Financial Personality

The Top 4 Ways Your Brain Wrecks Investment Performance

The Top 4 Ways Your Brain Wrecks Investment Performance

As behavioral finance goes mainstream, investor behavior has become more accepted as the major influence on investment performance. So how does one become Behaviorally Smart? Dalbar research shows investment losses to individual investors due to their behavior to be an average of 8% per year over the last 30 years.

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And not just limited to the investor, based on research performed by Cabot Research, professional investment managers are leaving 1% to 3% a year on the table, which is significant when you realize the size of these large portfolios. So even the professionals who use sophisticated technology and extensive research make mental errors in their decision making. After all, they are also human and have to manage their cognitive biases and emotions when under pressure.

This begs the question how can investors improve? There is no simple tonic to improved performance, as this requires wholesale behavioral change – a paradigm shift in how one engages the world around them.

Steps to Investor Improvement
1) greater level of self-awareness as to why they repeat the same mistakes
2) develop an investment process that provides a “check yourself before you wreck yourself” step to mitigate these blind spots.

Greater Self-Awareness
With more than 15 years of research, DNA Behavior has learned that easily identifiable behavioral traits lead to patterns of decision-making that are then very closely aligned the structure of an investor’s portfolio. So the combination of traits and patterns makes up their financial personality style. The portfolio mirrors who they are! In fact, investors should look at their portfolio as the composition of all their decisions and not just a series of market positions.

Next, the reality is that some behavioral biases cost more than others. Based on Cabot Research (read Michael Ervolini’s book “Managing Equity Portfolios“, the top 4 ways the brain can wreck investment performance are summarized as follows:

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1. Holding on to winners for too long. Known as the Endowment Effect, the investor falls in love with a winner and loses sight of the fact that its best days are gone. There is the fear of selling the position too early and missing out on future growth.

2. Selling young winners too early. This is attributed to Risk Aversion, resulting in the investor having fears about the future and not wanting to take the bumps in the road as the stock goes up in value.

3. Holding on to losers for too long is caused by Loss Aversion. The investor is fearful of the pain that will be caused by taking a loss and therefore, ends up with a portfolio full of losers.

4. Not adding to winners when they take off is attributed to Regret Aversion. This is an investor who, through fear, is hesitant in their decision-making and backs out of building the stock position as it gains momentum.

Based on your history of decision-making which of these 4 patterns has cost you the most? And remember, there are also many other behavioral biases, which coupled with these, will further contribute to reduced performance. To help you on the journey of closing the investment performance gap, start with self-awareness of your behavioral traits. Take the first step by completing your Financial DNA Discovery – click here.

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4 Hacks For Managing Your Nightmare Clients

Advisors and their staff love to stereotype their clients. Without even realizing it, most firms segment their clients based on communication style using a crude method of stereotyping. While this segmentation is informal, it 100% aligns to the four fundamental client communication styles. Below is a guide to the four most common client communication styles and how to serve them based on their common stereotypes. Any seasoned advisor will agree that these tips can save your client relationship.

1. The Engineer: By far, the most common stereotype I hear is “the engineers”. Many firms will avoid engineers at all costs. But for firms that have mastered communication to engineers, this is their bread and butter business. The key many firms use when training new staff is: “don’t you dare show up to a meeting for an engineer without doing your homework.”

Tips for working with “The Engineer” (The information focused)

  • Make the meeting have structure, provide an agenda ahead of time.
  • Provide research to back up recommendations. Give them space to review the research and contemplate options. Ask leading questions to draw them out beyond simple yes/no options.
  • Follow-up the meeting with additional resources to educate themselves and a to-do list as “homework”.
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2. The Talker: The “talker” can be a potentially great referral source, but they sure can do a number on your calendar!

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Tips for working with “The Talker” (the Lifestyle focused)

  • Make the meeting fun and inspiring.
  • Swap stories of influential people that share a similar situation.
  • Follow-up the meeting with a phone call, even invite them to a social event. Everyone likes the life of the party, or at least wants to hear what they’ll say next.

3. Mr. or Ms. Guarantee: Averse to risk, Mr. or Ms. Guarantee cant stand the thought of losses and immediately jump to the worst case scenario. They wont like the idea of complete uncertainty and will often ask for written guarantees and whole-heartedly compare their performance to benchmarks. They need continuous reminders to stick to their plan and that slight ups and downs are normal.

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Tips for working with “Mr. or Ms. Guarantee” (the Stability-focused)

  • Make the meeting relaxed. Use a coffee table or living room type setting.
  • Reference past experiences and make recommendations accordingly.
  • Follow-up the meeting with a phone call AND email about next steps.

4. The Hardheaded: “Do as I do, not as I say”. The hardheaded have a view of the world that every rule is intended to be broken. These clients are the best selective listeners in the world and will interject on a dime to keep the discussion focused on their self-centered plans goals.

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Tips for working with “The Hardheaded” (The goal-setting focused)

  • Make the meeting formal and focus on how you will meet THEIR goals for returns.
  • Be prepared with a sample big picture plan.
  • Afterward, follow-up with an email or text summarizing the discussion.

