Although so many financial and economic models take as a fundamental assumption the idea that we are all rational human beings, the emerging research from the field of behavioral finance clearly illustrates this is a false assumption. In reality, we have some pretty strange financial behaviors, that do not appear to be at all consistent with a purely rational decision-making process. Fortunately, the world of behavioral finance is showing us that at least some of our irrational behavior occurs in a consistent manner that we can predict, so while our actions may not be rational at least they can be anticipated. But that in turn begs a fundamental question: when faced with a client making an irrational financial decision, is the rational (for the planner) solution to try to change the client to be more rational as well, or to change the recommendation to fit the client's irrational behavior? Read More...
Almost by definition for many, the essence of financial planning is that it's comprehensive. Financial planners don't just look at a particular problem or product; they account for everything holistically to arrive at a recommendation and solution that fits in with the big picture. In other words, they don't just plan for a slice of the pie; they plan for the whole pie. Yet it seems that for many planners, the "whole pie" is the client's balance sheet; we plan for all the different assets (and liabilities?) that the client has, not just a particular account. What about the OTHER pie, though? Not the asset one; the INCOME pie.Read More...
Yesterday the US Government Accountability Office (GAO) released the results of its study on the regulation of financial planning, as mandated by the Dodd-Frank Wall Street Reform legislation. Seen by many as a potentially significant step in the recognition of financial planning as a profession, the study came far short of recommending standalone regulation for financial planners, instead finding that the regulatory structure for planners is already "generally comprehensive" and delivering as its primary recommendations... more studies. Nonetheless, the GAO report represents the clearest picture yet of the financial planning landscape, with acknowledgement of the problems entailed in varying standards of care for different financial services channels, and consumer confusion over the myriad of titles and designations that financial planners use.
As financial planners, we have a responsibility to give people the best advice to guide them towards achieving their goals. In most cases, it's very straightforward to develop these recommendations, by applying the technical rules and looking at "the numbers" to calculate what path/route/option is best. Yet ultimately, the solutions don't count unless they're implemented correctly, and if you want to take that next step, you have to deal with real world behaviors. Which leads to a fundamental problem: what happens if the "best" solution is one that's not conducive to human behavior? How do you navigate the intersection between behavior and the numbers? How do you develop rational financial planning recommendations in a world where people don't always behave rationally?Read More...
The debate about which is better - passive versus active investing - has been around for a long time. But in a world of pooled investment vehicles, especially with such a breadth of mutual funds and exchange-traded funds (ETFs), there are technically two levels on which decisions must be made: within the funds, and amongst the funds. Consequently, to describe the approach of an investment advisor, we should ultimately describe the process at both levels, to make clearer distinctions. For instance, are you strategically passive, or would strategically active be a better description. Wait, strategically active? What does THAT mean!?
Planners are accustomed to dealing with most types of capital that clients may have, whether it is stocks, bonds, real estate, cash, bank accounts, or other investments. Yet the reality is that for many clients, the biggest piece of capital on their balance sheet is not the stuff that they own; it's themselves, and their ability to earn income in the future. However, as planners we rarely track and account for a client's human capital; and as a result, we may overlook the financial advice that can truly have the greatest long-term impact for a client's success.
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