Reading 8 Individual Wealth Management Q12 A

A

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Answer:
Liquidity requirements. The Smiths’ current annual living costs ($150,000 after taxes) are being met, which allows them to address longer-term growth objectives.
How come their current annual living costs are being met?
Based on the numbers given, AT living exp -$150k + pension $65k + tax free payments from gift fund $40k = -$45k is the shortfall.
I don’t see how the living costs are being met. Confused.
 
Hi CFA 2015
I have not checked particular example but due to your description, you have to differ current living expenditures which should be covered by current income and long term objectives or even some of those may be just unrealistic wishes. Don’t forget calculate all of those on after tax basis and adjusted for inflation rate if is mentioned.
Hope, this helped.
 
Flashback wrote:
Hi CFA 2015
I have not checked particular example but due to your description, you have to differ <correction of typo> defer current living expenditures which should be covered by current income and long term objectives or even some of those may be just unrealistic wishes. Don’t forget calculate all of those on after tax basis and adjusted for inflation rate if is mentioned.
Hope, this helped.
Click to expand...
There is a difference between differ and defer (which means postpone) . Just fyi.
 
I agree with the op here. I think the CFAI book is not answering the question in the best way.
From my point of view, In the liquidity section we only need to put the spending needs (primary objective) that needs to be met by the investment portfolio and we dont need to specify if will be met or not. Do not consider spending needs that will be met by salary or other income sources.
Assume the client will use current income from the portfolio and/or liquidate assets as necessary to meet spending needs.
So spending needs are 45k instead of 150k (150,000-60,000(pension)-45(gift fund). )
I will put in this question that liquidity needs are 45k and that those 45k can be covered with the investment portfolio of 1M:
Family portfolio (1.2m) - house renovation(0.2m)=1M
Later on the required return section, yes, we can calculate that to fund those 45k we will require a Required return of 7.5% but that is another section, not liquidity.
 
Sorry I’m confused by what you are saying here. I understand the difference between meeting current living exp and the long term objectives, but the statement that “current annual expenses are being met” doesn’t make sense because the numbers don’t tie.
I got the calculation correctly. No question on that part.
Flashback wrote:
Hi CFA 2015
I have not checked particular example but due to your description, you have to differ current living expenditures which should be covered by current income and long term objectives or even some of those may be just unrealistic wishes. Don’t forget calculate all of those on after tax basis and adjusted for inflation rate if is mentioned.
Hope, this helped.
Click to expand...
 
Yes, I got the calculation right. I just don’t understand why they have to put “currently annual living expenses are being met” here. Obviously the 45k is the shortfall that needs to be covered by the portfolio returns, unless they assume it will be covered by the portfolio? But that’s a reckless assumption as 7.5% return is pretty high.
djsanmi wrote:
I agree with the op here. I think the CFAI book is not answering the question in the best way.
From my point of view, In the liquidity section we only need to put the spending needs (primary objective) that needs to be met by the investment portfolio and we dont need to specify if will be met or not. Do not consider spending needs that will be met by salary or other income sources.
Assume the client will use current income from the portfolio and/or liquidate assets as necessary to meet spending needs.
So spending needs are 45k instead of 150k (150,000-60,000(pension)-45(gift fund). )
I will put in this question that liquidity needs are 45k and that those 45k can be covered with the investment portfolio of 1M:
Family portfolio (1.2m) - house renovation(0.2m)=1M
Later on the required return section, yes, we can calculate that to fund those 45k we will require a Required return of 7.5% but that is another section, not liquidity.
Click to expand...
 
CFA 2015 wrote:
Sorry I’m confused by what you are saying here. I understand the difference between meeting current living exp and the long term objectives, but the statement that “current annual expenses are being met” doesn’t make sense because the numbers don’t tie.
I got the calculation correctly. No question on that part.
Click to expand...
OK, I reviewed this example and in Q 12A there is no any calculation required, just interpretation of IPS and recommended changes to IPS.
In Exhibit 6 is stated following: “…The Smith Family Portfolio’s primary focus is the production of current income, with long-term capital appreciation a secondary consideration.”. Thus, it may be concluded that Smiths are being financed from current income (pension) of $65 K and from their low income portfolio. To meet long term objectives and ensure payment for next year house renovation, Smiths should invest to more risky securities to reach higher rates of return. Also,is supposed low rate inflation environment when current portfolio was established and such inflation trend might not to continue in the future so in case of higher future inflation their current low income portfolio returns would be jeopardized.
 
i read the question, the difference of
150000-40000-65000 = 45000
must be funded from disbursements from family portfolio.
The calculation of the family portfolio that generates the disbursement is shown in answer 12.c.ii.
 
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