Advisor Resources Be There Or Beware

About the author:
John W. Schott, M.D. serves on the faculty at Harvard Medical School. Dr. Schott received his B.A. from Johns Hopkins (summa cum laude and Phi Beta Kappa) and his M.D. from Harvard Medical School. He did a medical internship at the Mayo Graduate School at the University of Minnesota and completed psychiatry training at the Massachusetts Mental Health Center. He is also a graduate of the Boston Psychoanalytic Institute and Society. His major area of research is in behavioral finance with special interest in the relationship between personality and investment decisions.

How to Help Clients During Bear Markets

In contrast to the greed and excitement that characterize emotions during bull markets, investors experience fear, anxiety, and depression during bear markets.

In his very important book, The Intelligent Investor, Benjamin Graham described the stock market as having manic-depressive qualities. He instructed readers to imagine being in partnership in a small business with Mr. Market. Both you and Mr. Market have a very good idea as to the real business value of your joint enterprise. In spite of this, Mr. Market is victim to extreme mood swings. When in an ebullient state, he offers you a price for your share of the business far in excess of its real value. When depressed, he is willing to sell his share to you at a small fraction of its private market value. Graham states that the whole market behaves this way. In addition, there are times when individual sectors and individual stocks follow the same emotional paths. He summed this up in the statement, "In the short run the market is a voting machine, while in the long run it is a weighing machine."

When bear markets occur, investor emotions swing to the following key states:

Fear

Decreased self-esteem

Anxiety

Depression

Guilt

Shame

If the bear market is sufficiently severe, this set of emotions becomes so strong that it begins to permeate society as a whole manifesting itself in a pessimistic view expressed in the media, culture, and the arts. This was first suggested by Ralph Nelson Elliott the originator of the Elliott Wave Principle and later was refined by his disciple Robert Prechter.

The term "irrational exuberance" was coined by Yale economist Robert Shiller to describe the run-away euphoria of the great bull market of the late '90s. When a bear market sets in, fear arises in an equally irrational way. Investors begin to think, "I will lose everything." The notion that falling stock prices will destroy great companies like Google, IBM, Merck and so on is absolutely irrational. Even in the Great Depression of the '30s, everything was not lost.

The suffering of investors is exacerbated by the fact that a bear market is not a smooth, one-way downhill ride. Instead, it is a bumpy road roughened by upward "sucker" rallies and occasional stomach-wrenching large precipitous drops. This not only intensifies the fears but also adds a powerful element of anxiety in the form of feelings of helplessness and indecision. People begin to rationalize "selling everything" or "staying the course". In 2000-2001, many investors rationalized the decision to stick with the NASDAQ even though it was phenomenally overvalued by any historical standard measures of value. They would say, "I'm a long term investor. I know I'll be O.K. in the end:" Dealing with overwhelming anxiety and uncertainty paralyzed rational decision-making.

Guilt: As losses accumulate in a bear market, investors develop regrets about their failure to have sold stocks. Ultimately the regrets turn into guilt. This is most intense when seen as a failure to meet family expectations. Many investors feel they have disappointed their spouses and let their children down, especially if college funds are compromised.

Shame: Shame...and humiliation... are the twin emotions experienced when a person suffers loss of self esteem, because money is so important in a capitalist society and because it is attached to fantasies of power and sexual attractiveness, the loss of money damages an investor's sense of self-esteem. This blow is felt at a very basic level and operates at both the conscious and unconscious level.

In my book Mind Over Money I termed this total psychological experience the Bear Market Depressive Syndrome (BMDS) because what investors experience in a bear market so closely parallels the clinical symptoms of depression. Investors' moods become dysphoric (sad), their self-esteem declines, their thinking narrows in a pessimistic manner, thoughts become distorted, insomnia may develop, and often somatic symptoms occur such as headaches, muscle aches and pains, upset stomach, and diarrhea.

What can the advisor do to help?