 

 

 

Following these guidelines will keep most client experiences on the right path to success. But if you ever find you can’t quite find the right fit, either try a mix of the options above, or there are tools and training available to support your needs.

Advise Your Advisor On How To Advise You On Financial Advice

Advise Your Advisor On How To Advise You On Financial Advice

Your Advisor’s not telling you that your long-term financial goals may be out of sync with the level of risk you’re willing to take in order to reach them. No risk, no reward, right? It’s time to advise your advisor on how to advise you on financial advice.

According to a recent survey by asset manager Natixis, while about 73% of investors polled said that pursuing returns is more important, nearly 84% also said they would choose safety over risk.

So how can you balance increasing assets vs. tolerating risk? And how do you relate this to your advisor? For financial advisors, this balance presents a challenge as well. How your advisor is able to accurately assess this is by delving into your core natural risk propensity and tolerance, part of your financial personality.

The opportunity is to educate your advisor on realistic expectations and strategies to best reach your goals. And while he or she has the tools and training available to them in order to help you along, not everyone is onboard with matching your individual personality behaviors with your personal financial goals.

Where advisors often fall short is not identifying all of the risks associated with your particular situation: investment, financial, and personality risks. This is an important factor because under stress, you might not be as clearheaded or know all the ins and outs of a given situation in order to rationally process what’s happening and make behaviorally smart decisions. You very well may be operating based on your core natural behavior.

As you’re transitioning jobs, getting married, buying a house or preparing for retirement, you’re under a lot of financial stress – worries regarding accumulating wealth may push you into new, riskier investment decisions. Then add market volatility, unforeseen personal events or escalating college tuitions or long-term health care costs, or the emotions associated with being in the “withdrawal stage” rather than “accumulation phase”, and you’re pushed according to your core natural behavior. In many cases, this mix of stress and decisions based on your reaction to that stress is not beneficial for the long-term success of financial goals.

Your financial advisor needs to be in a position to manage not only your portfolio, but protect you from your natural self. This is an important step in the investor/advisor relationship and necessary to your financial success, because under stress, your risk behavior is less predictable without an objective tool. You may want to jump at every opportunity, or over-spend, or take no action at all. This is where knowing your behavioral insights and communication style, help your advisor help you and your significant other.

In many cases, a couples’ behavior will be directly opposite one another. So there is an added challenge for your advisor to know the behavior of each of you in order to address both in different ways.

So, how do you uncover these behavioral risks?

You need an objective, third party system so that your behavior, under stress, becomes more predictable and therefore can plan accordingly. Then, in combination with your experience and wisdom, discovering your financial natural behavior will allow you to become a behaviorally smart investor and provide valuable insights to your financial profile. It’s an enlightening process to see if your advisor is right for you, and then in turn, to see if you’re a match to them. And who knows? With these insights, you may find out a lot more about yourself and your partner, than you’d previously known.

Be sure to discover all of your risks originating from your natural core behavior. It’s the only way to protect you, from yourself. And it helps establish a trusting relationship with your advisor to create a financial plan that is as unique as you.

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Be-Fi for the DIYI (Behavioral Finance for the Do-It-Yourself Investor)

The oldest advice in the financial world: buy low, and sell high. And easy to follow too, right? Then how come we’re not all gazillionaires? That’s the Behavioral Finance $25,000 question.

First off, maybe a gazillion bucks isn’t everyone’s goal, but even moderate growth on savings over time in preparation for retirement shouldn’t mean we suffer losses over and over again along the way. So beyond market volatility, what are the factors for our repeated or short-sighted poor finance decisions?

Let me share a story.

Years ago I got a “hot stock tip” from a buddy, stop me if you’ve heard this one before. Between his recommendation and the historical value showing nothing but upward mobility, why not? Well, it hit. A solid 34% gain in just about a month. Amazing, right? I was so excited, I could barely wait to see what it would do next. And that’s the turning point. A couple of dips later, I still had a significant gain, but I was going to ride it all the way back up. It had to bounce back, right? That’s optimism bias. So to remove myself from further discouragement, I opted to not check it daily, even weekly. And in about the same amount of time of its rise to greatness, it dipped to pennies on the dollar below my initial buy-in. What happened? I got greedy? I didn’t set limits (gain or loss)? I got caught in the Herd-following bias. I was following the lead of the others instead of the hard facts, or following a set plan.

Well, I finally got around to telling my Financial Advisor. Even though she’s entrusted with my long-term savings plans, I’d not considered sharing my “fun experiment.” She took one look at the company’s performance and simply said “they’re awful, sell it while you still have something. And next time, check with me first”. Good advice, but not what I wanted to hear. So, I kept it anyway, even in light of overwhelming odds. That’s Overconfidence Bias.

It’s been almost 6 years of hanging onto to this one-time trading nightmare. At least, we weren’t “missing” the money, just sad to have seemingly blown the wad. On a positive note, I’m on the cusp of another big potential return. A rental house we bought at the bottom of the market and now, with a little elbow grease, is primed for resale. Bought, mind you, with our Financial Advisor’s full support. It’s our backup plan if we both lose our jobs and need to get out of our big, nice house quick. We could downsize finances in a hurry. Anyway, the silver lining, since I’ve held onto the dog of a stock, is to sell it when we sell the house and take the stock loss to offset the house profit. Not brain surgery, but in sync with our advisor’s input.

