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Learning from the rich

John Clemens is managing partner of Tulip Financial Research.

The UK's wealthiest 1% of individuals are knuckled down with a cautious investment strategy keen to preserve what they have. But look out for the 'affluentials', says John Clemens, they're the ones aggressively building their capital and locating growth markets

At the start of the noughties, in millennium year 2000, UK liquid assets in private hands broke through the £1 trillion barrier for the first time. Now, five years later, they amount to over £1.6 trillion, fuelled by booming property prices and rising equity markets. Liquid assets are assets that are easily convertible into cash, like savings accounts, quoted shares, bonds and pooled funds, but excluding pensions, insurances and homes. They are all privately invested wealth available for investment and are the assets vigorously fought over by banks, investment houses, fund managers and by most financial institutions.

These assets are inequitably distributed across the UK population. More than two-thirds by value, over £1 trillion, are owned by just 1% of the UK population, who make up the UK wealth market, the so-called high net worth individuals (HNWIs) and ultra high net worths (UHNWIs). The market comprises 335,000 HNWIs with an average of £665,000 in liquid assets and 135,000 UHNWIs averaging £6.4 million in liquid assets.

It is this small wealth elite that benefited most from the recent growth in liquid assets. Indeed £450 billion of the post-millennium £600 billion rise in UK liquid assets is now in the hands of the HNWIs and UHNWIs. Why is this? Is it their highly skilled investment prowess? Is it heir awareness of little known investment opportunities? Do they actively work on their investments day by day? The answer to all three questions is 'no'. Wealth attracts wealth and money attracts more money, but there are lessons to be learnt from how the wealthy manage their investments.

Investment management professionals claim that intelligent asset allocation is the key to positive returns. It is true that diversification across a wide range of investment categories, and making significant allocations to each, will generally produce satisfactory though not high returns. This is core to wealth preservation but not to wealth building.

In 2006 the HNWIs and UHNWIs do, on the whole, have well diversified portfolios with a good mix of equity, fixed interest, property, cash and alternative investments. Their asset allocation activity since 2002 shows a cautious but significant reaction to the big market fluctuations that occurred. This pattern of steady asset allocation tinkering produced good returns for them across a market phase that ran from the bear equity market of the early 2000s through to the current bullish market, a phase that also included a huge surge in property prices.

Since the bear market the HNWIs and the UHNWIs have tinkered cautiously but intelligently with their assets and this has rewarded them well. They maintained their high equity exposure, reduced exposure to corporate bonds, and significantly increased their allocation to property, while not taking fright and moving substantially into cash. They reduced their equity allocation to individual company shares, and added to pooled equity investments. This move into unit or investment trust holdings enables them to reduce the volatility of their equity portfolios. The move out of corporate bonds resulted from concerns that the bear market might lead to company failures resulting from a lack of liquidity.

They also took advantage of the property boom, and moved limited assets into property, but all in all they stood still and waited for the good times to roll back. This laissez faire approach proved wise; it preserved their capital and provided limited growth. But it certainly did not provide exciting returns.

This cautious strategy reflects the profile of the existing HNWI and UHNWI market. It is an elderly 60 years plus market made up mostly of individuals who have achieved wealth and are now more concerned with holding on to it than aggressively seeking fast growth. Their approach to investment provides few pointers to how new and would-be entrants to the UHNWI wealth sector should invest to build significant wealth over the next decade. These aspirant UHNWIs are the growth investment trendsetters in today's environment and we call these the 'affluentials' – a very different kind of investor to those who already own millions in liquid assets.
The affluentials are a small group within the total wealth market: less than 100,000 in number, 0.2% of the UK population, but 20% of the HNWI and UHNWI wealth market. They are young high flyers, either entrepreneurs running their own businesses or highly successful careerists in business or their own profession. They are in their mid-to-late thirties or early forties, have high personal incomes and have already acquired significant liquid assets.

The affluentials are dedicated to growth and are already well ahead of the of the mass affluent in wealth, but well behind the UHNWIs. They are youngish, aggressive investors dedicated to building capital by working their investments hard and identifying new high return markets for their investments.
The most significant difference between the affluentials' allocation strategy and that of the UHNWIs is a much smaller equity allocation and a much larger property allocation, particularly to physical property. Today the affluentials allocate a third of their total liquid assets to property, whereas the UHNWIs allocate half that amount. Many of the these younger high-flying affluentials built their initial wealth by being active in property: they spotted the trend earlier and stayed with it longer.

The implications of these findings are crystal clear. The UHNWIs follow a conservative strategy that meets their objectives of preserving capital against inflation, of benefiting from their traditional high levels of equity investment yet taking some limited advantage of emergent investment categories. Traditionally their equity investments have been very much UK oriented, with a big bias towards shares listed within the FTSE 1000 share index. The affluentials objective is to grow their investments quickly and look for new growth markets. Investors seeking to benefit from the skills of the wealthy can learn from the affluentials' example – it's a far more risky strategy but one that potentially can provide far higher rewards.

The affluentials are moving funds rapidly into equities and looking to take advantage of fast moving international equity markets. The shares they prefer are unlike those historically favoured by their predecessors, today's older UHNWIs. They are much less interested in the UK market and in FTSE 100 companies, and far more interested in international markets, reflecting their more international outlook. They are children of the Internet, aware that international data is now equally available to UK data.
They are looking to China, India, the Far East and emergent East European nations. These are the new equity frontiers where they believe new wealth can be built; though, no doubt, as they grow richer they will move to the more cautious strategies of the already wealthy UHNWIs to preserve their wealth. Indeed many young affluentials followed this kind of strategy during the dotcom bubble and built their existing wealth from dotcoms – though many also lost money. For growth oriented investors, the affluentials are the ones to follow; for older investors, fine-tuning existing diversified allocation strategies is a surer way of preserving what they have.
Which markets are currently seen by affluentials to offer the best potential returns? China, Far Eastern and the new East European markets feature strongly and are preferred to North America and the traditional West European markets. There is still, however, loyalty to the UK –  possibly as a way of reducing the volatility of their share portfolios. For investors seeking growth in 2006 and beyond, the affluential's example could be the one to follow.

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