By Miranda Carr
Trust is the cornerstone of any advisor-client relationship—this may be even more true for advisors working with high net worth clients. Typically, affluent clients are more deeply involved in the financial planning process, from tax planning and philanthropic considerations to estate planning, which is why understanding their unique behavioral motivators is crucial in building and maintaining credibility and trust.
Affluent clients rank communication higher in importance than portfolio performance.
In fact, four of the top five factors that would cause a HNW investor to leave an advisor are communication-related. That means that an advisor’s ability to communicate effectively with a behavioral framework adds substantial value to their clients and their practice. Deeply understanding each HNW client’s specific risk preferences and behavioral factors is a crucial first step in this process.
But traditional risk tolerance surveys don’t measure those factors; they focus on metrics like:
- Time to retirement
- Wealth goals (e.g., charitable contributions or inheritance plans)
As a result, traditional surveys tend to lump HNW clients together in terms of risk tolerance. Since retirement shortfall risk is usually less of a concern for HNW clients, their financial plans often focus on goals outside of retirement. It’s easy to forget that even though many HNW clients have similarities in net worth and objectives, each individual has their own attitudes, biases and experiences related to finance, and behavioral factors have a strong impact on their willingness to take risk.
Various factors beyond financial resources affect willingness to take risk.
On one end of the spectrum, there are investors who want to guard their wealth and leave a legacy for their families. These investors tend to gravitate toward stable investments with low volatility and often exhibit regret aversion or endowment bias. On the other end, there are entrepreneurial, risk-seeking investors who tend to show overconfidence bias and are always on the lookout for new investment opportunities.
How investors made their money can explain where they fall on the risk scale. Were they active in creating wealth through risking their own capital? If so, they will likely have a higher risk tolerance. Investor biases also play a role in the investment behavior of HNW individuals. People are typically prone toward either emotional or cognitive biases, both of which can be found across a range of risk preferences.
An advisor I know had a wealthy client who was very skittish about stock market moves and clearly did not have an appetite for risk, yet he was asking the advisor to increase his allocation in a private equity fund. The client perceived the fund as “safer” because the price in his portfolio did not fluctuate day to day. Even once the advisor explained that it had higher inherent risk of loss and liquidity risk, the client was still keen on moving money into the private fund.
Therein lies another unique challenge for HNW clients.
Most HNW clients have access to alternative investments like hedge funds, private equity and real estate, due to their status as accredited investors. But it’s extremely important to understand an individual’s risk preferences before presenting these types of investments. Of course, lower volatility doesn’t inherently mean lower risk, and different investor types process these risks in very different ways. Sometimes, investors who are comfortable with volatility are not comfortable with the opacity of private investments. So, it’s important to discuss the different risk characteristics with each individual client in a way that they can clearly understand.
Spectrem Group finds that investors across all wealth segments repeatedly rank honesty and transparency as highest priorities—above performance and fees.
In the example I shared above, the advisor tried explaining to his client that the private fund may not be the best investment option for him. Even though his warning was met with some resistance, the advisor knew enough about the client’s behavior to initiate a meaningful conversation. A solid understanding of the client beyond their HNW status helped the advisor fulfill his fiduciary responsibility by voicing his concerns and encouraging the client to act in their best interest.
Imagine if the message had been communicated more effectively.
With the right delivery, the advisor might have succeeded in changing the course of the client’s actions. That moment could have been transformed from a well-intended suggestion to a significantly, and quantifiably, better outcome for the client. That conversation was an opportunity, and good advisors miss those chances to add value every day—but that can change.
Advisors can continue proving credibility and strengthening relationships by delivering personalized guidance based on each client’s behavioral investment style. A behavioral approach is an excellent way to maximize and solidify trust with clients by actually motivating change and improving outcomes. Persuading clients to act in their own best interest through clear, tailored communication is the difference between understanding human behavior and what we refer to as, “putting behavioral finance into action.”
Miranda Carr, CFA, is President of Finworx.