By: Grant Alexander
Wealth management is a multifaceted process that encompasses a spectrum of strategies and practices aimed at securing an investor’s financial future. Two critical yet fundamentally different phases within this realm are wealth creation and wealth preservation. Understanding the nuances of each phase is essential for effective financial planning, helping investors not only accumulate wealth but also safeguard it against potential risks.
The wealth creation phase
Wealth creation is primarily concerned with the accumulation of assets and the growth of financial resources. This phase typically involves strategies centred around investing in assets such as stocks, property, bonds, businesses, and other vehicles that can yield returns over time. The focus during this phase is largely on maximizing returns to build a substantial financial portfolio.
Risk tolerance and growth mindset: During the wealth creation phase, investors tend to adopt a higher risk tolerance. The rationale is simple: higher risk can lead to higher rewards. Investments in volatile markets, startups, and emerging technologies are not uncommon as investors seek exponential growth. This mindset fosters innovation and opportunism, reflecting the potential to leverage capital into burgeoning opportunities.
Time horizon: Wealth creation strategies often align with a long-term horizon, with investors planning decades ahead, allowing for compound growth where returns on investment generate additional earnings. This timeframe is critical, the longer you hold investments, the more significant the effects of compounding can be.
Active management: This phase usually requires active management of investments. Investors must conduct research, analyse market trends, and make decisions that could significantly impact their financial future. Tactical asset allocation, investment in growth sectors, and regular portfolio reassessments characterize active management strategies.
Diversification: To mitigate risk while aiming for higher returns, diversification becomes an essential part of the wealth creation phase. Investors spread their investments across different asset classes and sectors to protect against market volatility.
Income generation: While the wealth creation phase focuses on the accumulation of wealth, it also involves generating income through investments. This can include dividends from stocks, rental income from property investments, or profit from business ventures. The goal is to reinvest this income to further fuel growth.
The wealth preservation phase
In contrast, the wealth preservation phase shifts focus from aggressive growth strategies to safeguarding accumulated wealth. This phase is often triggered by a change in life circumstances, such as nearing retirement, facing health issues, or simply a desire for financial security in a potentially volatile future.
Risk aversion and stability: Wealth preservation generally requires a more conservative approach. As investors age or reach their financial goals, their risk tolerance typically decreases. The goal is to maintain the wealth you have created rather than risking it for potential higher returns with this phase emphasizing stability over growth.
Shorter time horizon: The wealth preservation usually operates on a shorter time horizon. As you approach retirement or your children start families, the need to access funds increases. This necessitates a different strategy that is focused on ensuring funds are available when needed.
Defensive investments: The types of investments favoured during the wealth preservation phase differ greatly with an emphasis on liquidity and capital preservation rather than aggressive growth.
Tax efficiency and estate planning: Wealth preservation involves strategic financial planning to minimize tax liabilities and ensure that wealth is transferred efficiently to heirs. Trusts, Wills, and estate planning become critical as you protect your assets from taxation and ensure your distribution aligns with your wishes.
Focus on cash flow: Unlike the wealth creation phase, where investors might reinvest earnings, the wealth preservation phase concentrates on generating a steady cash flow to support ongoing financial obligations and lifestyle choices. The emphasis on income stability ensures that you can maintain your quality of life without over-relying on asset liquidation.
The distinction between the wealth creation and wealth preservation phases of wealth management is key for effective financial planning. While the wealth creation phase thrives on risk-taking, growth, and active management, the wealth preservation phase prioritizes stability, risk aversion, and the maintenance of accumulated wealth.
Understanding these differences enables investors to tailor their financial strategies, ensuring they not only build wealth effectively but also protect it for future generations. As you transition from one phase to another, adapting to changing goals, risk tolerances, and financial markets comes to the forefront and emphasizes the need for a comprehensive wealth management plan that evolves alongside your financial journey.
“It is critical not to derisk at the transition between wealth creation and wealth preservation. People are living considerably longer than they used to. Twenty years ago, the average investor spent forty years creating wealth and ten years preserving it.
Today, people are living to 95, spending up to thirty years in the preservation phase. From an investment perspective, investors must take care not to derisk too much or too early,” cautions Grant Alexander, a director at Private Client Holdings, the top boutique wealth management company in South Africa in the 2024 Krutham private banking and wealth management awards.
* Alexander is a director at Private Client Holdings.
PERSONAL FINANCE