Many financial advisors likely feel that if their clients only understood the “fundamentals” of the financial field, they wouldn’t get upset over market ups and downs (what we call “volatility” in the industry. However, the truth is much more complicated in that and a whole field called “behavioral economics” has grown up around the idea that how people respond emotionally to events is much more important that logical facts.
A recent Financial Advisor Magazine Online Article focused on this difference between fundamentals and emotions:
Research supports the need for advisors to look beyond just the fundamentals. A 2011 Prudential survey on investor concerns and attitudes finds that 56% of respondents question whether their investment strategy is right for their retirement needs, 68% say they are more cautious than ever before, and still 84% are concerned about inflation eroding the value of their retirement savings.
The author of the article, Robert Laura, covers a couple of psychological points that I see fairly often and he mentions 3 strategies she uses with clients to get past emotional hangups. I’ll list them and also my own experiences with them.
1. People like a winner – even though we put together a smart portfolio, with proper risk management, some clients still want to try out their ‘clean energy ideas’ nonetheless. therefore, a small side portfolio, focused on wild ideas, or what I call for one client, his “hedge fund” can satisfy this need for “excitement’ beyond the drabness of their regular portfolio.
2. People like what is familiar – recommending investments in companies that are unfamiliar to the client causes worry sometimes. Unfamiliar can equal scary. it helps to have some investments they know about, or it’s helpful to explain investments in terms that they can understand. Let’s give an example:
a. Some of our clients invest in a real estate fund that holds single tenant retail properties with low leverage. WAIT! let me give you the layman’s description and see if it sounds more familiar…
a fund that invests in free standing Walmarts, CVS, Walgreens, Sams Clubs, Tractor Supply Company etc and they put down 50% down payments and only mortgage half of each property on average.
Does that second description make more sense? I used terms and images that regular people know well. Mortgage vs leverage, free-standing Walmart vs single tenant retail properties, etc.
3. Nobody is Perfect – it’s helpful to show that we’re not perfect like when I had my own idea on a green energy company and it bombed badly. Telling the clients about that and its drag on 2011 performance was embarrassing but hopefully the clients understand I am human.
As Laura says, using realistic expectations and making the investment approach more understandable can lead to a better and more relaxed experience for clients.
At the time of this writing, the author owned or controlled positions in the following companies mentioned in this article: None
