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While many individuals argue they are rational, independent thinkers, the reality is we’re all human and subject to biases, shaped by our experiences and emotions. And nowhere is this more evident than in investing. 

According to a recent report from BMO Wealth Management, “Generational Perspectives”, people of the same generation demonstrate similar biases when it comes to handling their money. 

As an advisor, part of your job is helping clients put “head over heart” when it comes to building a diversified portfolio, protected against risk. By understanding their common mistakes, you can better coach clients on how to reach their long-term goals. 

Defining bias 

What is “behavioral” bias? Most agree, it concerns where people depart from a textbook definition of economic rationality. Under this model, people try to maximize their “utility” within the marketplace — acting predictably according to logical rules. 

But this spare, stripped-down model of decision-making clashes with the behavior of actual flesh-and-blood investors. People make investing decisions influenced by many factors beyond cold calculation. 

Bias frequently slips into decision-making when individuals apply mental shortcuts behavioral psychologists call “heuristics”. These are learned by experience and used when someone confronts a complex problem or incomplete information. A “heuristic” might be described as an intuitive judgement, a rule of thumb or common sense.  

Below are just a few common examples of investment bias: 

Confirmation bias – Where individuals look for information to back up any pre-existing notions they might have. 

Attention bias –  Where a person invests in companies or products that are mentioned more often. 

Home bias – which involves clients sticking with what they know. Say for example they live in town with one major employer that offers a generous share purchase option. It’s tempting to go all out but might not be in line with the client’s long-term goals.  

Fear of Missing Out (FOMO) bias – Worrying about not taking part in what is currently on trend. The current noise around Bitcoin is a good example.  

Representativeness bias – The idea that superior or inferior performance in the short term will continue.  

Disposition bias – One of the most important and costly biases in finance, found commonly among investors with poorly diversified portfolios. The disposition effect describes the tendency to cash out on securities with a rising price too quickly, while holding onto “loser” securities whose price is declining for  too long. 

Millennials: saving but not investing for retirement 

It’s well documented millennials are conservative with their money – and who could blame them. They came of age during the 2008 financial crises and its aftermath, and graduated into a hyper-competitive job market. On paper, Millennials can appear financially responsible, with many holding higher levels of cash than some people in their seventies!  

Thus, just like their grandparents and great-grandparents who lived through the great depression, millennials show a distinct preference for savings. The recent report from BMO Wealth Management illustrates this perfectly. Less than half (47%) of millennials listed retirement as an investment priority, vs. 64% of boomers and 66% of Generation Xers. 

But savings are a short-term goal – directed towards a vacation or home. If millennials are to leverage the benefits of compound interest when they retire, they’ll need to start investing today, with a strategic wealth management plan to help them balance their complex commitments like buying a home, starting a family and paying off student debt. 

When counselling millennials on seeing the bigger picture, it’s important to keep the following in mind: 

  •  Millennials are wary of investing. They’ve worked hard to build up their savings and are risk averse. 
  • They are socially responsible and if they are investing, they’ll be looking for options that reflect their values. 
  • They don’t hold the highest levels of financial literacy. But this can always be used as a way to foster client relationships – if you’re willing to spend some time teaching them. 

We’ve produced a whole range of material to help advisors engage with millennial clients. Take a look at our ebook or on-demand webinar 

Baby boomers – not any different 

Boomers are in some ways the opposite of millennials. They’re more well-versed in investing rules and terminology. They’ve also experienced tremendous wealth accumulation, with many now cashing out on their long-term retirement plans. According to the BMO report, these long-term gains mean boomers have been able to ride out the “shocks” in the market and come out ahead, leading them to better appreciate the long game. 

However, it’s important to remember — on an individual basis, boomers are just as susceptible to investment biases as millennials.  

Final takeaway: know your client 

Knowing what biases might affect an individual client’s decision-making requires getting to know them. We don’t mean just in terms of KYC and compliance. It’s about getting to know their personal history and what makes them “tick”. Have they seen a relative or close friend lose their money? Are they driven to invest in the company that a parent has worked in all their lives? 

A CRM made for Financial Advisors can help you better understand your clients with the tools to capture complete records of your interactions – including emails, meeting notes and other correspondence – inside a single, searchable location. 

By recording and understanding the driving factors behind each client’s investing decisions, you’ll be able to better mentor them to avoid investing biases and reach for their long-term goals.