5 Ways to Better Manage Clients' Risk Tolerance, Expectations
Heres an interactive slide show detailing 5 things you can do to effectively manage client expectations and risk tolerance, enhance relationships and protect your firm's value.
Source: Geoff Davey, co-founder of risk-profiling and risk-tolerance firm FinaMetrica.
1. Prove You Really Know Your Client<br><br>
Critically important here is determining the clients risk capacity. You must establish how much your client could afford to lose without messing up present and future life plans. This usually means stress testing the clients current and future balance sheet, particularly their investments and then reviewing future spending to assess whether they will need to change their expectations or find more investable assets.
You also need to have a good understanding of your clients financial risk tolerance so that you can factor it into their financial plan. Risk tolerance is best defined as the level of risk an individual would accept in their financial affairs if goal achievement was not an issue. For couples acting jointly, the risk tolerance of each needs to be taken into account in the planning process.
2. Demonstrate the Breadth of Your Strategic Expertise<br><br>
The advisor must work with the client so that they can jointly determine the level of financial risk that the client is prepared to accept in pursuit of his/her goals. Generally risk is translated through to the amount and type of risky assets, such as shares and property held, compared to safe assets such as cash in the bank.
Some clients may choose to hold more non-risky assets even though they might have less chance of achieving their future goals. Critical here is both client education - illustrating what can be lost - and an understanding by the client of the impact on their plans if that loss occurs.
3. Know the Products That Match Your Clients Strategies<br><br>
The key issue is to understand how the investments will behave when the markets fluctuate. Many investments work well in good times but have a history of failing in bad times. A good understanding of economic history is needed when stress-testing products.
The traditional asset allocation process assumes the classic assets of cash, fixed interest, stocks and real estate. While there may be volatility, it is unusual for a portfolio to go to zero value. The minute you add financial engineering, be it gearing, derivatives or securitization, you change the character of the asset. In short the value can sometimes very quickly go to zero or become negative in the case of gearing.
4. Explain All the RisksCompletely<br><br>
5. Confirm Client Consent For All Investment Strategies<br><br>
Photo Credit: Tim Pierce