1. Be responsive and available
2. Be empathic
3. Reality test
4. Wish lists

1. Availability – It is always a good business practice to be available to clients, but this is especially important during a bear market. It also may be the hardest time for an advisor to do so because the expectation is that the client may be angry and finding fault with his financial team. If it is not possible to talk with the client at the time of his or her call, return the call promptly. Do not let it go until the next day. Responding to the client is not only good business practice it conveys that you care for the client. The simple act of returning a phone call promptly is very nurturing to a client and goes a long way to developing excellent advisor/client rapport.
2. Empathy – Work hard to be empathic to your clients’ feelings. This comes naturally to some people but is difficult for others. Know your strengths and weaknesses in this regard. Try to be natural, warm, and supportive. Remember that the smallest account may require the most attention. An individual with $100k who loses 20% may feel threatened to the point of panic whereas the person with $10M can weather a 20% decline and suffer only minor anxiety.
   It is appropriate to share some of your own pain and losses with your clients who will in turn often relate to you in a mutually supportive way. Clients may be laboring under the false impression that you the advisor are making money while they are losing money. Sharing will reality test this and help the client to think more rationally. However, do not go overboard on sharing. Remember the client is the focus not the advisor.
3. Reality testing – Talk enough with your client to learn what their fears are and then reality test them, e.g. If a client says, "I am such a lousy investor. I should quit investing", remind him or her that most investors are suffering now and not to expect perfection. If a second client says, "Sell everything. I know this bear market will never end", respond with a supportive comment such as, "Bear markets don't last forever. Remember every bear market is followed by bull market." Clients will feel reassured by these comments and as with returning calls promptly, the acts of listening and responding to clients' needs will be experienced as caring. These simple acts will be very supportive to your clients.
4. Wish lists – Sir John Templeton, one of the most successful investors of all time, maintained a wish list of great companies he would like to own, but that were presently over-valued. He calculated the price at which he would like to buy these companies. He was prepared to buy at those levels without fretting whether or not the bear market might take them lower. In the crash of '87, he stepped in and bought large blocks of these super companies from panicked mutual fund and institutional managers. In many instances he was able to buy even below the market low of the day since he was buying privately from other large investors desperate to sell. Within days he made profits of 25+%. If John Templeton did this, why not individual investors? Doing this can be an excellent technique unto itself, but the real value to the advisor is that your recommendation offers clients a concrete behavior to do. It will reduce their anxiety and give them a way to regroup and organize their thinking. While I have found this practice very useful in working with clients, the experienced financial advisor, planner, or broker can probably think of other valuable techniques to assist clients.

The Advisor's Goal: In a bear market the financial advisor's goal is to be supportive and responsive to clients' needs. This will help the clients to manage their anxiety and increase their ability to tolerate the uncertainties that come with investing. Keep the client focused on the ideas of dollar-cost -averaging and of seeking high quality bargains.

About the author:

John W. Schott, M.D. serves on the faculty at Harvard Medical School. Dr. Schott received his B.A. from Johns Hopkins (summa cum laude and Phi Beta Kappa) and his M.D. from Harvard Medical School. He did a medical internship at the Mayo Graduate School at the University of Minnesota and completed psychiatry training at the Massachusetts Mental Health Center. He is also a graduate of the Boston Psychoanalytic Institute and Society. His major area of research is in behavioral finance with special interest in the relationship between personality and investment decisions.

RISK

In the course of a bull market, investors are eager to invest and hold expectations that they will make profits. If anything they are unrealistically optimistic. Since bull markets usually coincide with business expansion, investor optimism is strongly reinforced by media reports, business successes, friends, and family. Financial writers mistakenly call this greed. Psychologists see this glowing optimism as reflective of grandiosity. The investor believes the gains are the results of brilliant stock picking or mutual fund selection instead of realizing that he or she is the beneficiary of an overall market rise.

