While entrepreneurs are often renowned and celebrated for their willingness to take risks – to the point that encouraging someone to “be more entrepreneurial” is an analogy for taking more risks – the reality is that research shows entrepreneurs often consider themselves otherwise. From the entrepreneur’s perspective, though, what they do doesn’t necessarily seem risky – at least to themselves – because of the confidence they have in their own abilities (i.e., a belief that they will be able to navigate whatever challenges arise). Yet if entrepreneurs aren’t actually necessarily risk-takers – just very confident, or perhaps even overconfident – the question arises: what’s the best way to counsel an entrepreneur through the risks of their financial decisions if they don’t recognize those risks in the first place?

The large scope of what it actually means to be an ‘entrepreneur’ (e.g., from a goat farmer in a tiny third-world-country village to a solo divorce attorney in a large metropolitan city), and the variability in risk tolerance measurement methodologies that are used to evaluate them, makes it difficult to definitively substantiate the idea that entrepreneurs, by nature, are high-risk seekers. As some studies suggest, entrepreneurs do not necessarily take on more risk than non-entrepreneurs; rather, they may simply have a relatively high confidence (often to the point of overconfidence) level in their own capabilities… such that they don’t perceive what they’re doing to be risky in the first place. For financial advisors, this means that for some of their clients who are business owners (and for some advisors themselves!), the challenge may not be so much about dealing with high risk-takers, but instead about how to work with clients who can be overconfident (and fail to recognize the risks they actually are taking).

In turn, there are three aspects of overconfidence: overestimation (when someone believes they are better at something they actually are), overplacement (when someone believes they are better than a targeted person or group, even though they are not), and overprecision (when someone believes their expertise or ability is based on facts or past experiences, but the facts and/or experiences have been incorrectly recalled). And while exaggeration of any of these facets of overconfidence can lead to potentially disastrous results, attenuating the overexpression of these behaviors can actually be beneficial for individuals facing difficult challenges.

Financial advisors can help overconfident clients by ensuring their clients understand their financial situation clearly and accurately.  This reduces the risk of clients taking action on wrong information, and can help ensure that the client has a clear understanding of ‘normal’ parameters pertinent to their financial situation, whether that relates to a business venture or simply a personal checking account balance.

Another tool that the advisor can use to help clients recalibrate potentially skewed (i.e., overconfident) beliefs they may have about their own abilities or resources is an adaptation of Subjective Probability Interval Estimates (SPIES), a methodology developed by psychology researchers to study overconfidence. By helping the client identify all possible outcomes of a decision being considered, advisors can help the client gain a clear, objective perspective of accurate and realistic information.

Ultimately, the key point is that financial advisors working with entrepreneurial clients shouldn’t necessarily assume that they are risk-takers, and instead recognize that their confidence (or overconfidence) may instead be blinding them to their risks. Yet at the same time, advisors with overconfident clients don’t necessarily need to encourage these clients to abandon their overconfidence (which really can help them to overcome the real-world daunting challenges of entrepreneurship). Instead, presenting clients with enough knowledge to help them understand how the actual risks they may be facing can impact their situation (and how those risks may pose very real threats to them, which can arise through the actions of other, potentially less skilled/knowledgeable individuals over whom the client has no control – no matter how lucky they may feel) can be the cornerstone for creating a sound financial plan, that still takes prudent risks… but with all the appropriate safeguards in place!

Read More...

One of the most frustrating parts of providing financial planning advice is that not all clients follow through on the advice that is clearly ‘good’ for them. Of course, the reality is that as human beings, we often don’t take the advice proffered by others. But when a prospective client comes to the financial planner for advice, there is a reasonable expectation that they’re ready to act on the advice they receive! Except, as it turns out, research suggests that often the fact that we reach out to an advice-provider is not necessarily a reflection of our readiness to take the advice; instead, it is just one of many steps in a client’s progress through the stages of change from inaction and complacency to actually taking action to change their situation for the better! And by understanding the various stages of change, we can better understand the reasons why clients get stuck in the first place and engage the client in specific processes that help them move forward and make progress in implementing their financial plans.

Interestingly, of the six stages of change identified by psychologist James Proschaka and his team of researchers, only half of the stages actually involve any action steps towards implementing the change. The first three stages of change, where many clients tend to get stuck in following through on their financial plan, don’t involve any action at all.  Instead, these ‘non-action’ stages involve self-reflection and emotional preparation to proceed with the change being considered, from Pre-Contemplation (where clients don’t even realize there’s a problem to contemplate fixing) to Contemplation (when they understand that a change is indeed necessary, and acknowledge that there is something they can do about it… but aren’t ready to do anything about it yet), to the third and last non-action stage, Preparation (where we begin to think about what needs to happen and will make plans to actually implement a change). Only at that point can the individual move on to the ‘action’ stages, which include taking action and maintaining the new behavior required to sustain the change.

Advisors can ask clients who seem to be having trouble taking action on their plans a set of four specific questions to understand where in the process they may be stuck: 1) whether the client can identify what they want to change; 2) if they know what they need to do to change; 3) if they believe they have the capacity to make the change, and; 4) if they are committed to begin taking action.  Alternatively, advisors can use ‘scaling’ questions to determine the degree of commitment and/or interest to the change being considered and use their clients' responses as a way to adjust courses of action accordingly.

Furthermore, the Transtheoretical Model (TTM) of Change is a framework that identifies ten processes that can be used as tools to help clients move through the various stages of change. These processes are either experiential (dealing with experiences through thought and emotion and more often associated with addressing non-action stages) and include steps that help clients through the Pre-Contemplation stage (Consciousness-Raising, Environmental Reevaluation, and Dramatic Relief) or a mix of other stages (Self-Reevaluation, Social Liberation), or behavioral (involving the client actively taking steps to set the change in motion) and include Self-Liberation, Helping Relationships, Reinforcement Management, Counter Conditioning, and Stimulus Control.

One of the most important considerations when helping clients implement change is the concept of self-efficacy, which is an individual’s sense of their ability to take action in response to a situation. Ideally, advisors will use TTM tools to help clients increase their self-efficacy, whether it be through providing the client with ample opportunity to reflect on the meaning of the change that needs to be made, or simply supporting their efforts (and not necessarily pushing them to action, which can be counterproductive with a client not yet ready to take action).

Ultimately, the key point is that there are processes that advisors can use to help their clients move through the various stages of change, which can make it easier for them to work with those clients who may be stuck or resistant to take action. It is also important to understand that change involves behavioral ‘non-action’ stages and that clients may still be making significant progress even though nothing seems to be happening. By recognizing where clients are in the change process, advisors can decide how to provide the right kind of support to their clients to help them tackle their specific blocking points, and move along in getting on track with their financial plans!

Read More...