All of us are innately wired to react certain ways when it comes to making investment decisions. Some of us are spenders while others are savers. Some are thrill seekers while others prefer to play it safe. Each of these personalities has good qualities and areas for improvement. We’ve found that being “self-aware” is the first step to becoming better investors and finding help to maximize our strengths and overcome some of these troubling tendencies. One tool we’ve been using recently with clients is a Financial DNA profile which helps ascertain which strengths each individual has and strategies for overcoming potential pitfalls.
These same behavioral biases are exhibited by financial professionals as well. But are these professionals as a whole more self-aware than the public at large?
A 2014 study by two Swedish researchers in the Journal of Financial Intermediation set out to answer the question, “Do financial experts make better investment decisions?” Their answer? A resounding, “No.” To quote them directly, “We find no evidence that financial experts make better investment decisions than peers: they do not outperform, do not diversify their risks better, and do not exhibit lower behavioral biases.” It would seem that financial professionals then, on average, are not practicing what they preach. Of course, when searching for the best in any profession we find ways to ascertain who may be above average and reading our “Are you a believer” blog from last year could prove helpful. But, if we believe that markets are efficient, and the experts are just as fallible as the rest of us – why bother working with a professional at all?
The answer lies in our flawed psychology and our ability to help others even when we cannot help ourselves. A study conducted by Aon Hewitt compared the investment performance of those who received financial advice (“Help” group) versus those who took a do-it-yourself approach (“Non-Help” group). The advice was delivered online and was tailored to the specific needs of their portfolio. One finding was unambiguous – across all ages, income levels and market conditions, those who received advice outperformed those who did not, to the tune of 1.86% per year net of fees.
Of equal significance was the finding that the positive impact of financial help was most profound during periods of great market volatility, rising to 2.92% per year (net of fees) outperformance during the time we now know as “The Great Recession.” It takes just a bit of middle school math to demonstrate that the power of 2% per year benefit, compounded over an investment lifetime, can easily be the difference between whether or not someone has adequate resources with which to retire.
Some would say the greatest value an investment professional provides is not in stock selection or market timing, but in preventing you from making a handful of bad decisions that will make or break your financial future.
The study shows that the assistance provided was most beneficial when helping investors choose appropriate levels of risk, keep themselves from timing the market, managing risk over a lifetime and receiving advice in times of uncertainty. Some people find this help by using an automated advisor, while others need a person to sit across the table and guide them. I personally find coaches, mentors and trainers help me get more out of myself and better results than going it alone. Wherever you choose to get your advice, please seek professional advice of some kind.
The researchers found that appropriate risk-taking over a lifetime was one of the biggest drivers of return in the study. In emphasizing the importance of coaching and behavioral management, please do not mis-understand us to say that knowledge is unimportant in the provision of financial advice. Long term tax management strategies, social security strategies and even asset liquidation strategies can make a bigger difference over time than earning an extra couple percentage points.
We highly recommend that you work with a financial professional who is knowledgeable and understands you and your situation. One you will listen to and follow their advice when you least want to.
But what should you be watching out for, even if you don’t feel you are subject to behavioral biases and all this stuff doesn’t apply to you?
Below we have delineated four basic financial personalities:
“Goal Setter” personalities are typically referred to as “aggressive investors”. They tend to be very bold and take a look at their investments with a consolidated view. They love to discuss options and like to get to the bottom line.
Often “goal setters” have blind spots they have a hard time admitting because of overconfidence and their optimistic outlook. Some of the best ways to overcome the biases of the goal setter is to establish investment rules to help reduce “un-needed” risk allowing them to see the benefits of making fewer decisions and thinking longer term.
“Lifestyle” personalities tend to be instinctive. They don’t like to do a lot of research and tend to listen to people they respect. They hear things they trust and go with it. They also tend to be spenders. Lifestyle personalities have a hard time following a budget.
These personalities have a tendency to get overly excited or depressed. Having someone to talk to that can help them stay grounded is a great idea, especially when it comes to finances.
“Stability” personalities tend to be somewhat timid, especially when the markets start moving up and down more vigorously. They tend to benefit from more education as to why it may be a good idea to follow a certain course. They can also benefit from taking a longer- term view and making fewer decisions when they learn how a well-crafted strategy tends to prevail over time.
“Information” personalities want to study and learn everything they can. They tend to be very well prepared albeit skeptical. They are savers and are very detailed in nature.
These personalities may have difficulty adding enough diversification to their portfolio, especially if U.S. stocks are outperforming. Information provided to help them understand that recent events are very unlikely going forward tends to be helpful. Partitioning assets into different mental buckets to be able to achieve their goals can be an eye-opening experience for them.
Did any of these personalities describe you? More than likely you felt an affinity toward one or more of these descriptions. The four personalities listed were a more general snapshot of the ten potential financial personalities we find in our Financial DNA profiles. To learn more about Financial DNA and which of the ten (10) detailed financial personalities you best fit, please feel free to contact us or follow this link.
Joe D. Franklin, CFP is Founder and President of Franklin Wealth Management, and CEO of Innovative Advisory Partners, a registered investment advisory firm in Hixson, Tennessee. A 20+year industry veteran, he contributes guest articles for Money Magazine and authors the Franklin Backstage Pass blog. Joe has also been featured in the Wall Street Journal, Kiplinger's Magazine, USA Today and other publications.
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