In a bear market, the situation becomes reversed. As losses mount, investors begin to feel pain and also to experience self-doubts. Instead of seeing and understanding that a bear market is a natural and expected part of the market cycle, investors criticize themselves. They make statements like, "I should have known not to buy that." or "Boy! Was I stupid! I should have known that would happen." or "My father told me people like us don't belong in the stock market." Shame, guilt, and anxiety become the dominant emotions guiding their decision-making.

From 1972 to 1978, Peter Lynch managed the Fidelity Magellan Fund. During that time, the Magellan Fund performance was an astounding 30.1% a year compounded, yet the average Magellan investor lost 12 % during that period. How could that be? The reason is just what we are discussing. New investors bought after periods of extended rises after reading about how great Magellan was. Invariably a correction occurred and the investors panicked and sold, mouthing just the things mentioned above.

The result of these two sets of emotions - grandiose optimism in bull markets and negatively grandiose pessimism in bear markets - is the investment world's greatest paradox. Individual investors buy aggressively when they should be selling and sell excessively when they should be buying.

Let us divide the emotions about risk taking in bear markets into two groups - the beginning investors and the more experienced group. Beginning investors are very apprehensive in bear markets and focused on risk. The professional investors and academic economists are not well prepared to answer the beginners' concerns. Academics define risk as volatility and measure as beta. The average beginner defines risk as the possibility of financial loss. The beginner asks the financial representative about risk and usually wants an answer in percentage terms about the possibility of gains and losses. This is a wonderful opportunity for the representative to teach the beginner about the risks inherent in the market and to initiate a dialogue that will help client and representative alike learn about the individual's emotions about the market. Questionnaires about risk are far less valuable in this regard than an actual discussion with the customer. A new investor must learn from the rep that an investment always has risks. No one can predict the future market although many claim to be able to do so. The new investor must learn that every investment with the possible exception of government bonds from developed nations carries risk. Even government bonds have risk to the extent of currency risk. Witness U.S.T-bonds in the last eight years. Help new investors see that every risk has market risk and company specific risk.

Dealing with the emotions established investors are feeling in a bear market is more complicated. In my previous article I described what I call the Bear Market Depressive Syndrome (BMDS for short), in which discouragement and low self-esteem lead to a condition mimicking a clinical depression. It’s worth taking a deeper look at BMDS. Self-doubts are very high in BMDs because the investor feels a tremendous loss from his previous exhilaration in bull market optimism. Loss of self-esteem combines with the pain of financial losses to re-awaken the pains of earlier life losses. Each individual will differ in this regard. Those who have suffered the most in the past are apt to experience intense anxiety along with lowered self-esteem. This painful state will lead these investors to want to make decisions based on ending the current suffering rather than to make rational decisions based on the best investments for their circumstances.

The best ways to help these individuals with their painful emotions is through support, availability, reassurance, reality testing, and education.

By far the most immediate help a representative can render a client is emotional support through sharing, reassurance, and availability. Prompt responses to calls and requests are absolutely crucial. An investor struggling with losses needs to feel cared about. Nothing conveys caring better than to be available and to listen. Return all calls promptly and if unable to call, make very clear when you will be available. For clients who are not calling, do not assume all is well. Establish a regular schedule to call these people as well. Use frequent e-mails to stay in touch. Send out quarterly thank you note to clients.

Also use reality testing and education to assist clients. Talk to them about their investments. If you sense they are blaming themselves, remind them that markets go up and down as a matter of course. Tell them the real value of an investment lies in the earnings power of the company and the dividends received. Of course it feels better when a stock is rising, but in the long run today's price is not important. Pat them on the back for past good decisions and praise them for any currently held positions that are doing well. Re-educate them in discussions but also stay alert for materials you might duplicate to send them via e-mails or regular mail. This will not only extend the re-education process, but will also once again demonstrate your commitment and caring. Remember relationships strengthened during adversity will be that much stronger when the good times return.

