PFP2620. From MVO to NWO: Two Approaches To Generating Retirement Income

An individual’s TOTAL portfolio includes MORE than just financial assets, e.g. stock, bonds, mutual funds, and ETFs. It includes wonderful assets like human capital and real estate. Unfortunately, it also includes a type of soft liability, the net present value of future consumption, i.e. a retirement income. For better or worse, this is reality.

TOTAL PORTFOLIO = FINANCIAL ASSETS+REAL ESTATE+HUMAN CAPITAL – LIABILITIES

This is the individual’s economic balance sheet.

Rather than optimizing financial assets in isolation (the common MVO practice), all investor’s (or their planners/advisors) should embrace a TOTAL portfolio optimization approach that includes all of the elements of the economic balance sheet. We call this type of holistic balance sheet optimization, Net Worth Optimization or NWO because…

NET WORTH = TOTAL PORTFOLIO
NET WORTH = FINANCIAL ASSETS+REAL ESTATE+HUMAN CAPITAL – LIABILITIES

All investors and advisors should move from MVO to NWO!

Learning Objectives:

• Understand the key elements of an individual’s economic balance sheet, including human capital and a liability.
• Explain at a high level how one would calculate the net present value of an individual's human capital.
• Explain how different careers might influence how one chooses to model human capital.
• Understand how to extend the traditional Markowitz mean-variance optimization process (aka Modern Portfolio Theory), to a more holistic economic balance sheet optimization process (aka net worth optimization).