Investing and the Behaviour Gap

MICUK 2020: Financial advisers are having to adapt to a new digital world. Carl Richards, creator of the Behavior Gap, looks at the challenges IFAs face and how to overcome them

Holly Black 18 November, 2020 | 1:19PM
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Holly Black: I'm at the Morningstar Digital Investment Conference with Carl Richards. He is the creator of the Behavior Gap. Hello.

Carl Richards: Hi, Holly.

Black: So, big topic. Well, I'll ask you to condense it down. What is the behavior gap?

Richards: Yeah. So, the behavior gap originally – and it's fun because Morningstar does a bunch of work around this, right – the difference between investment returns and investor returns. And that was the original formulation – the original idea behind the behavior was just that difference that's due to our poor behavior. It's grown in concept, at least the way I think about it now, is any well-intentioned behavior that leads to a suboptimal result, right? So, clients running around and advisors, frankly, running around trying to find the best investment has often led to us underperforming the very investments we owned during the period. We can expand that to, you know, savings, all sorts of things where we have well-intentioned activities, like, we think it's our job to find the best investment, and that well-intentioned activity actually leads to a suboptimal result.

Black: And you're thinking about this from an adviser's perspective. And one of the things I love that you point out is how much we expect of clients. As an advisor, you expect them to walk in and just to open up their entire financial lives to us as a stranger. And that's really hard for Brits, I think in particular, because we don't talk about our feelings or our private stuff. So, how do you tell people to tackle that?

Richards: Yeah, I've been told that, and we've lived here now for almost a year and I've been told that numerous times. There were like stiff upper lip, sort of, buttoned up. We don't talk about our feelings, and it may be true. Maybe this is a distinct version of it, but it's a human problem, right? This idea that we have never been taught how to talk about money, right? We don't know what it means to talk about money. We think it means talking about maybe the credit card bill or the numbers on the page, and then, we're surprised. The problem is, we're surprised when we go to have a conversation about money and it's like touching an electric fence that we didn't know was electric. Suddenly, we're – somebody's fighting, right? I just opened the credit card bill. Why are we fighting? And we don't realize, like, really talking about money means talking about feelings, like, our dreams and our goals and our worries and our concerns. Am I going to end up living under a bridge? Am I going to be able to support my kids or my parents? Like, all of those feelings come out when we talk about money.

So, I think we need to remember that as advisers, like, people walk into our offices. And you think about that, unless you have a law in the UK that I don't know about, people come of their own free will and choice to meet with an adviser. And when they do, they've overcome two huge hurdles. One, they've come to talk about money. And you've all been trained. Money, politics, sex and religion, right, we never talk about those things, right? So, they've come to do that. And number two, they've come to talk with you when they've heard about you, the industry, speaking broadly, right? So, I think we need to understand when they walk into our office. So, have some empathy for that, and to realise, like, in the first two seconds, I'm going to ask you to show me your balance sheet. And again, we've noted before that people around the world are more likely to share the intimate details of their sex lives than their balance sheet. And we've got to remember, just have a little bit of empathy for that.

Black: So, I think it's really interesting then if we start to think about the role of an adviser. We tend to think of him as a man in a suit saying very sensible, complicated things. But you seem to think of them almost like a counselor role?

Richards: Yeah. Now, I want to be careful here just to make sure I don't – like, I'm not saying that everybody who comes into your office needs to cry, right? I mean, I used to have a goal – during the first meeting if someone was going to cry, it wasn't going to be me. That was my goal. But it doesn't mean it has to happen that way. All I'm saying is I don't care how proper and buttoned up you are, people don't like – two things you mentioned there, like, saying very sophisticated complicated things. One of the most common emails I get from the people out there pointing out the window again is they say, please tell them to stop using those words. We think that everybody walks around thinking about standard deviation and volatility. Then when we use the word risk and we get blank stares and we try and fix it, you know, standard deviation, it doesn't help.

So, first, let's use simpler language. And second, there's been a lot of research around the best environment for a financial advisor, like, office space. If you look at Kansas State, did a big writeup – Michael Kitces wrote some 50-page document about Kansas State's report, and it's much more like a high-end architect. And they even point to like coffee shops. And you compare that to what we traditionally have thought of like a bank, right, it's closer to counselling than it is to traditional finance.

Black: Carl, thank you for your time.

Richards: My pleasure, Holly. It was a pleasure.

Black: Thanks for joining us.

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The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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About Author

Holly Black  is Senior Editor, Morningstar.co.uk