be unwieldy and inefficient for individual. Mid Cap Mid Cap Mid Growth Value Due Diligence/Monitoring Costly labor intensive. Best of Breed Small Cap Small Cap Focused predominantly on active Small Value Growth management. Cost Elevated Manager, transition, and tax costs. 34 CONFIDENTIAL © 2007 Advisor Software, Inc.
  35. 35. Structured Equity Products Tax-Aware Investment Philosophy Challenge • Impact of taxes on active equity management can be dramatic. Pre-tax returns and after-tax returns are almost unrelated. Annualized Compound Returns 1925 – 2006 (Net of Taxes and Inflation) U.S. Asset Return Stocks 4.8% Municipal Bonds 1.3 Government Bonds 0.8 Treasury Bills -0.9 Complexity • Trade-offs and complexities are considerable. Each account is different, requires tax lot by tax lot considerations, and is a multi-period problem. Risk • The avoidance of selling securities to defer taxes has been the standard of trust departments for years while charging active management fees. Result is a high risk pseudo-passive portfolio versus the firm’s intended investment strategy. 35 CONFIDENTIAL © 2007 Advisor Software, Inc.
  36. 36. Structured Equity Tax-Aware Investment Philosophy Approach • Our solution measures tradeoffs between expected returns, portfolio risk and taxes. Objective is to enhance portfolio expected returns while controlling for taxes. Objective • Our goal is to actively offset realized capital gains with realized capital losses, not to reduce turnover. Expected returns should be greater than fees, transaction cost, and taxes to trade securities. Custom • Successful individual account management requires the ability Solution to manage individual accounts, individually. Tax-aware investing can significantly improve after tax return of portfolios, and allow significant deferral, reduction and possible elimination of capital gains taxes for clients. 36 CONFIDENTIAL © 2007 Advisor Software, Inc.
  37. 37. Portfolio Construction Core Satellite Strategy Private Core/Satellite Structure Allows Equity for: Real International Assets Equity Unique Uncorrelated Strategies Increases asset allocation breadth. Fewer Managers FCB Non-US Fixed Structured Hedge Easier to administer and lower manager fees Income Equity Funds Products Tax Efficiency Tax management within the core may help lower and delay taxes for the overall portfolio. Emerging REITs Reduced Costs Markets Lower-turnover core results in less High Yield frequent trading for overall portfolio despite high turnover satellites. 37 CONFIDENTIAL © 2007 Advisor Software, Inc.
  38. 38. Core/Satellite Strategy Advantages • Benchmark Flexibility – Tax-efficient separate accounts can be benchmarked to virtually any standard or customized index. For Example: Large Cap: S&P 500 Mid Cap: S&P Midcap 400 Small Cap: S&P 600 • And can include the following advantages: Return Enhancements – incorporates alpha insights. Based on Client Tax Aversion Profile – based on client tax aversion fine tuned. Risk Management – diversification and completion portfolio to handle concentrations. Transitioning – efficient manager changes. Gifting – source to make low-basis stock gifts. 38 CONFIDENTIAL © 2007 Advisor Software, Inc.
  39. 39. Optimal Core Allocation Core allocations range from 50% to 90% and are generally contingent on the following factor relationships for optimality: ! Expected market returns - generally ↑ returns; ↑ core allocation. !Satellite alpha and information ratios - generally ↑ alpha; ↓ core allocation. !Satellite manager turnover - generally ↑ turnover; ↑ core allocation. 39 CONFIDENTIAL © 2007 Advisor Software, Inc.
  40. 40. Proposed Asset Allocation and Holdings 40 CONFIDENTIAL © 2007 Advisor Software, Inc.
  41. 41. Holistic Wealth Management 41 CONFIDENTIAL © 2007 Advisor Software, Inc.
  42. 42. Holistic Wealth Management, I ! Build upon the Balance Sheet view of the household ! Recall the Balance Sheet encapsulates • Characteristics of the household, including the various entities • Description of resources and claims, including goal priorities ! First question: ! Is it feasible? Can we afford it without going into (more) debt? ! Is the household “asset rich, cash poor?” ! Perform cash flow analysis ! Reduce client expectations, if necessary 42 CONFIDENTIAL © 2007 Advisor Software, Inc.
  43. 43. Holistic Wealth Management, II ! Next step: ! Formulate investment strategy for meeting cash flows of achievable goals ! An asset-liability management problem: resources are the assets, claims are the liabilities ! Requires ensuring that the complete risk structure is modeled, not just equity and fixed income ! Optimal strategy is determined which for each year of the client’s life shows • the expenses to be funded and • the level of investment risk conditional on resources available 43 CONFIDENTIAL © 2007 Advisor Software, Inc.
  44. 44. Holistic Wealth Management, III ! Apply optimal strategy to current year ! Joint solution of the strategic asset allocation and asset location problems ! Plan for near term liquidity ! Communicating the advice ! Portfolio Monitoring and Reporting 44 CONFIDENTIAL © 2007 Advisor Software, Inc.
