Determining a client's risk tolerance is a standard requirement in financial services, both as a matter of best practices, and regulatory minimums. In recent years, though, advisors have increasingly leaned towards doing the minimum required to assess client risk tolerance, due to the frustration that client risk tolerance itself has varied wildly through the bull and bear market cycles of recent years. However, a new study out using FinaMetrica risk tolerance data from before and after the global financial crisis joins a growing body of research suggesting that in reality, client risk tolerance is actually remarkably stable, and that what's changing through market cycles is not the client's risk tolerance, but instead risk perceptions. The significant implications of the research are that planners struggling with unstable client investment behaviors around risk - e.g., buying more in bull markets and selling out in market declines - may actually need to focus more on managing risk perceptions, rather than blaming the instability of client risk tolerance.Read More...
What is the value of financial planning? What do you get from it? What does it really do for you? Historically, the profession has tended to answer these questions with explanations like "financial planning brings you peace of mind" and "financial planning gets you on track for retirement [or other] goals."
The problem is that these results are intangible and long-term, which makes them hard to define clearly and difficult to be held accountable to over a relevant time period. In fact, arguably one of the greatest challenges for the advancement of financial planning is our inability to clearly explain the value proposition and what clients will get out of it.
So what's the solution? Financial planning needs to redefine itself from long-term intangibles to short-term tangible results; after all, clients who can really see that the outcome of the planning experience has benefited them become true advocates of our services, and build the habits that ultimately lead to long-term success! Which in turn raises the question: what are some short-term tangible results we can establish to better demonstrate the value of financial planning?
Making decisions about trade-offs that only have distant, future ramifications, and deal in abstract projections can be difficult for clients. Yet while we can always revisit decisions as time passes, the reality remains that in order to establish a plan in the first plan, we need to assess such uncertainties and make some initial decision. Would you rather have a plan that has a little risk of spending cuts and a high probability of excess wealth, or a plan with lots of risk of spending cuts that is less likely to leave over wealth you failed to use during your lifetime, none of which will be relevant for years to come? How do you weigh the risk of spending cuts against terminal wealth, or the volatility of a portfolio against the future impact it may have on spending?
Recent research suggests a new way to evaluate these problems, adopting utility functions that have been applied elsewhere in economics to the financial planning world, and opening up a new body of research in the process. While we may still have a ways to go before utility functions become commonplace in planning, this may be an early glimpse at the future of how we craft recommendations for clients... at least, if we can overcome some hefty hurdles, first.Read More...
Historically, the update of a financial plan has been a somewhat arduous process, as new data is gathered manually from the client, entered into financial planning software, analyzed for problems or opportunities, and then finally delivered to the client. Perhaps even more challenging is the fact that it's never quite clear when or how often to do the plan update; annual updates are proactive but often produce a lot of work when nothing has actually changed, yet waiting for the client to request an update can be too reactive. In the digital age, though, monitoring a financial plan will be very different. As integrated technology allows plan details to updated automatically and continuously, we will reach the point where you don't notify the client that it's time for a plan update; the planning software will notify you!Read More...
As financial planners, we have a drive to see our clients succeed, as both a mark of successful financial planning, and because no one wants to be the planner whose clients fail (for both personal fulfillment and legal liability reasons!). As a result, planners often encourage a steady path that may entail some "prudent" risk, but nothing excessive. Yet this often puts planners in a difficult position with very entrepreneurial clients, who often take significant career, business, and financial risks in an effort to build their businesses and significant wealth. Even if the planner is not directly responsible for the entrepreneurial client's business outcome, we don't necessarily want to be there when it all falls apart, either. In fact, if the client has a choice between an entrepreneurial venture or a salaried career, the planner typically recommends the path of lesser risk; it's just prudent, good planning. Yet in the end, does that mean good financial planning actually discourages entrepreneurship and makes it nearly impossible for clients to actually accumulate very significant (e.g., $10M+) wealth?Read More...
With stocks experiencing a lost decade, bonds barely keeping up with inflation, and savings accounts generating virtually no yield at all, it is a daunting environment for clients to save and accumulate. Many question whether saving is even worthwhile; if the client can't earn anything on money saved, there's little economic benefit to delaying gratification, and the incentive is to just spend it now. On the other hand, low returns also mean that if the client ever hopes to retire, it may require more saving than ever, given that low returns mean less compounding. And so the real question for Generation Y - today's young adults - is which way will it go: will low returns disincentivize saving, or help people redouble their efforts to save even more? Read More...
As a country, our national savings rate is among the lowest in the world, and in practice the average American struggles to save much of anything. A recent survey by the National Foundation for Credit Counseling indicated that 64% of Americans don't even have enough cash on hand to handle a $1,000 emergency expense. The standard advice of financial health to address these problems is to "Spend Less, and Save More" or its extended version, "Spend Less Than You Make, And Save The Rest." Yet notwithstanding the nearly universal nature of this advice, it doesn't seem to be having much of an impact. Perhaps the problem is because in reality, the advice just isn't specific enough to be actionable, and as a result it's ineffective. In other words, if we really want people to spend less and have more money left at the end of the month, what we need to do is not just tell people to "Spend Less, and Save More" - we actually need to tell them HOW to spend! We need to create the "food pyramid" of recommended spending!
It's a common financial planning challenge - the planner provides recommended action items for the client to implement, but the client struggles to follow through on them. In some cases, it may be because the client doesn't really believe the recommendations are best; in others, it's a matter of trust; but in most, it may simply be a matter of "buy-in" to the action items (or a lack thereof!) in the first place. After all, it's easy for a client to procrastinate about implementing recommendations if the client isn't really committed to them in the first place.
But as it turns out, just a few small changes to the process of delivering action item recommendations by inviting clients to physically write down part of their commitment can potentially increase client buy-in and follow through.Read More...
Some financial planners consider budgeting and cash flow the cornerstone of a client's financial plan; for others, the focus is on long-term planning, and they let client cash flow sort itself out. In many situations, planners seem to be uncomfortable in giving spending guidance to clients; as the saying goes, "It's their money; who am I to tell them how to spend it?" Yet at the same time, most would probably agree that clients can't just save their way out of their fiscal woes; you only free up money to save by first determining what to NOT spend it on.
So does that mean in the end, planners can't have a broader impact until they are more active in helping clients actually set spending policies?Read More...
As is often said, "financial planning is a process, not an event" and therefore is predicated on an ongoing relationship between the planner and the client. Yet the in-depth nature of a financial planning relationship presents challenges as well; it takes more time, it costs more money, and it becomes less accessible to many who either can't afford or don't want such a 'deep' relationship. But does it have to be this way? Could financial planning still deliver value even if it's NOT an ongoing relationship with an individual financial planner?Read More...
