How to Prepare Seniors for Someone Else to Handle Their Financial Affairs
One area that few seniors prepare for is arranging for someone else to handle their financial affairs when they can no longer fully care for themselves. This is easy to put off, for three primary reasons.
First, there are a lot of difficult emotions involved with the thought of losing our cognitive ability and the inherent freedom to financially care for ourselves. This is something we have done for ourselves all our lives, so it’s very hard to imagine not being able to do so.
Second, for many of us the loss of cognitive ability is slow and almost unrecognizable. There isn’t an urgency that suggests we need to do anything soon. Often by the time we do realize we need help, it’s too late for us to arrange for it.
Finally, while we're in good health we tend not to consider the possibility of a sudden catastrophic health event. Yet such a crisis can leave us without a plan and no way in which to have any say in what happens.
Fortunately, if you are reading this you have time to prepare. The following information is based on the work of Carolyn McClanahan, MD, CFP, particularly a presentation given to the National Association of Personal Financial Advisors in May of 2016. She suggests the major questions to answer are:
- Who will be in charge?
- Are the right documents in place?
- How will you monitor your decline?
- Do you have a written investment policy?
- How will the transition occur?
Who will be in charge? Choosing a trusted third party to take over bill paying, investment management, and financial caretaking is essential. Options include a spouse, a child or other relative, a friend, a professional bookkeeper, or a financial planner. For couples, the odds are that both partners won't lose their ability to handle financial affairs at the same time. If one spouse handles most of the money matters, it's important that the noninvolved spouse becomes involved in the bill paying routine and understands the basics of the couple’s finances. If you are the caretaking or surviving spouse, or if you are single, designating a financial caretaker is crucial.
Are the right documents in place? The most important document is your power of attorney that names the person or organization who will be in charge of your finances. If the bulk of your net worth is in retirement accounts, annuities, and jointly owned, another option is to create a living trust, place everything you own individually in it, and identify the successor trustee who is in charge when you can no longer make decisions.
How will you monitor your decline? It’s important to have some written agreement in place—even if for no one but yourself—that lists the triggering events which will indicate to you the time has come to transfer the control to someone else. It’s up to you to determine what these triggers are and to self-assess every few years.
Do you have a written investment policy? And is it current? This is a good time to review your investment policy, making sure it’s been updated to reflect your changing cash flow needs and asset allocation. You might also evaluate your ownership of any complicated and illiquid assets like real estate or closely held business interests. It may be wise to simplify and liquidate them while you're still capable of managing them, before it's time to pass responsibility to a surrogate.
Once you've answered these four questions, it's time to consider the last step that I'll address next week: how the transition should take place.
Understanding ETF Liquidity and Trading
Written by: ProShares
ETFs offer attractive features—access to a broad range of asset classes, sectors and styles in a liquid, transparent and cost-effective vehicle. But before using that vehicle, it’s helpful to understand how it works, especially the sources of ETF liquidity and the mechanics of trading them. Understanding these points may help you improve execution when buying and selling ETFs.
The Primary Market—Creation/Redemption of ETF Shares
Most investors trade ETFs on stock exchanges in the secondary market. But the actual creation and redemption of ETF shares occur in the primary market, between the ETF and authorized participants (APs)1—the only parties who transact directly with the ETF. The APs’ ability to continuously create and redeem shares allows them to meet the supply and demand needs of investors, making them key liquidity providers in the secondary market.
Creation. This is how APs introduce new ETF shares to the secondary market.
- In-kind—The AP creates ETF shares in large increments—known as creation units—by acquiring the securities that make up the benchmark the fund tracks in their appropriate weightings and amounts to reach creation unit size (blocks ranging from 25,000 to 100,000 fund shares). The AP then delivers those securities to the ETF in exchange for ETF shares.
- Cash—Alternatively, APs can create ETF shares by exchanging the appropriate amount of cash for ETF shares, for what’s known as a cash create. Often, ETF shares are created using a combination of securities and cash.
- The AP then offers the ETF shares for sale in the secondary market, where they are traded between buyers and sellers on an exchange.
Redemption. This follows the same process in reverse.
