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| > The Practice > Practice Builder |
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| Financial Advisors as Architects of Decision-Making |
| by
Justin A. Reckers and Robert A. Simon
| 05-20-10 |
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The field of behavioral finance has developed with a goal of understanding and explaining how human emotions and cognitive errors--errors in logical thought processes--influence the movement of stock markets. While the field was originally promulgated by academia and by those interested in increasing their profits in the markets, analysis of this field's principles shows that there is a broad applicability to a variety of everyday settings and decisions.
The study of behavioral finance tells us that humans often become irrational in the face of the social, cognitive, and emotional factors that affect psychological functioning during the decision-making process. So why do so many advisors treat the individual advisory process as one built solely on rational economic modeling? Because that is what advisors are taught.
Through experience we all learn that many relationships are doomed to fail if we forget the human nature of fear, greed, and other emotions attached to money. As Deena Katz once said, "If too much focus is given to the strategies, solutions, and implementation while ignoring the client needs, wants, and wishes; we risk the relevance of the advisory process and its ability to reflect the client's unique degree of reality." Experience as financial advisors has taught us that truly meaningful and productive advisory relationships are created when we place ourselves as architects of the client's financial decision-making process rather than as the judge and jury of the best and most-rational economic outcome.
Colleagues like Michael Pompian have helped us elucidate the concept of behavioral finance as it applies to asset allocation and other investment-management and risk-profiling functions. Pompian has explained some of the common obstacles in the psychology of human decision-making on MorningstarAdvisor.com. Academics like Richard Thaler and Dan Ariely have helped us understand the prevalence of emotions and cognitive processes in decision-making and how these affect the otherwise rational economic decision-making process. Their research and publications such as Thaler's "Nudge" and Ariely's "Predictably Irrational" offer the financial advisory world a glimpse into the human psyche at the very moment they are engaging in their craft as architects of the financial decision-making process. There are many other great minds that have and will continue to contribute to the field.
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Justin A. Reckers, CFP, CDFA, AIF is director of financial planning at Pacific Wealth Management www.pacwealth.com and managing director of Pacific Divorce Management, LLC www.pacdivorce.com, in San Diego.
Robert A. Simon, Ph.D. www.dr-simon.com is a forensic psychologist, trial consultant, expert witness, and alternative dispute resolution specialist based in Del Mar, Calif. |
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