How to prepare clients for 'hot state' conversations

More than ever, financial advisors must appreciate the role of vulnerability and biases in guiding investors through turbulence

How to prepare clients for 'hot state' conversations

In a business where credentials and designations are prized and there’s extreme pressure to prove one’s value as a professional, resisting the temptation to use expert-level language can be challenging. But that’s exactly what financial advisors have to do if they want to help their clients.

That was one of the takeaways in a recent webinar on behavioural finance that was jointly held by Manulife Investment Management and its strategic partner BEworks. Geared toward Canadian financial advisors, the webinar featured insights from heavyweights in the field of behavioural economics including Dan Ariely, Kelly Peters, and David Lewis.

“I do believe that, especially in financial services in general, we tend to flex our knowledge a lot,” said Catherine Milum, head of Wealth Sales, Canada at Manulife Investment Management, who facilitated the discussion. “We speak in acronyms. Sometimes we talk about some simple concepts in a very complicated way. … If you're talking to your clients with all the economics that you know – including market dynamics, PE ratios, upside and downside – people feel like they're out of their league so they end up not asking questions.”

The need to use plain language, Milum stressed, is something that cuts across all professional service industries. When a client comes to a professional and they’re met with a barrage of jargon and term-dropping, the net effect tends to be not one of increased trust. Instead, they’ll be inclined to believe that the professional they’re speaking with is purposefully trying to confuse them, and is somehow not working in their best interest.

Using plain language can be a powerful tool in helping clients avoid making poor short-term financial decisions at the expense of their financial future. A couple who wants to buy an expensive car just because, for example, may reconsider if an advisor were to inform them that the average couple would have to spend approximately $547,500 in retirement just to eat – assuming they were to spend $10 a meal and eat three meals a day for 25 years.

While using plain language is a useful first step to building a strong client-advisor relationship, it shouldn’t end there. As explained in the webinar, advisors should also consider showing a vulnerable side to themselves: for example, they could help a client faced with a particular challenge by talking about a similar obstacle they had to overcome earlier in life. By sharing personal stories and using other techniques informed by behavioural economics, advisors can build more trust – a currency that's become more valuable than ever as they are forced to operate in a virtual environment. 

“Another important part of this is for advisors to be aware of not just their clients’ biases, but also their own,” Milum said. “For example, a financial advisor may realize that because of their accumulated expertise, they feel a need to have more control over situations than they actually do. Once they’re aware they have this bias, it can be a springboard for them to talk with clients about the self-destructive tendencies it can lead to, as well as practices that can be used to overcome it.”

The biases that can undermine clients’ decision-making are well established in the field of behavioural economics. Aside from the “illusion of control” bias, Milum pointed to overconfidence bias, where investors feel they can intuitively predict what the future direction of stock markets will be. Another common pitfall, loss aversion, makes people more sensitive to losses than they are to gains; that creates an unhealthy urge to sell in the middle of a painful drawdown, instead of simply waiting for the markets to recover.

“It’s usually the client’s emotions that are the problem, not the portfolio itself,” she said.

As Milum explained, these emotions are more likely to arise when clients are in a “hot” or aggravated state. When a client is in that condition, it can be tough to make them understand that sudden decisions can derail their long-term goals. The solution, then, is to discuss plans and establish parameters when they’re in a “cold” state, which typically occurs as markets go up or are generally flat.

“When there’s not a lot of volatility in the markets, it’s the best time to talk to your clients,” she said. “Put a full financial plan together, and ask them simple questions about what they’d want to do in specific situations, including extreme market drawdowns. You can also provide important context to inform their decisions – how often the market has dropped 20% or 30% in the last 50 years, for example – which they’ll be more receptive to in their ‘cold’ state.”

By having those preparatory “cold state” discussions, advisors are likely to encounter much less resistance from clients as they refer back to courses of action that they’d agreed to beforehand. They’ll have a much easier time confirming those instructions in plain language, rather than trying to explain potential risks and ramifications to an agitated client who’s concerned about what’s happening to their money.

While the field of behavioural finance is nothing new, it’s taken on new importance as uncertainty and volatility in the markets reignite risks of irrational investor behaviour. With that in mind, Manulife Investment Management is partnering with BEworks to put together a six-hour course on behavioural finance for financial advisors. With a slate of expert instructors including Ariely, Peters, and Lewis, the course is set to launch in the first quarter of next year, with CE credits to be given to those who complete it.

“I think financial advisors have done a great job of emphasizing how having technical knowledge and credentials is important for them to serve clients well,” Milum said. “But another piece they haven’t discussed as much is the importance of understanding personal behaviour. If they’re forthright about it, if they can emphasize that keeping clients invested through volatile markets is their number one job, I think it will lead to much more productive and honest conversations.”


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