From the September 2005 issue of Investment Advisor • Subscribe!

We're All Just Emotional Beings

It appears the new crop of advisors has interest in behavioral science--research that's been going on for decades ("All in Your Head", July 2005). But it won't matter much if the new advisors do the same as the last generation. The last generation did nothing with this knowledge because clients and advisors are still emotional beings that make financial decisions from a foundation of irrationality. No matter how much you know that your client makes irrational decisions, your rational explanation will do little to have them take different action. Why? Because human beings are emotional beings. And so-called professionals suffer from the same flawed thinking as investors:

  • The nightly expert on TV who makes a market prediction based on one variable (e.g., interest rates) when there are thousands of variables whose relative impact on the market are in constant flux.
  • The advisor who gives a client his opinion (this morning I offered Starbucks my opinion in exchange for my grande latte--they still wanted the regular $3.30).

The only logical endpoint when we realize our human fallibility and how poorly we are suited as investors is to employ mechanical investing models for buying and selling and what to buy and what to sell and when to buy and sell. The moment we allow any "judgment" to enter the decision, the judgment by its nature will be tainted with perceptual bias, limitations of the human mind, and emotional poison. Yet, we still allow managers to manage our money based on their judgments and we tune into CNBC to hear an expert's daily market opinion.

Larry Klein CPA/PFS, CFP

NF Communications, Inc.

Walnut Creek, California

Corrections

In the August news story "Fees Are King," we mistakenly gave Brian Shea's title as CEO of Pershing and said on our table of contents that Pershing had a new custody chief. Shea is COO and John Iachello has been with Pershing since 2002.

In the June "Who's in Charge" column by Washington Bureau Chief Melanie Waddell, we erred when we said that the $5 billion Citigroup settlement represented one quarter of Citigroup's annual profits; it should have said one-quarter's worth of its profits.

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