Goal-Based Investing

DEFINITION of 'Goal-Based Investing'

A relatively new approach to wealth management that emphasizes investing with the objective of attaining specific life goals. Goal-based investing (GBI) involves a wealth manager or investment firm’s clients measuring their progress towards the specific life goals such as saving for children’s education or building a retirement nest-egg, rather than focusing on generating the highest possible portfolio return or beating the market. 

BREAKING DOWN 'Goal-Based Investing'

Consider an investor who is looking forward to retirement within a year, and who therefore cannot afford to lose even 10% of his or her portfolio. If the stock market plunges 30% in a given year and the investor’s portfolio is down “only” 20%, the fact that the portfolio has outperformed the market by 10 percentage points would offer scant comfort.

Goal-based investing aims to get around this drawback of the traditional investment approach, which generally focuses on outperforming the market while staying within the investor’s threshold for risk. Instead, it uses individual asset pools with an investment strategy that is tailored to the client’s specific goals. Thus, if a client’s main goals are to save for imminent retirement and fund the college education of her young grandchildren, the investment strategy would be more conservative for the former and relatively aggressive for the latter. As an example, the asset allocation for the retirement assets might be 10% equities and 90% fixed-income, while the asset allocation for the education fund may be 50% equities and 50% fixed-income.

The two biggest advantages of goal-based investing, according to their proponents, are - (i) it increases clients’ commitments to their life goals by enabling them to gauge tangible progress towards their goals, and (ii) it reduces negative behavioral biases such as impulsive decision-making and overreaction.

Goal-based investing grew in popularity in the years after the Great Recession of 2008-09, as scores of investors realized the extent to which the attainment of personal goals could be affected by a severe bear market. Millions of hapless investors witnessed their net worth plunge dramatically as a result of the global recession that triggered declines of more than 50% in most major markets, as well as the steep correction in U.S. housing prices. 

 

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