Amyr Rocha Lima: Protecting clients from themselves
In this exclusive Guest Column for Financial Planning Today, Amyr Rocha Lima, chairman of the CISI Financial Planning Forum Committee, looks at how behavioural finance principles can be used in planning.
As the scientific understanding of investor psychology grows, skilled Financial Planners can use this knowledge to add tremendous value to their proposition, helping clients throughout their investment lifetime.
Nobel prize-winning academics, such as Richard Thaler and Daniel Kahneman, have shown that deeply-embedded behavioural biases – such as overconfidence, greed and fear – drive most investment choices.
But errors arising from these biases cost the average un-coached investor between 1% and 4% a year in returns, depending on which study you read. Over 20 to 40 years, this could have a devastating impact on their financial plan.
Many of these biases are powered by easy access to online share trading platforms, which many times exacerbate several of these cognitive mistakes, as investors follow the crowd into unrealistically priced stocks, buying high or selling low. The phenomenon might give investors a dopamine-fuelled thrill but can have profound repercussions for those who do not understand the gamble they are taking - especially if this is compounded over the long-term.
Left to their own devices, speculators will always tend to go for an exciting story about the next “hot” investment - which highlights an absence of critical thinking.
As Financial Planners, we get to coach our clients about the fact that investments need an economic rationale showing why you’ll get a return; cash, bonds, equities and property have that.
Our advice should be directed to protecting our clients from themselves, having what can sometimes feel like uncomfortable conversations in order to challenge and educate them.
Realise the forces at play here. After all, investment portfolios satisfy a range of financial and psychological needs, from short-term dopamine hits and social status to long-term lifestyle funding and financial peace of mind.
We are the professionals who get to have these conversations with our clients to figure out what their needs are, and their relative strength and importance to them. That sets the stage for honest conversations about perceptions and mitigating potentially destructive biases.
Amyr Rocha Lima is a partner at Holland Hahn & Wills and chairman of the CISI Financial Planning Forum Committee.
• This article originally appeared in the Sept-Oct 2022 issue of Financial Planning Today magazine. Amyr Rocha Lima writes a regular column for each issue of the magazine.