An Advisor's Benign Intervention: Financial Advisors' Daily Digest

By SA Gil Weinreich :

Economists or financial academics are generally inclined to view things based on the prevailing theory in their fields, wherein one can derive logical conclusions from certain premises. That's why so much of academic theory is based on notions of efficiency - logic and efficiency go hand in hand. Wasting, for example, is uneconomic.

But financial advisors deal with real human beings; the business of financial advice is a people profession. That's why they see things differently, often more helpfully because their approach is more effective in dealing with real issues such as hard-wired feelings about risk. And sometimes less helpfully - such as in cases where an advisor buckles to a client's wishes even when detrimental to financial planning principle.

Adam Hoffman, CFA exemplifies the benign intermediation of a good advisor. An investor whose goals are met by, let's say, a standard 60-40 stock-bond portfolio cannot just set it and forget it, as he explains in his article about rebalancing - a practice unadvised investors often neglect:

The two main benefits of having a set of rebalancing rules for a portfolio is to maintain the desired risk exposure of the portfolio and to provide behavioral discipline for an investor. If we invested $100,000 in 2009 and did not rebalance, the value of the portfolio at the end of 2016 would be ~$228,500 with ~$175,000 in equities, or 77% of the portfolio. The lack of rebalancing has transformed a moderate portfolio to one that can generally be categorized as aggressive; the risk profile has greatly changed and is too aggressive for a moderate investor especially if there have been no changes to their objectives and constraints (time horizon, liquidity, taxes, etc.). In other terms, would a moderate investor want to go into 2008 with a portfolio that is nearly 80% in equities?

Hoffman's point is consistent with that of his debut article last week that investor's should focus on actions that they control, which may be the most important behavioral investing insight. While he discusses how rebalancing can influence returns, his main point is that it is a tool for managing risk, as demonstrated in the quote above.

It bears mentioning that money managers - especially in the value or smart beta camps - view regular rebalancing as an effective way to capture more of the value premiums through rule-based selling high and buying low.

Academics provide valuable insights, generally at the wholesale level. Advisors know how to retail them, customizing them for a client's particular needs. Focusing on things an investor can do to improve outcomes has the added advantage of diverting them from taking harmful actions - an ever-present temptation.

Let us know your thoughts in our comments section. Meanwhile, here are today's advisor-related links:

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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