What You Need to Know
- Advisors should remember emerging markets were once an emerging asset class.
- Today, cryptocurrencies hold 3.7% of global market cap but are 60 times more volatile than bonds and 15 times more volatile than stocks.
- Advisors should explain these new products as useful in solving a problem, rather than explaining their features.
These days, we seem to be bombarded by shiny new investment trends, whether it’s cryptocurrency, non-fungible tokens, or environmental, social and governance investments.
As an advisor, you may already be fielding questions from clients who have seen the 220% a year returns of Bitcoin or are one of the 95% of millennials who say they want to use their financial capital for socially responsible investing.
How can advisors navigate this seemingly new world of investment options? And, more importantly, what is an effective way to communicate with clients about how these new options realistically fit into client portfolios?
Set Realistic Expectations
This isn’t the first time new asset classes have appeared. Emerging markets only started to rise to prominence in the 1980s. When they first were measured in 1988, emerging market equities made up 1% of global market cap. Today, the asset class has grown 1,300% to 13% of the global market cap.
In contrast, cryptocurrencies are only 3.7% of today’s global equity.
Despite the huge growth that an asset class like emerging markets has seen, the typical allocation in U.S. investors’ portfolios remains fairly small, estimated at only 3% to 7%. These allocations generally complement and diversify the workhorse asset classes of U.S. equities and U.S. bonds.
New asset classes such as crypto are likely to play similar roles where they could add meaningful return and diversify risk, but won’t provide immediate riches, especially given the massive volatility that they often experience.
Bitcoin, for example, is 15 times more volatile than the S&P 500 and 60 times more volatile than bonds.
Advisors need to be prudent when considering new asset classes for client portfolios and set realistic client expectations.
But, what is the best way to communicate the tradeoffs — good and bad — of adding new asset classes to a client portfolio?
Trying to explain in terms of portfolio risk, return or volatility is not likely to be meaningful to clients. It is certainly not as effective in making clients take action on their investments as the headline featuring the latest Bitcoin millionaire.
Highlight Benefits, Not Features
The answer may lie in an old sales maxim that is, unfortunately, rarely put to use in financial services: Sell the benefits, not the features.
Features are a property of a product. For an investment portfolio, these would be common selling points like risk-adjusted portfolio return or volatility or diversification.