Reaping the benefits of personalization in shaky markets

Advisors can help clients navigate choppy markets and scary headlines by working with them to build portfolios, a practice called personalization.

One advantage of the technique for advisors is that it doesn't require them to forecast the next market dip or the next bank that's headed into crisis. It simply requires a solid understanding of the client's goals and values. Especially in these times, when concerns over the banking sector and its impact on the broader markets are elevated, personalization can be a valuable tool — one with the added benefit of eliciting positive behavioral change among clients. 

A client developing a portfolio in partnership with an advisor will likely feel a greater sense of ownership. Sometimes referred to as the IKEA effect, the process of co-creation in this context means the client could show greater commitment to their investments in times of market stress. The urge to sell or stay on the sidelines can be less profound if a client feels a high degree of conviction in their portfolio. Further, when a portfolio contains companies and industries that align with their beliefs or priorities, it can help investors remain focused on long-term goals and stay the course amid the performance fluctuations endemic to investing.

In all markets, clients are prone to invest based on emotions, both positive and negative, according to a 2021 Morningstar study titled "The Financial Impact of Behavioral Biases." In the study, 98% of those surveyed showed at least one of the four common biases present among investors, including present bias (the tendency to overvalue smaller rewards in the present at the expense of long-term goals); loss aversion (the tendency to be excessively fearful of experiencing losses relative to gains and relative to a reference point); overconfidence (the tendency to overweight one's own abilities or information when making an investment decision); and base rate neglect (the tendency to judge the likelihood of a situation by considering the new, readily available information about an event while ignoring the underlying probability of that event happening). 

The study notes that biases are a pervasive tendency that could potentially call for interventions by advisors, highlighting the importance of awareness of how personal situations impact investment decisions. Additionally, it surfaces strategies for investors themselves to mitigate their biases, such as ignoring short-term price movements and taking a beat before making an impulsive decision.

Direct indexing and thematic funds
Technological innovations have reduced the manual work required of the advisor and capital required from the investor when it comes to highly personalized investments, meaning they no longer need be reserved for high net worth clients alone.

Direct-indexed portfolios are privately managed accounts designed to mirror a benchmark that can be tailored to an individual investor's goals. Through holding a larger number of individual stocks, investors could see significant tax and diversification benefits by leveraging direct indexing. Meanwhile, innovations like fractional shares and automated rebalancing have reduced price points and investment minimums. Direct indexing particularly lends itself to highly customizable screens for portfolio holdings. Faith-based or ESG screens are also commonly applied to reflect a client's values or views on particular issues. Additionally, screens may be used to bring a portfolio more in line with a client's investing philosophy by overweighting growth stocks or dividend payers, for example. (The tax benefits that come with direct indexing are also a lure for clients.)

Thematic funds offer another way to customize client portfolios. While thematic funds lack the same pinpoint accuracy of  direct indexes, they have fewer moving parts — one fund as opposed to potentially hundreds of individual stocks. There has been a proliferation of such funds in the past decade, including those that seek to benefit from demographic shifts and that comb through hedge fund filings to mirror the most popular trades.

Clients expect more
The 2021 Next in Personalization Report  by McKinsey found that roughly 75% of American consumers expect some level of personalization in their interactions with companies and are disappointed if they don't receive such attention. From a wealth management perspective, Schwab's 2022 Independent Advisor Outlook study found that the majority of RIAs anticipate higher demand for the personalization of investment portfolios going forward.

Not surprisingly, young investors lead the pack when it comes to personalization in wealth management. Fidelity reports that 37% of millennials hold value-aligned investments and 34% have thematic investments. These figures compare to 7% and 4%, respectively, for baby boomers and older generations.

By leaning into personalization and the technology that enables it at scale, you can meaningfully differentiate your practice while helping drive better outcomes for your clients.