Why it’s now ‘critical’ to adopt behavioural finance techniques

More advisors are using BeFi techniques as survey reveals rising biases among clients

Why it’s now ‘critical’ to adopt behavioural finance techniques
Steve Randall

Behavioural finance is on the rise and financial advisors (FAs) that embrace it are benefitting according to a new study.

Understanding how psychological influences can affect market outcomes and investor decision making is the central tenet of behavioural finance (BeFi) and the Schwab Asset Management survey in collaboration with the Investments & Wealth Institute and Cerulli Associates has found several benefits for FAs.

The report also highlights how behavioural biases among clients are increasing.

The share of investors whose behaviour is affected by recent news events or experiences increased to 58% in 2021 (35% in 2020) while confirmation bias - seeking information that reinforces existing perceptions – more than doubled to 50%.

Framing – making decisions based on the way the information is presented – along with a preference for familiar (domestically domiciled) companies and playing it safe to avoid losses were all significantly higher in the 2021 survey.

“There has never been a more critical time for advisors to incorporate behavioural finance techniques into their practices to understand and help clients stay on course to reach their long-term financial goals,” said Omar Aguilar, PhD, chief investment officer and head of investments at Schwab Asset Management. “The combination of pandemic-driven uncertainty, market volatility, and speculative investing trends have culminated in an environment where behavioural biases thrive.”

Aguilar has been a practitioner of behavioural finance in asset management for over 20 years.

What can FAs do?

The use of behavioural finance techniques can be of great benefit to FAs and the BeFi Barometer 2021 has identified those that are most effective include: taking a long-term view, integrating goals-based planning, implementing systematic processes, cautioning investors to stay calm, and increasing portfolio diversification.

“Advisors can always use behavioural finance techniques to their advantage, but in times of market uncertainty, such skills can be a true differentiator,” said Asher Cheses, Associate Director of Wealth Management at Cerulli Associates. “Our findings this year—a year of unprecedented challenges, uncertainty, and volatility—support that those who leverage behaviour bias mitigation techniques were able to secure client trust and retain assets.”

The top five benefits of incorporating behavioral finance techniques as reported by advisors in 2021 were:

  • Strengthen trust and relationship with clients / increase client retention
  • Keep clients invested during periods of volatility
  • Reduce short-term or emotional decision-making
  • Better manage client expectations
  • Help improve clients’ financial decisions and prioritize goals

Client communications to align with clients’ emotional tendencies is the top way that FAs are implementing behavioural concepts.