Musicians Taylor Swift and Ed Sheeran famously sang “I just want to get to know you better” in their song ‘Everything has changed’ but how much, as advisers, are we doing to know our clients better?
Life is complex and constantly changing. Every day someone is getting married, divorced, buying a house, having a baby, and burying a loved one.
Advisers are across those big moments.
They’re also across the finer details like an accident or injury, promotion or home renovation. These types of events are easy to identify and label with clear financial implications.
Where things get lost is around shifting beliefs, desires and priorities.
In this grey area, many advisers are guilty of making assumptions, based on outdated or incomplete information.
The growing acceptance of behavioural finance is a positive development because it gives advisers greater insight into the minds and psychology of investors.
Advisers are increasingly knowledgeable of behavioural finance concepts like anchoring and framing, confirmation bias and prospect theory, and the heuristic approach to problem-solving, which relies on mental short-cuts to produce solutions quickly.
The study of behavioural finance has identified over a hundred biases and heuristics.
Technology is also helping advisers record and monitor biases and changes in client attitudes and behaviours.
But there’s a danger that the mainstreaming of behavioural finance and overreliance on digital tools could lead to more assumptions.
Advisers, like other practitioners be they doctors, lawyers or accountants, are prone to reading client information or sitting back in meetings and ticking off biases and symptoms as they present. It’s akin to behavioural finance bingo.
As a result, there is a risk of making the same mistakes seen in traditional economics, where people assume they know the solution to a problem, based on a snippet of information.
In traditional economics, there is a strategy or approach to thinking about problems, however, the overuse of mathematical modelling has created a sense that there is a definitive answer.
But econometrics, which uses statistical methods to test hypotheses and develop theories, cannot solve real world economic problems. Rather it should be used to help people think about the potential consequences of different possible outcomes.
Similarly, behavioural economics can help advisers understand something about the behaviour and actions of markets but it cannot explain exactly what’s going on inside an individual’s head.
Individual investors exhibit different biases, depending on their situation. These biases can change quickly. One reason for this is the combination of cognitive dissonance (I don’t like how that makes me feel so I want another answer) and bounded rationality (I’m not going to entertain that option because I want an answer that I like). These biases represent a huge challenge because they only reveal themselves over time and are extremely difficult to identify, unless you’re really close to the client.
Financial planning is effectively applied behavioural finance.
The personal nature of quality advice requires advisers to treat clients as individuals rather than the market. They also need to understand the limits of technology, as there is no auto-pilot in personal advice.
Advisers must actively observe and listen to their clients. They must watch and read what their clients do to anticipate the questions they may ask and their reaction to stories about the economy, investments and politics.
Advisers should be vigilant about helping clients to avoid mistakes. For example, they could issue timely communications in response to significant events or emerging trends rather than stick to scheduled quarterly communications.
A purposeful, tactical approach to client communications enables advisers to direct a client’s thinking, frame or reframe information, and reinforce their service proposition.
When it comes to measuring the tangible value of advice, commentators usually try to quantify investment returns, tax savings and life insurance claim entitlements but arguably the most value comes from helping clients avoid poor decisions.
It’s a lot harder to add value after a client has been scammed or piled into a hot-tip at the height of the market.
Like any relationship, the bulk of “getting to know” activity happens at the start before complacency creeps in. In financial planning (and marriage), this is a dangerous predicament because, as the proverb goes, familiarity breeds contempt.
Advisers must consciously work to know their client and continuously challenge assumptions.
Assumptions are, after all, guesses masquerading as facts.
Paul Moran is principal of Moran Partners Financial Planning and chief executive of iFactFind.
Paul, I agree in the main with the careful consideration in how behavioural finance school of thought should be applied and there are many well researched journal articles and texts on the subject.
E.g using Personality or Behavioural Profiling gives us a start to know what to look for, and which questions to ask, and ‘how’ to listen for what the client is really trying to convey.
This is simply a starting benchmark to inform our conversation with our client in seeking to better appreciate why they think or believe or perceive the way they do. And contributing to this foundation of their financial behaviour is the topic of ‘family of origin’ modelling and shaping which imparts generational attitudes, values, and beliefs into the next.
A common denominator for all of us are the shaping of our beliefs regarding finance and provision during our pre-primary, primary, and secondary years.
Where we develop with a lack of financial literacy and numerical capabilities and skills, we learn to adopt the attitudes, values, and beliefs of our parents’/caregivers’ perceptions on money (Lusardi and Tufano, 2014) and this can constrain our financial acumen in whether or not we become investors (van Rooji, Lusardi, and Alessie, 2011).
Since the normal route to investing is saving, without ‘savings literacy’, we revert to ‘debt literacy’ in the absence of financial literacy and combined with ‘Family of Origin’ modelling, our rationale for decision making becomes skewed to ‘intuitiveness’ based on those heurisitcs and ‘rule of thumb’ shortcuts which stem from our emotional biases.
Putting this knowledge into a practical use to assist Advisers working with clients is best done by benchmarking the Family of Origin parental/caregiver influences before seeking to dig into the client’s psyche and draw out their biases. Why this approach?
Much like using mathematical, rational calculations provides us with a rational model with which to gauge a benchmark for how real people respond and behave with markets and why, which Prospect Theory broadly gives us insight into (Kahneman and Tversky, 1979), by first seeking to understand the client’s Parents’/Caregivers’ attitudes, values, and beliefs they grew up with and have noticed have been influencing their decisions in the past, can provide a very useful ‘client specific and individual benchmark’ from which the Adviser can listen for when discussing the client’s goals, plans, and future aspirations of what they’re seeking assistance with from the Adviser.
Not only does this provide an excellent level of service and provide an educational opportunity for the client (as and when they indicate they’re open to learning more about), it demonstrates a professional rigour to complement our legal obligation to fulfil working with the client’s free, prior, and informed consent – informed on what’s influencing them in their own perceptions – and clearly satisfies the Best Interests Duty beyond the numbers into the realm of helping them avoid self-sabotage and making better decisions they can own into the future.
First it must start with exploring those ‘Family of Origin’ attitudes, values, and beliefs that have shaped their existing perceptions of money and finance.