It’s a given that financial planners are required to document risk tolerance for fiduciary purposes. But while the traditional way of gauging a client’s tolerance for risk is typically determined using a basic questionnaire, there’s another method that’s just as – if not more – reliable.
Advisor Jay Berger is one of three partners in the Traverse City, Mich.-based firm, Independent Wealth Management. Each partner has about 20 years in the business, and none of the partners likes to rely on questionnaires. Their preferred method, says Berger: “We agree that the best measure of actual risk tolerance is to see what people did in 2008.”
Berger’s clients have remained with the firm for a long time, so the planner has the benefit of historical perspective. “We’re fortunate in that we can go back to what happened in real life. We still use a questionnaire but it’s much more telling based on how they felt, how they reacted and what they did in 2008,” he says.
For the most part, Berger notes, clients kept on track. “As it turned out, at a pretty crummy point in the market, we took about a third of their stocks and moved them to some alternative investments. This helped in the shorter term and hurt a little bit in the longer term but it did kind of release the pressure for a while and allowed them to stay the course with the other portion of their assets,” he recalls. “It was a meaningful change. In retrospect it didn’t turn out to be the optimal change, but I’m not sure people could have gone through it much longer the way things were going.”
Berger attributes some of this to his aging client base. “As clients get older they don’t process data or handle anxiety as well as they used to,” he observes.
All three partners believe that simpler is better than complex; low-cost is better than high-cost, and whatever allocation you can stay with the longest is better than something you think is right. Says Berger: “You’re much better off saying, ‘in a downturn, I can really only handle a portfolio with 40% stocks’, than saying ‘I can handle 60%’ and then wig out during the bad times.’”