Asset Allocation - subportfolio risk
Lennon is the client, Everett (18) and Marshall (14) are the children.
- Everett is just beginning university and plans to pursue a medical degree. Lennon plans on paying for his entire education and living expenses as well as providing some assistance in funding his future practice. She believes that these goals will be covered with $1.5 million in present value terms.
- She has begun the process of setting up a special needs trust to provide lifetime benefits for Marshall that will not interfere with the government benefits that he is eligible to receive. It will be funded with $2 million within the year.
- She recently received an honorary doctorate from her alma mater and has started the process of endowing a chair in its communications department. She anticipates that the funding will be made available to the university in two years; it has a present value of $1.75 million
Which of the sub-portfolios dedicated to Lennon’s aspirational goals is in the best position to tolerate the greatest risk exposure? The one dedicated to:
A. Everett’s education
B. Marshall’s trust
C. University endowment
A is correct. Both of the funds planned for the trust and university endowment represent an imminent need (immediate for the trust and within two years for the endowment). The funding needed for education, however, extends over the longest time horizon, possibly as long as 8 to 10 years. Thus, its sub-portfolio would be in the best position to take on the greatest risk.
I would have went for B - because of the longest horizon. However, it requires immediate funding (this year). Therefore needs to be liquid.
However, for endowments, aren´t they supposed to have a very long horizon? Funding begins in two years, yes, but the horizon extends beyond the 8-10 years of university time horizon?
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