When you really believe in an idea its strengths can seem self-evident. It can be difficult to understand how everyone doesn’t see it the same way. That’s what I’m like with behavioural finance. I’m truly passionate about it. Why wouldn’t you use an understanding of human psychology and emotions to make clients better investors and deliver them better lives? Why wouldn’t everyone do this?
It’s tempting to think an idea is so good everyone will come round sooner or later but that, ironically, would be ignoring how human’s work. So among the exciting developments in the discipline, where has behavioural finance really got to in terms of its acceptance in the finance and investment universe today?
For me, it’s still in its relative infancy. Here is a look at the challenges facing the everyday behavioural financial adviser and the obstacles to the thinking being adopted more widely.
Mr and Mrs Normal Investor don’t tend to sit down and ask me just how irrational they are. Clients will outline a goal they want to achieve or a problem they need to solve but they often see this as a money management issue. Breaking it to them there are other, more human, factors involved in their financial success needs to be done diplomatically. You are effectively telling them they are making mistakes based on biases. Even when you spell it out they still don’t think it applies to them.
This is one of the biggest challenges for the behavioural finance adviser. It’s down to us to explain that, as professionals, we can see a bigger picture, free of the personal emotional filter (and, whisper it: ego) that they bring to decision-making.
As with any new discipline in any profession, there are some dissenting voices. Many advisers still think they manage money, not people. I don’t share their point of view of course but I respect their opinions. A lot of their resistance misunderstands what we’re trying to do. We’re not here to replace the traditional and technical side of financial advice where these detractors would claim the ‘real value’ is.
There’s a place at the table for everyone. Behavioural finance is not a threat to traditional thinking. It’s here to complement that. It’s to contribute to this body of knowledge we’ve amassed and to enhance the cause and profile of our noble profession. It is the element of financial planning that can’t be commoditised.
We know that building a trusting relationship is vital for all financial advisers. This is particularly true when you’re working with a relatively new approach like behavioural finance advice. It’s not what people necessarily expect when they engage with an adviser. Even if they don’t understand everything – and why should they? – clients need to be able to trust in the advice we give. We are here to answer all questions and queries to ensure that our clients are comfortable moving forward.
It also helps if you have skin in the game. I’m invested in my most volatile portfolio, so when my clients are fearful of the effects of market volatility on their return and value, I will feel the same and will need to resist the urge to react just the same. This is good for building trust and demonstrates that I’m managing my behaviour just like I’m advising them to do.
This, again, can be a common challenge for all advisers, but one behavioural coaching rises to particularly well. Imagine the scenario. You have taken on a new client, put together a financial lifestyle plan for them and funded it with their investments. But then there’s a significant market decline which affects their portfolio performance in the first year. If you’re lucky they’ll understand that this isn’t the fault of the adviser, but this isn’t always the case. At your next meeting they may mistakenly focus on what the adviser could or should have done to lessen the impact on their portfolio.
This is where the behavioural adviser’s three-pronged approach comes into its own. First, you’ve built their financial plan. Second, you’ve funded it with investment management. Third, you are equipped to coach them through these inevitable wobbles because you understand their biases and emotions. The plan and the portfolio are pointless without the crucial behavioural coaching.
Andy Hart is founder of Humans Under Management