- The AP redeems ETF shares in large increments—known as redemption units—by acquiring them in the secondary market and transferring them to the ETF in exchange for the underlying securities or cash (or both) in the appropriate weightings and amounts.
The Secondary Market—Costs and Mechanics of Trading ETF Shares
Costs of Trading. In the secondary market, firms that specialize in buying and selling ETF shares—APs or market makers2 (liquidity providers)—trade them to provide market liquidity and make a profit. This profit margin is embedded in the bid/ask spread, which reflects the implicit costs of trading ETFs.
Bid/ask spread is the difference between the bid—the highest price at which a buyer is willing to buy shares—and the ask—the lowest price at which a seller is willing to sell ETF shares. Three key factors impact the bid/ask spread:
- Creation/redemption fees charged by the ETF provider to the AP.
- Spread of the underlying securities—The bid/ask spread and liquidity of the securities that make up the ETF affect the liquidity and the bid/ask spread of the ETF itself. When there are many bids and offers on a security, it is easy to buy and sell, thus the bid/ask spread tends to be tight. When securities are less liquid, the spread is wider, making the cost to acquire them higher. The higher the cost of acquiring the underlying securities, the wider the ETF bid/ask spread.
- Risk or hedging costs—Holding ETFs entails certain risks, which need to be hedged. Liquidity providers use a variety of financial instruments, including futures, options and other ETFs, to hedge this risk. The more instruments they have to choose from, the lower their hedging costs and the lower the bid/ask spread. The higher the risk, the wider the spread.
ETF bid/ask spread = Creation/redemption fees + spread of underlying securities + risk
Executing Large Orders—Tapping Into Deeper Pools of Liquidity
There are two common ways to execute larger trades directly with liquidity providers, both allowing investors to access deeper pools of liquidity than those offered in the quoted secondary market alone:
- Risk trade—A liquidity provider will quote a price for an ETF at a given size. If that price is accepted, the trade is executed and the liquidity provider assumes the market risk of providing the liquidity at execution.
- Create/redeem—For orders that are large enough, it may make sense to work with an AP to create or redeem shares. This type of transaction is usually executed at either the closing market price of the ETF or at the NAV of the ETF plus fees or commissions.
Mechanics of Trading. To fully consider an ETF’s total costs, it is important to understand the dynamics of trading. In general, two types of orders are commonly used to trade ETF shares:
- Limit order—Buy or sell ETF shares at a specified price. One way investors decide at what price to enter a limit order is to look at the IOPV3 as a guidepost. Limit orders may help investors get the best price, but there’s a risk the order will not be filled.
- Market order—Buy or sell immediately at the prevailing price available at the time. With market orders, execution may be faster, but the investor has limited control over the execution price.
While a large number of transactions are executed using limit or market orders, investors often find their order is larger than the quoted market. There may be “hidden” liquidity within the quote that can be accessed in the market using limit or market orders. However, in some cases, it may make sense to execute trades directly through a liquidity provider. How and when to place an ETF order can depend on many factors, including price sensitivity, level of urgency and overall goals for the portfolio. Determining what factors matter most can help determine the best execution strategy.
Questions? Our capital markets experts can help. Learn more about our ETFs here.
1 An AP is a U.S. registered, self-clearing broker/dealer who signs an agreement with an ETF provider or distributor to become an authorized participant of a fund.
2 A market maker is a broker/dealer that buys and sells securities (or ETFs) from its own inventory to facilitate trading in those securities. Most APs are market makers, but not all market makers are APs.
3 IOPV is the Indicative Optimized Portfolio Value—the intraday net asset value of the basket of underlying securities
Investing involves risk, including the possible loss of principal. ProShares are non-diversified and each entails certain risks, which may include risk associated with the use of derivatives (swap agreements, futures contracts and similar instruments), imperfect benchmark correlation, leverage and market price variance, all of which can increase volatility and decrease performance. Please see their summary and full prospectuses for a more complete description of risks. Carefully consider the investment objectives, risks, charges and expenses before investing. This and other information can be found in the prospectus; read carefully before investing; obtain at ProShares.com. There is no guarantee any ProShares ETF will achieve its investment objective.
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