Using these techniques will increase your pride in a job well done. What if you, too, suffer self-doubts and experience painful market losses? In addition to reminding yourself of all we have just discussed, turn to a colleague and share what you are going through. Then put your anxiety to good use by reviewing client portfolios. Help clients to prune past bad investments and to rebalance asset allocations. Remind them of the power of dollar-cost-averaging and of the power of compound interest. The odds are overwhelming in the client's interest to remain invested. Buy and hold, with well selected investments, has been shown over and over again to be the average investor's best path to financial success.

Answering 5 Common Objections To Investing Today

1. Fear of loss is too great
   Investors go through a cycle of emotions. As the market moves higher, they are optimistic, then move to excitement and elation as their investments double in value. Greed, rather than rational thought, begins to dictate their investment decisions. At this point, they are at the greatest financial peril as they begin to take more risks.
   When the market turns bearish, anxiety sets in. The investor hopes things will turn around, but as the grip of the bear market tightens, the emotions of fear, desperation and panic take hold until finally the investor admits defeat and sells. Selling is the worst thing the investor could do at this point. The time of deepest gloom is also the point of maximum opportunity.
   Losing times in the market are a fact and there will always be difficult days. But moving out of the market when faced with these moments is a risk to wealth. In the 300 months between 1976 and 2001, 10 of those months were the difference between a 12.5% return for the S&P/TSX Composite Index and a 7.7% return (source: Datastream). So just over 3 percent of the time accounted for nearly a 5 percent increase in return. An investor who moved out of the market when the situation looked the worst, more than likely restricted their wealth creation.
2. Too much uncertainty and risk
   There have been crises in the past – economic recessions, social conflicts, wars, political turmoil – and there will be crises in the future. Each crisis did have short-term impact on stock market activity, but after each crisis the markets rebounded to positive territory.
   One way to manage risk in volatile markets is through the strategy of dollar-cost averaging. It means investing at regular intervals. Investors benefit when unit prices are lower, which insulate against some of the effects of market downturns. When the price of the investment drops, investors are able to buy more units, which is beneficial when that fund’s unit price strengthens.
3. Lack of confidence in businesses and their senior executives
   Every bull market produces scams and swindles as greed takes over near the end of a bull run. There were Enron-type failures in the 19th century U.S. and British railway booms, and corporate executives who defrauded their companies in the 1920s.
   One positive aspect to the misdeeds and indiscretions of corporations is that it reinforces the importance of knowing the quality of your investments. In good economic times, we can get complacent and think that every investment is “sound” and forget to undertake the proper due diligence.
   To be a confident investor in any market climate, it’s vital to know what it is you are investing in. Investment risk can be reduced by thoroughly understanding the businesses held in a mutual fund and the strengths and opportunities of those businesses.
4. Looking into other opportunities
   With the weak equity prices of today, investing should be seen as one of today’s best wealth-creating opportunities. History has proven that the best time to invest and to create wealth is when the markets look least appealing.
   Since 1981, we have endured five market declines in the S&P/TSX 300 Composite Index of between 25% and 42%. Six months after the end of each market decline, the market had growth of between 18% and 53%. Had an investor bought after each bear market ended, they would have enjoyed stellar returns in the subsequent months. While no one can predict the tide of the markets, it’s possible that we are at a similar point of opportunity.
   No asset class performs well all the time. Real estate is a good example. Residential home values had boom years in the late 1980s. Prices had peaked by the early 1990s and consumers who bought then saw the value of their homes decline significantly over subsequent months. The process looks to be repeating as consumer demand is again inflating today’s real estate values.
5. Financial resources are limited
   With interest rates close to 40-year lows, the concept of borrowing to invest is a strategy worth considering in building your long-term wealth. Most investors are likely homeowners, which means they’re already familiar with the strategy and rewards of borrowing to invest. Borrowed money, in most instances, is exactly how most Canadians purchased their homes and turned it into their biggest and most important asset.
   Saving large sums every month for investing is not realistic for most people – in the same way that paying one lump sum for a home is beyond our means. So, the alternative is borrowing to make a long-term investment. At AIC, we call this Upvest™. It is an investment strategy that thousands of investors have used to build personal wealth.
   Upvesting™ can be practiced successfully on any income level. Generally, borrowing to invest is considered an aggressive strategy that requires careful evaluation with a financial advisor. Prudent borrowing, and wise investment of the proceeds, can lead to significant wealth creation over time.

