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Even the most rational clients are subject to emotions, especially during the current coronavirus outbreak, when the threat is both financial and physical.
Few anticipated the kind of fury in the market that we witnessed between March 9 and March 12 of 2020. When your client calls to discuss the market turmoil, what do you say? Advisors often resort to the long-term data, preaching the 30-year performance of the equity market. To clients, this standard response sounds out of touch, eroding trust and rapport.
Clients may feel scolded or shamed. “My advisor thinks I am being emotional again.”
Clients may feel that you are not on the same wavelength. “Always the same old response, no matter what is happening.”
What is the alternative?
Show that you understand.
The chart below illustrates the market dynamics by showing the movement of the efficient frontier. Each mini pie chart represents a classic model portfolio. For example, the right most model is 100% equity (70% SPY and 30% ACWX). The top line shows the classic efficient frontier based on 30-year averages, with this model having an average return of 10% and average volatility of 20. You can barely see the upward trend of the efficient frontier because of the scale.
The gray dotted line on the bottom shows the actual risk and return (annualized) of the efficient frontier for the one-month period ending March 12, 2020. For example, the 100% equity model had an annualized return of -333% (roughly equivalent to -28% for one month), and a volatility of 56.
The red arrows show how each model deviates from its long-term average. You can see that for each model, the risk for the one-month period is much higher than its long-term average, and the loss is huge. It validates the client’s fear: Instead of making them feel stupid, you are making them look smart.
Next, you can show the risk and return over three and six months, which is long enough to calm them down in most cases. But this case is more extreme. This is what it looks like for the six-month period ending March 12, 2020 – not exactly good news but still much more comforting.
How does it compare to the 2008 financial crisis? This is what it looks like for the month ending November 14, 2008, at the height of the financial crisis. You can see how everything shifts deep into the lower right corner, indicating much higher risk than usual, and the annualized return of the equity model was -105%.
Comparing this with the first chart, what we just went through was much worse than the 2008 financial crisis. While the volatility in 2008 was higher, the one-month loss was only one-third of what we just had.
Is your clients’ fear justifiable, or is it just another case of the wisdom of the crowd turning into the madness of the mob? If the coronavirus shuts down the global economy, it may be justifiable. It was indeed worrisome a few weeks ago, when people thought of it as a bad flu. Now that we are on top of it, the outlook is much better.
Visualizations like this deliver insights that clients can't get from CNBC or Yahoo! Finance, making the long-term conversation more concrete and credible. Click here to monitor the situation daily.
Helen Yang, CFA, is the founder and CEO of Andes Wealth Technologies, a Lexington, MA-based provider of technology solutions for financial advisors.
Read more articles by Helen Yang