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With the turbulence in the equity markets, it may be time to re-evaluate the security and growth prospects of your investments. This is true whether you’re a new lawyer, a senior partner contemplating retirement or somewhere in between. As an attorney, your investment strategy will differ from that of someone in the corporate world. Without stock options, employee stock purchase plans or employer-paid, defined benefit plans, you have to rely on the growth of your investments that result from your annual available cash flow. Therefore, to a much greater extent, you will have to take charge of the strategy to secure a healthy financial future. The first and most important step is asset allocation. Understanding how asset allocation affects your investments is critical in the investment process because it determines the greatest part of the risk and return of your investments. Closely following in importance are diversification within each category; net after-tax coordination between taxable and tax-sheltered or tax-deferred investments; and cost of implementation. To understand how to put these investment strategies to work for you, all you need is a little baseball know-how. Good investment strategies are akin to the strategies of a game of baseball. The recent gyrations in technology stocks remind us that there rarely is such a thing as a grand slam. But you have a better chance of making it around the diamond if you do the following: � take a team approach (asset allocation); � use well-rounded players (diversification); � work with a good coach (tax efficient and cost effective implementation); and � avoid errors (the grand slam and crowd mania syndrome). Remember, whether you’re a young attorney with $100,000 invested or an experienced lawyer with $10 million invested, the basics are the same. Size relates only to the efficiency of the process and the availability of investment alternatives. Achieving an extra 1 percent to 2 percent net after-tax return per year through a disciplined process over a 30- or 40-year period makes a huge difference. The excitement of going for the fences when you are first out of law school may be OK, but at 40, 50 or 60, consistently hitting singles and doubles and not dropping the ball become more important. RUNNING THE BASES You need to determine proper portfolio allocation. Asset allocation begins with placing a percentage of your portfolio in investments that produce a reliable source of income with relatively stable values and/or liquidity (meaning that it can be sold easily with a price close to fair value). Often this includes money market funds and short-to-intermediate bonds (taxable and tax-free). This also might include a defined-benefit pension plan, a high-quality installment note or triple-net lease. An old rule of thumb for asset allocation is that this portion of your portfolio should equal your age. While this may work for conservative individuals, as your income and wealth grow, it becomes less relevant. This percentage will vary from individual to individual and should be evaluated based on your age, other assets, amount and reliability of income, current and future expenses, and the nature of your practice. A person with higher cash flows, a longer-time horizon and greater net worth can assume more short-term risk in exchange for potentially greater long-term returns. Insurance for disability or for long-term care also might enter into this equation. GAME PLAN Over the past few years, financial publications have popularized the use of the “efficient frontier” theory to arrive at this percentage. This theory uses a graph to measure the risk-return relationships. The left side of the graph represents expected return, the expected risk runs along the bottom of the graph, and the dots along the line — which is the efficient frontier — mark the highest return at the corresponding level of risk (or conversely, the lowest risk for the corresponding rate of return). Though theoretically interesting, the efficient frontier varies depending on the historical time period used — which is not something to bet a retirement on. More contemporary thinking is that a “Monte Carlo” simulation may be a better alternative. This method determines the odds of a particular investment strategy’s success by objectively considering many economic periods and the probability of certain investment returns. If bonds are the investment of choice, most professionals recommend a ladder of taxable or tax-exempt bonds. Smaller investors might use mutual funds to provide diversification and professional management, but these are expensive because of their internal fund-level fees and inability to protect against principal loss in a rising interest rate environment. Bonds may guarantee income and stability, but they rarely provide the major growth engine that most individuals need. The next step is to invest a percentage in equity-based investments. Diversification is critical, as those who invested heavily in large-cap growth or technology stocks in 2000 learned. Stocks should be diversified by size (large- and small-cap) and by type (growth and value). Typically, large-cap stocks are less volatile than small-caps. A conservative investor might have a higher percentage of large-cap stocks than small-cap stocks in his portfolio. Many financial planners suggest that 10 percent to 30 percent of your portfolio be placed in international stocks. While the ’80s were good to those with international securities, the ’90s were much less so, and in 2001, they are even less attractive. In addition, while these stocks provide greater diversification, their cycles are long. If you choose to invest in international securities, be prepared for 10- to 15-year cycles. Implementing the equity segment of your portfolio can be complex. For the do-it-yourselfer or for smaller situations, low-cost index mutual funds or electronically traded index mutual funds such as I-shares can be effective. If these are not in a tax-deferred vehicle such as a qualified plan or IRA, these can add 1 percent to 4 percent in net, after-tax return above the average mutual fund. Picking the latest “hot” mutual fund from friends or popular periodicals should be avoided. SELECTING A COACH Using the services of an independent money manager who can implement a low turnover, tax-efficient portfolio may be an attractive option. However, you must be able to understand the performance of your manager: Has he been lucky or has his style just been popular? Diversification, low turnover and experience are critical. Many brokerage houses offer “wrap accounts,” which bundle a variety of investment services like consulting, custodial services and performance monitoring for a single price. These programs look pretty, but often are expensive solutions. The brokers who sell these programs often are not trained to evaluate specific risk-based needs, and these programs generally are the higher-cost solution. Fill-in-the-blank questionnaires to evaluate risks should be avoided. For senior partners with portfolios greater than $5 million with an appropriate risk-based strategy in place to meet all expected needs, the next step may be considering various forms of hedge funds, limited partnerships and venture capital funds. While high noncorrelated returns always are promised for these vehicles, you should consider the following: � fees and commissions can detract from performance; � many produce ordinary income; � mostly these are illiquid; � control always resides in someone else; and � the investment process is often not easily understood. At a minimum, you should understand the basic investment process, get detailed quarterly reports and assume your investment will be tied up much longer than it is promoted. What should you look for in a financial adviser? With financial advisers, just as lawyers, it takes years of experience to develop expertise. Thus, it is vital to enlist the services of a seasoned professional to manage your wealth. Engage an adviser with at least 10 years of experience. Using a certified financial planner is only a de minimus start. Choose a noncommissioned adviser with additional credentials, such as a certified public accountant, someone with a master’s degree in business or a chartered financial analyst. Enlisting a professional with the proper experience and credentials will help you navigate the intricacies of asset management, investment alternatives and tax issues. Careful planning will ensure the stability and growth of your investments and your estate. Take note of all this — it makes for a game-winning combination. David A. Folz, who has a law degree, is executive vice president of Texas Capital Bank, which provides wealth management and trust services. His e-mail address is [email protected]

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