  45. 45. ASI Wealth Manager Five key feature areas: 1 Household balance sheet orientation 2 Multiple-goals orientation 3 Financial plan risk analysis 4 Investment recommendations 5 Monitoring and recalibration 45 CONFIDENTIAL © 2007 Advisor Software, Inc.
  46. 46. Rockwell’s Have a Healthy Balance Sheet: What About Cash Flows? How much would it cost to hedge longevity risk? A few years after retirement, the Rockwells are no longer able to fund their aspirational goals 46 CONFIDENTIAL © 2007 Advisor Software, Inc.
  47. 47. Cash Flow Analysis – Key Transition Years Potential “liquidity trap” as several goals come together in a period of a few years… Maybe a good idea to hold-off on the remodel for a few years… 47 CONFIDENTIAL © 2007 Advisor Software, Inc.
  48. 48. Cash Flow Analysis Key Transition Years Mortgage paid-off Anthony retires, 48 then Julie CONFIDENTIAL © 2007 Advisor Software, Inc.
  49. 49. Holistic Investment Recommendations: Investment Structure ! The investment structure problem is one of picking strategic asset allocations and rebalancing policies for each account so that the “household portfolio” achieves the best possible performance. 49 CONFIDENTIAL © 2007 Advisor Software, Inc.
  50. 50. Investment Recommendations: Julie’s IRA, Anthony’s 401(k), and Joint Brokerage Account ! Investments are spread among multiple accounts. Accounts differ in terms of taxability (e.g. an RIA account versus a regular brokerage account), ownership (joint versus separate property), and purpose (general funds versus dedicated to a specific purpose - i.e. segregated funding pools.) 50 CONFIDENTIAL © 2007 Advisor Software, Inc.
  51. 51. Investment Recommendations: Multiple Account Tax Efficient Investment Selection ! Asset Selection – Fund selection methodology that emphasizes avoiding mistakes as a first order of business and pursuit of performance as a secondary objective. Mistakes to be avoided include selection of funds with poor risk control, excessive fees, funds which are overly aggressive relative to the efficiency of the markets in which they invest and tax inefficient funds. 51 CONFIDENTIAL © 2007 Advisor Software, Inc.
  52. 52. What If…. If Anthony’s career experiences a downturn 52 CONFIDENTIAL © 2007 Advisor Software, Inc.
  53. 53. Cash Flow Analysis: Anthony’s Career Downturn 53 CONFIDENTIAL © 2007 Advisor Software, Inc.
  54. 54. What If… If Anthony were to become disabled 54 CONFIDENTIAL © 2007 Advisor Software, Inc.
  55. 55. Cash Flow Analysis: What if Anthony Were to Become Disabled? 55 CONFIDENTIAL © 2007 Advisor Software, Inc.
  56. 56. Key Takeaways 56 CONFIDENTIAL © 2007 Advisor Software, Inc.
  57. 57. Key Takeaways, I Organizational ! The organizational problem is alleviated by incorporating institutional best practices into individual portfolio management. ! Efficiency and scale are requirements for business and economic success requires mass customization to tailor solutions for the taxable client. ! The approach helps ensure streamlined quality of service that is consistent with our high fiduciary standards and organizational competencies. 57 CONFIDENTIAL © 2007 Advisor Software, Inc.
  58. 58. Key Takeaways, II Investment Management ! A core/satellite structure is an optimal structure for the taxable clients. ! Actively managing the core portfolio allows for efficiency and higher after-tax returns. ! The solution requires extensive system, data, and automation design but investors and organizations will achieve superior returns to the traditionally partitioned design. 58 CONFIDENTIAL © 2007 Advisor Software, Inc.
  59. 59. Key Takeaways, III Understanding the Client ! It is not sufficient to concentrate on the client’s financial assets alone, we also have to focus on what these assets are going to be used for. ! Understanding the client’s goals and the priorities of those goals is a fundamental step towards building a trusted relationship. ! The Household Balance Sheet is a useful and intuitive tool to encapsulate the essential characteristics necessary for giving robust advice. 59 CONFIDENTIAL © 2007 Advisor Software, Inc.
  60. 60. Key Takeaways, IV Investment Strategy ! The investment strategy is dynamic, and must be responsive to the client’s personality and risk budget. ! Strategic asset allocation and asset location are not separable but jointly determined. ! Without appropriate communication and reporting, the optimal value of a holistic approach is rarely obtained. 60 CONFIDENTIAL © 2007 Advisor Software, Inc.
  61. 61. Advisor Software and First Citizens Bank Questions & Answers 61 CONFIDENTIAL © 2007 Advisor Software, Inc.
  62. 62. Advisor Software, First Citizens Bank Thank You Andrew Rudd (925) 299-7782 arudd@advisorsoftare.com Eric Teal (919) (919) 716-2650 eteal@firstcitizens.com
  63. 63. Advisor Software, First Citizens Bank To Request an Electronic Copy of this Presentation: Contact: Andrea Corry Advisor Software, Inc. (925) 444-1306 acorry@advisorsoftware.com

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