When used well, it can be a powerful tool and will often elicit a significant positive response from clients. As a way to give couples peace of mind, especially as they manage their finances in retirement, I am hard pressed to come up with a more practical alternative.
In many instances, the use of lifetime cash flow forecasting has given us the confidence to advise our clients they can spend more in retirement. It has given our clients the confidence to take additional holidays, carry out improvements to their properties, and even get children firmly onto the housing ladder.
Despite my admiration of the potential of cash flow modelling, I don’t believe it is essential for true Financial Planning. Allow me to explain why.
Cash flow modelling is, as we all know, based on a series of assumptions about the future. It attempts to illustrate one or a number of possible scenarios, and in some cases place a degree of probability on these outcomes.
If you need reminding of the importance of these assumptions, try running the same client through two different cash flow modelling tools. Even the same tool accidentally reverting to its default assumptions, away from those your firm has carefully considered and updated, will result in widely different outcomes.
We accidentally ran a forecast the other day (thankfully during the pre-meeting rehearsal) on a laptop which had reverted to default assumptions. Suddenly the client who had the peace of mind she would not run out of money before her 100th birthday was facing a cash flow crisis during her golden years.
The longer the term of the forecast, the greater the amplification of these forecast variations when assumptions are tweaked even slightly.
It is well within the grasp of a competent Financial Planner to fully appreciate what these assumptions mean to the outcome of the forecast. No doubt all Financial Planners explain the importance of these assumptions to their clients, while at the same time positioning cash flow modelling as an art, not a science.
Placing too much emphasis on an art form could risk undermining the professional status of Financial Planning.
The Financial Planning Today poll – still running until the end of the week – shows 80% so far vote in favour of cash flow modelling as essential for true Financial Planning.
I wasn’t surprised to see this poll result as it has been long indoctrinated as a fundamental tool within our profession. Cash flow modelling was after all the main pillar of the UK Financial Planning movement when it was formed in the mid-1980s. Yet, we could better serve our clients to think critically when it comes to the important tools we use.
If we position cash flow modelling correctly and consider shortening the term of projections - or at least present long-term projections based on a range of assumption sets to illustrate the wide variance of outcomes – then it has a role to play in the Financial Planning process. It should not in its unadulterated form as software be considered essential for Financial Planning.
Join the debate on Twitter using the hashtag #cashflow. See @FPTodayMagazine, @FPTodayNews and @martinbamford for more.
Martin Bamford CFPTM Chartered MCSI FPFS is managing director at Informed Choice in Surrey.
He is a Chartered Financial Planner & Chartered Wealth Manager and a SOLLA Accredited Later Life Adviser.