Only 39 percent of financial advisors create a written investment policy statement for their clients, which is a missed opportunity, according to Russell Investments’ latest quarterly survey of U.S. advisors, the Financial Professional Outlook.
An investment policy statement is a written statement of risk and return objectives along with implementation guidance.
Of the advisors who were surveyed, 33 percent say they only create investment policy statements for their highest net worth clients and 21 percent don’t use these statements at all.
“With the industry shift toward advisory-based relationships, it is surprising that so many advisors remain uncommitted to the best practice of utilizing investment policy statements with all clients,” said Rod Greenshields, consulting director for Russell’s U.S. advisor-sold business. “One of the best ways an advisor can fulfill their fiduciary duty and encourage a client to stick to a long-term, disciplined plan is to develop a statement of their objectives and related recommendations. These statements can serve as a type of ‘commitment device,’ reminding investors of their goals and helping them make productive decisions in times of uncertainty.”
A majority of advisors surveyed (60 percent) said that in 2012, they were asked by clients to deviate from an agreed-upon investment policy to reduce their exposure to risk assets. Fifty-nine (59) percent of advisors indicated that these requests were most often prompted by information clients received from sources such as the media, family and friends, and not the guidance of a financial professional.
“Many investors fall victim to two behavioral biases. The first is recency bias, which occurs when an investor assumes the patterns they have experienced will continue indefinitely. The second is availability bias, which occurs when an investor places more weight on the information they see most frequently,” said Greenshields. “For many, these biases have amplified the political, economic and market events of the past few years, distorting investor perceptions of market volatility and reducing some investors’ ability to stay focused on their long-term plans.”
When clients seek to deviate from an agreed-upon investment policy, 47 percent of advisors said they typically revisit the client’s objectives and/or their full financial plan. Thirty-eight (38) percent say they use it as an opportunity to revisit the investment policy and/or the portfolio asset allocation.
Most advisors (72 percent) said they are optimistic about the capital markets over the next three years, while only 21 percent said the same was true for their clients. Yet, advisors do see distinctions in clients’ market sentiment by generation.
Only 15 percent of advisors said clients over the age of 66 are optimistic about the markets, while a much higher percentage of advisors said younger clients are optimistic (45 percent for “Generation X” and 42 percent for “Generation Y”). The majority of advisors (50 percent) said that “baby boomer” clients are uncertain about the markets; only 27 percent of advisors reported this age group is optimistic about the capital markets.
“Many factors influence investor sentiment about the capital markets, both rational and emotional. Investors near or in retirement likely suffered the most trauma in recent years. Not only did they likely have larger portfolios affected by the global financial crisis, but they also had the most riding on those portfolios—their lifetime retirement income,” said Greenshields. “Understanding a client’s personal investing experiences, objectives and concerns can all help an advisor tailor their planning approach and refocus their client on the key issues: their ultimate goals and the recommended path toward reaching those desired outcomes.”
When asked what advice they are offering clients for the duration of the year, many advisors pointed to the importance of a financial plan based on long-term objectives, but some also noted that they are emphasizing that a “buy and hold” strategy may not be appropriate in today’s investment environment.
One advisor surveyed said they tell clients: “Stick to the plan. Don’t get too excited by rising markets or too depressed about declining markets. Our asset allocation recognizes both up and down markets are certain to occur.” Another offered, “Remember that portfolios are allocated to match their risk/reward profile and that we will make adjustments as needed to keep that balance in effect.”
“A disciplined, long-term plan does not necessitate a static approach. In fact, a plan can benefit from elements of flexibility and adaptability that allow for appropriate response to changes in an investor’s goals and circumstances, as well as changes in the market,” said Greenshields. “Yet, reacting to every short-term market event is not the answer. Advisors employing an investment process that responsibly adapts to the investor’s situation and provides opportunities to actively manage risk are likely better able to keep clients on track.”
Russell Investments is a global asset manager and one of only a few firms that offers actively managed multi-asset portfolios and services that include advice, investments and implementation.