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Financial Planning > Behavioral Finance

Educating Clients: How Advisors Can Go From Good to Outstanding

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Being a good financial advisor requires mastery of a wide range of technical skills. Being a great financial advisor requires having skills as a counselor and psychologist. Being an outstanding financial advisor requires developing your skills as a teacher. Here’s why.

The job of a financial advisor is to help each client get from Point A (where they are today) to Point B (where they want/need to be at some point in the future). The question is always how to maximize the chance that the client will arrive safely and securely at Point B.

When I first entered the financial services industry, many moons ago, the focus was squarely on the technical aspects of this journey. Advisors used their financial planning and investment skills to define and plot the course from Point A to Point B. The industry provided no shortage of financial planning tools and investment products to help with that effort.

Later, the focus broadened to include another dimension of the problem. Supporting clients emotionally and coaxing them to do the right thing has always been part of the job. But our understanding of the importance and complexity of that aspect of advising clients changed when research from the world of behavioral finance entered the mainstream. 

Soon we were awash in new jargon that labeled each quirk in the vast inventory of our financial decision-making dysfunctions. Concepts like “mental accounting,” “hindsight bias” and “prospect theory” brought us face-to-face with our profound ignorance about what was really going on in the heads of our clients.

A tsunami of articles, papers and presentations familiarized us with the basic concepts of behavioral finance, but left us unsure about what, exactly, to do with this information. We were generally sensitized to the need to explore our clients’ attitudes and feelings, but were given little guidance in how to do it effectively or what to do with the insights we gleaned.

One exception is the area of risk tolerance. A host of service providers emerged with products that purport to help us measure the risk tolerance of our clients. In developing a strategy to achieve a client’s long-term return goals it is certainly important to understand the client’s level of comfort with risk-taking. But what should you do when there is a significant gap between a client’s need to take risk and their comfort in doing so?

Here’s the dilemma. Say you have a client that has done a poor job of saving over the years.  The client has no choice but to be aggressive in their investment strategy if he is to have any hope of meeting his minimum acceptable return goals. But what if his tolerance for risk is very low?  Do you ignore the client’s discomfort with risk-taking and hope he doesn’t spin off the track when his aggressive portfolio hits a patch of volatility? Or do you dial down the portfolio in favor of a smoother ride, thus condemning him to a future sub-standard lifestyle?  

Actually, this is a false dilemma. It assumes that the client’s risk tolerance is a fixed feature like the nose on his face. This is simply not true. Soldiers learn to fight with bullets whizzing by their heads. Athletes learn to maintain their focus in the midst of chaos. Clients can be taught to better weather the inevitable storms they will encounter. Education is the key.

The SEC’s Study Regarding Financial Literacy Among Investors, published in 2012, underscores the problem. It found that “U.S. retail investors lack basic financial literacy,” “have a weak grasp of elementary financial concepts,” and “lack critical knowledge.” It’s no wonder they have difficulty behaving in ways that are consistent with their own long-term financial security.

We all should have had a course in school about the basics of investing, but most of us never did. As a result, most clients do not have a useful frame of reference for interpreting events they experience as investors and are woefully ill-equipped to make good investment decisions. They can be skittish and unpredictable because they do not understand their environment.  

Most financial advisors are quite comfortable answering client questions about investing. Some may even anticipate those questions through a periodic newsletter or a blog. But this level of education is reactive and event driven. It does not provide the base knowledge clients need.

Being a good investor requires a fundamental knowledge of the investment world and a solid frame of reference. Exhorting clients to “think long-term” and “stay the course” is not education, it’s sloganeering. Clients need to know what to expect and why things happen the way they do. They need that course we all should have had in school, but never did.

Providing this level of education requires thought, planning and a proactive approach. But like soldiers and athletes, clients can be trained to be better, more confident investors. The effort required pays dividends for advisors and their clients. A client who has been taught what to do and why before a storm blows in is more likely to act appropriately in the midst of the tumult.        

So now, in addition to being a highly skilled financial planner, asset manager, counselor and psychologist, I am suggesting that you become a first-class teacher.  If you want your clients to make it successfully from Point A to Point B, you should put as much time into teaching them about the journey as you do developing financial plans and investment solutions for them.  


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