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                “There’s an old joke in our business that says, ‘An investment portfolio is like a bar of soap: the more you touch it, the smaller it gets,’” Coleman says.
Roadblocks to good behaviour
Oddly, compliance can pose challenges to a long-term, buy-and-hold strategy. As more advisors move to fee- based books, clients and even compliance departments may start asking whether investors are overpaying.
“One of the best ways we help the client is to make them not trade,” Coleman says. “We occasionally get queries from our compliance people in our fee-based accounts saying, ‘The way the math works, that client was entitled to do 360 trades last year and you did six. Please justify why you only did six.’”
That is the justification, Coleman says: keeping the number of trades low is how advisors add value. Rather than using trading activity to justify fees, he says, compli- ance departments should be looking at advisors’ planning work and client satisfaction.
Doing nothing is becoming even harder as portfolio access gets more user-friendly. Academics from Chongqing University in China, who observed user behaviour on 183 Chinese financial institution apps, found that the more often users checked the apps, the more frequently they traded.
Advisors touting their firms’ own digital platforms will have to issue similar warnings: just because it’s easy to use doesn’t mean clients have to use it.
But many will, Clark says, especially to check their account value and performance. Firms have a design choice: performance numbers, which may encourage detrimental behaviour, don’t need to be the first things clients see when they log in.
A better option, Clark says, would be for online portals to default to a page or pop-up showing the client’s investment goals and probability of achieving them. “You can control what you emphasize and how you augment that experience to get away from performance chasing,” he says.
Reducing anxiety
A client’s investment mix may also affect their vulner- ability to loss aversion, says O’Leary, a fee-only financial planner who doesn’t sell investments.
“A passive investment strategy can go some way to mitigating some of that fear- and greed-driven behaviour around investments,” he says, because clients under- stand they’ve bought the market. “You at least remove one portion of the angst and anxiety that investors face when their investments go up or down.”
When an advisor helps clients determine and stay “relentlessly focused” on goals, investment performance becomes less important, he says. “If you’re meeting your annual 6% goal, for example, then it doesn’t matter if your neighbour did 12% in some small-cap equity fund.”
Incorporating clients’ values into their investments
can also mitigate harmful behaviour by adding another parameter outside of performance, O’Leary says. “Client investment behaviour improves quite considerably when the reason why they’re purchasing an investment extends beyond just the return.”
“One of the results of anxiety and loss aversion is information search: people tend to look for information to reduce that anxiety”
There are also solutions for clients who may not be able to help themselves. Advisors can solicit pre-commitments from clients to remain invested unless the market declines by a certain percentage — ideally around 20%, Lewis says. This can encourage clients to stay with the plan.
Advisors can also try to use mental accounting — a behavioural bias associated with detrimental behaviour — to clients’ advantage, he says. Mental accounting refers
to the way people divide their money into different mental accounts. Treating all money as interchangeable can prevent harmful behaviour such as saving for a vacation while carry- ing credit card debt, or treating tax refunds as windfalls.
When it comes to overreacting to news, however, Lewis says mental accounting can be useful. If clients want to check their investments daily or tinker with their accounts based on what they’re seeing in the news, they should have an account where they can do so. This activity would be lim- ited to 5% of the portfolio, with the other 95% needed for retirement or other goals safely out of mind (and reach).
Dalbar has gone further, creating an “investor panic relief tool” designed to resist a client’s flight reflex. Clark says advisors can use it at the start of a downturn as cli- ents start to panic and want to go into cash.
“You’re never going to time the re-entry point and you will leave money on the table almost every time,” he says. The tool offers an index put to protect against losses over
a given period without making the whole portfolio defensive.
Ostrich effect
Helping clients understand the behavioural heuristics to which they’re susceptible can be an important step, Clark says. “Not that advisors want to become psychology pro- fessors, but to make [clients] at least aware of some of the forces that may be influencing them” would help.
There may also be a silver lining to clients’ behavioural responses. Studies have shown an “ostrich effect” when responding to investment news — that is, a tendency to bury one’s head in the sand when faced with bad news.
The Chongqing academics found evidence of the ostrich effect in their study of trades using financial apps: users checked the apps far less frequently during periods of vola- tility and low market returns. A 2015 study from researchers at Columbia and Carnegie Mellon universities found online account logins fell 9.5% the day after a market decline.
The Fidelity study about account activity may not exist, but clients’ willingness to ignore bad news would play into the alleged benefit: even living clients may be inclined to play dead. AE
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Source: World Economic Forum, 2019
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