Wealthy clients aiming to support their lifestyle are warming to 'liability-driven investing' says Threshold CIO David Rosenberg.

“Liability-driven investing,” a familiar strategy for institutional investors, particularly pension funds, is proving to be a hit with wealthy clients as well, according to David Rosenberg, chief investment officer of the Threshold Group, a multi-family office based in Gig Harbor, Washington.

The strategy segregates liabilities from assets and tries to match or at least carefully consider future expenses when building a portfolio.

“It’s a very easy way to explain risk to clients,” Rosenberg said. “It’s a whole different approach to the asset allocation discussion.”

The “LDI” approach is very much part of goals-based planning, which has grown in popularity among wealth managers over the last two years.

The concept, popularized by Ashvin Chhabra, chief investment officer at the Institute for Advanced Study in Princeton, New Jersey, stresses putting the lifestyle goals - and attendant risks - of a client ahead of the traditional principles of modern portfolio theory in the asset allocation process.

“Liability-driven investing is definitely being implemented under the goals-based framework,” Rosenberg said.

Supporting a client’s lifestyle is a primary reason for the strategy’s appeal.

“The idea is to build a bond portfolio whose cash flow and maturities allow the client to meet their lifestyle obligations into the future with a high degree of certainty,” Rosenberg explained.

Clients best suited for the strategy tend to have a minimum of $1 million in investable assets and use five per cent to ten per cent of their total investment returns annually for lifestyle purposes, he added.

Liability-driven investing works best for investors in the $500,000 to $10 million range, said Larry Siegel, research director at the CFA Institute’s Research Foundation, in an interview with Barron’s last summer.

The strategy of trying to match assets with future expenses has gained traction since the market losses of late 2008 and early 2009, say industry observers.

“The impact on the client is greater than any discussion I’ve seen in the industry with regards to asset allocation,” Rosenberg said.

Critics of the strategy say it’s not an efficient portfolio and leaves potential gains on the table.

Rosenberg concedes that liability-driven investing “may not be the highest return portfolio.” But he argues that the strategy “embraces behavioral factors that modern portfolio theory hasn’t reflected.”

What’s more, he maintained, clients are more aware of risk, and can better manage it, by “matching different risks to different parts of their lifestyle.”