A Countdown to Client Satisfaction

Putnam Investments senior vice-president Don Connelly passes along six tips to maintaining solid relationships in troubled times. To put it in a nutshell, Connelly says it’s all about getting back to basics.

• 6. Be what people are looking for

  People miss the warm feeling of walking into a store and being greeted by name. Advisors can provide that connection, but they must recognize this basic need, and not waste time with people who don’t seek such a connection.

• 5. Maintain a long-term perspective

  Investing success is a marathon, not a sprint. But in volatile markets, with some media pushing a short-term market perspective, advisors must keep the focus long-term. Connelly points to one advisor who tells clients in tough times, “I have seen this movie before. Don’t worry – it has a happy ending.”

• 4. Be enthusiastic

  “Enthusiasm is the greatest ingredient in sales,” Connelly stresses. People want to deal with someone enthusiastic about their chances for success, not a negative person.

• 3. Learn how to control yourself

  Bad markets happen, pointing up advisors’ need to control their own emotions. “Don’t worry about failure. Worry about the chances you miss when you don’t try,” says Connelly.

• 2. Stick to the basics

  In bull markets, you don’t need to spend as much time prospecting. Now it’s vital to go back to those basics. In doing so, don’t over promise: “Every time you over promise, you under perform,” Connelly emphasizes.

• 1. Take control of the conversation

  Your biggest challenge is controlling a client’s behaviour. In bad markets, the client takes control of the relationship and advisors simply become listeners, afraid to risk losing the client. It’s vital for advisors to remember that they are the professionals and to take control of the discussion.

Stand Up And Stand Out

With millions of baby boomers either retiring or inheriting wealth in the next decade, there has probably never been a better time to be a financial advisor. With more new advisors entering the industry, what can you do to stand out? Here are five steps you can take.

Temper expectations. Jim Rogers of Rogers Financial in Vancouver tells new clients: “There will be (not might be – will be) a serious market downturn in the next 10 years. Possibly two.” Keeping clients grounded builds trust, and lessens the likelihood of a backlash when markets do go sour.

Be proactive with bad news. Cultivate relationships by phoning clients before they call you with questions and objections about a market slide. The sooner the contact the calmer the conversation. And the more honest the conversation the more appreciative your client will be.

Commit to an investment philosophy. Make sure clients know your investment beliefs and discipline, and have a clear understanding of how you believe wealth is created.

Ask better questions of clients. What is it about money that is most important to them? What are their fears regarding money? What did they like and dislike about previous financial advisors? Probing deeper helps to build trust, loyalty and an enviable book of business.

Help the refugees of bad advice. There is no shortage of prospects that were ill advised in the past and are now seeking a fresh start. Credibility and consistency is key to winning the confidence of these new clients.

Create wealth with “time in the markets”, not “timing the markets”

The wealth an investor can create in stock market investing is determined by:

• The amount invested;
• The return earned; and
• The length of time the investment compounds.

How important is length of time to overall returns?

The graph below shows the price paid for missing the stock market’s best days. Investors who missed the stock market’s 40 best days between January 1998 and December 2007 saw their $10,000 investment decline to less than $5,500. Investors who stayed in for the full period saw their investment’s market value increase to more than $20,000. A long-term mindset when investing can increase the odds of investing success.

Source: Bloomberg