A nice story about Behavioral Bias and advisor communication, but let’s get back to the Financial Personality of a person who might seem to haphazardly buy high and sell low, when they meant to do otherwise, and how this affects long-term financial planning efforts.

Our Financial Personality covers both innate and learned behaviors in regards to our financial decisions. It also includes our behavioral biases, communication style, and Market Mood. So knowing one’s Financial Personality is the key to developing financial goals and then the plan to achieve them. This transparency in truly understanding ourselves helps us navigate volatile market events and stay on point for the greater good. Your Financial Advisor has assessment tools that can quantify your personality traits. There’s a self-guided version posted here (personal assessment) to try for yourself.

 

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Another integral part in working with your Financial Advisor, or any business colleague, friend neighbor or significant other, is communication. Recall that I included my advisor on the house purchase, but I only spoke with friends on the stock ordeal? Well, we all have our own communication style. And we tend to run in circles where our own style is fairly prevalent — learned from families and developed amongst friends. But in the business world, good communication is key to being understood, and understanding others. And we won’t always get to choose to (or from) whom we engage. So we have to learn to adapt (or be left behind). Wouldn’t you want a way to identify how you come across to others or how best for others to engage you? Well, there are assessment tools for this too. Again, here (communication style) is an assessment you can try, and even share with others.

It’s no coincidence that I included the interactions with my Financial Advisor as part of my financial thrill of victory and agony of defeat. She was and continues to be in my corner for staying on course and avoid making bad decisions when the terrain suddenly changes. And some mistakes have wholly been on my own. Now, this may not be the case for everyone, and that’s why we’re kicking off this discussion — to find the peaks and valleys of our financial journeys and help one another along the way. If you’re interested in seeking an advisor, or already have one, and want to share what’s being discussed here, please check out this advisor finder.

 

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Likewise, tune in for more Behavioral Finance for the DIY Investor over the next several weeks as we cover the many ways our Financial Personality, Behavioral Biases and Communication Styles affect, and are affected by, our relationships with our friends, family, Business and Financial Advisors.

Advisors Fooled By Own Biases

Advisors Fooled By Own Biases

Some advisors have told me that they will not use a tool because of a warped belief they can read people better. The fact is, we all have personal blind spots and behavioral biases which stem from the overuse of our strengths. The right assessment process built with scientific foundations provides a huge amount of objectivity, which can help an advisor not fall into the trap of being fooled by their perception and own natural biases.

However, criticism of traditional risk questionnaires is right, as Carl Richards points out in his blog. The typical risk questionnaire is not inherently accurate and is relied upon without properly engaging the client. But if used as a starting point, success can be achieved by the advisor using it to engage the client in -a goals-based planning process.

With a reliability factor of 91% (and having been completed by over 800,000 people,) the Financial DNA Discovery Process is an independently-validated, psychometric assessment used to measure a person’s complete financial personality (including risk). So while basic, situational “questionnaires” should be out, scientifically validated processes which are accurate and engaging should ALWAYS be used so long as they are part of a more in-depth conversation.

Are your couple clients at risk of leaving your Financial Advisory Firm-

Do You Have “At Risk” Clients?

Do you know which of your clients are at risk for:

  • Leaving your practice?
  • Becoming a compliance nightmare?
  • Sabotaging their financial plan?

You may have more than you think since customer experience is the internal andsubjective response your clients have to any direct or indirect contact with your firm.

The two key words that should have you concerned are internal and subjective because you cant measure or control these aspects of your client.

According to the 2014 EY Global Insurance Survey, 89% of clients want more frequent, meaningful and personalized communications from their advisor. And in fact, 35% of clients leave to find an advisor who is better at communicating.

In order to retain your clients, you need to have an objective process to uncover a clients financial personality. As intuitive as an advisor might be, they can no longer afford to rely on subjective observations and open-ended questions. Using technology-based tools will soon be the new normal in the industry.

The combination of your baby boomer clients nearing retirement and the market volatility can easily lead to some unforeseen compliance nightmares. Why? Because emotions are heightened and clients who appeared risk tolerant and told you they were risk tolerant can suddenly change their mind. They were fine as long as the market was going up (or even down a bit) and retirement was years away. Now as they start to create their cash flows and realize they are in the withdrawal stage of life, market performance can make or break their golden years.

In addition, the stress and considerable psychological changes that your clients are going through as they near retirement may cause them to unknowingly sabotage your carefully created financial plan. You may have more difficult conversations with couples as the husband might have visions of expensive vacations while the wife is content on cutting back expenses.

What if you had this behavioral information at your fingertips from the very start of your relationship? Imagine a world where, in times of market volatility, you could pull up a list of all your clients, see their level of trust and have the customized communication step you should take at that moment. Youd find client retention increases, your compliance challenges stopped before they are given a chance to start and clients that commit to sticking to their financial plan.