FINspeak

Sometimes I wonder, can the dynamics of the Investment market be deemed as rational? Or do rational investments guarantee success??? We see it everyday, with a slight hint of negativity in the air we see markets going down by as much as 10-15% in a day and with a little positive news the money comes back to the markets!!! I find it hard to believe that the market fundamentals have changed in 24 hours!!

For me a lot of this to the 'sentiments' of the market which are very often driven by pure emotions of the investors. Behavioral finance seeks to answer this irrationality of the financial markets by highlighting how humans behave in given situations. In the words of The New York Times, 'It is brand of economics that tries to explain the market in terms of the way humans behave - both rationally and not."

It's not uncommon to find an investor buying a stock about which he/she knows nothing or little; but is simply buying it as everybody else in the market is!! This behavior is also known as the Herding Behavior, where people tend to follow what others are doing, thinking it is the best thing to do. This in turn leads to a portfolio composition which is not really in sync with the risk profile of the investor and thus creates a mismatch in the future. Like buying a high priced stock as everybody else is, but not really having the 'Liquidity' to hold it in case of a market correction. It is important here to know, what you buy and how much to buy, given that most retail investors have to also pay taxes, rents and bank installments every month!!

Also often investors map a certain price of the stock based on there purchasing cost or the peak price of the stock. They tend to 'Hold On' to the stock till the time that price is reached.  This often leads to bigger losses in the future when the asset price declines further. This behavior is known as Loss Aversion.

Another common mistake which investors make is 'listening only what they want to listen' and closing out all other information, also known as 'Selective Perception'. Recently when the markets were on all time highs most experts were warning of a correction coming soon, to which many investors did not pay heed and suffered huge losses during the long period of correction which followed!

'Diversification' is another term which is often misused. People tend to buy too many stocks in its name but what they don't realize is that sometimes these stocks have high correlation. Thus adding only Bulk and not value to the portfolio!!!

Behavioral finance has been around from the 1970's, but it is only now that Wealth managers are looking at it to expand business and to reach out to clients. The latest buzz in the market is Wealth Managers combining the Behavioral finance principals with the financial market ones to market products and understand there customers better. They try and sell the 'Concept' to the investor rather than a product or stock, underlying the data & reasoning with the behavioral profile of the customer.

But the question is still open does rationality guarantee success? Or Irrationality for sure leads to loss? Let me know what your views are....

Posted by Navdeep Gill at 3:55 AM | Permalink | Comments (9) | TrackBacks (0)

I still remember when I opened my first mutual fund account, I had to fill in a form with questions like: which asset classes I prefer, what are my financial  goals, what is my view of risk etc. Many of these questions I didn't understand then and selected the option which was most politically correct!! And believe it's the same case with majority of the clients from Mass Affluent and HNI segments, who due to lack of time or interest or sheer ignorance just provide some random information.

But regardless of this fact, this information is used by banks and financial institutions to stereotype the client into segments or rather water tight compartments (i.e. risk averse, risk taking, aggressive, etc.) which have direct implications on the portfolio composition. And when I say direct in some cases we even see the client portfolio is 100% driven by this segmentation regardless of the actual client expectations or needs!! Off course these implication are never clearly known to the prospective clients!!

And thus in short, provides a "shaky start" to the client relationship with mismatched expectations. With the advisor thinking the client belongs to say "Risk tolerant" category (since he is only 25, single and just started working!!)  and thus allocating as much as 70% of the client portfolio in equity, whereas the client needs funds in the next year for his own higher education!!! The result distrust and loss of client relationship in extreme cases.

 I guess it's time financial advisory firms start treating a client like an "individual entity" and not makes any efforts to stereotype him\her into categories on the basis of answers to few generic and rigid questions. Client profiling as a concept is a great tool for the wealth managers, it saves the mammoth effort of analyzing each client profile under a microscopic view! But it also has a great potential to mislead if it's not used and implemented properly.

I would divide the whole client profiling process into the following steps:

1.    Basic data collection: mostly based on questionnaire and initial client interactions

2.    Getting to know each other: studying the current position of the client i.e. what he does, needs, aspirations, responsibilities etc.

3.    Initial profile creation: Analyzing the inputs and creating the client profile

4.    Regular Review: Timely and also triggered by social economic events i.e. marriage, child birth, retirement, job change etc.

Most client advisors go wrong in the first step itself, when there questionnaire does nothing but frustrate the potential client with a long list of questions. The questionnaire presented to the client should be:

• Simple to understand: Not assuming much about what the client already knows or does not know.
• In sync with his\her financial status: I recommend questionnaires based on the client segment i.e. different set of questions for mass affluent, HNI and UHNI clients.
• Explained properly with a complete walkthrough before the client fills it
• Questions should be more objective yet provide a chance to list out the special requirements of the client.
• Should be updated periodically based on client feedback and changing market demographics.

The second step should be used by the client advisor to make any obvious corrections in the mistakes or misrepresentations made by the client in the first step. A very good example here would be fact that a lot of clients sometimes conceal their gross income, thinking it might attract other implications (read taxes)!! But it can be seen in the client lifestyle and investable surplus.

The next step is very important from backend and profile modeling prospective, wherein the actual client profile is derived. For me what is of prime importance here are the factors considered and the weight ages allocated to them. This is something which would need to constantly evolved based on the market conditions, changing client socio-economic needs and the sentiment of the market in general both at a local and international level. Also firms should not shy away from introducing new levels or segments based on the profile analysis over a period of time.

Finally the step which is mostly forgotten: Review. Most client profiles once created are not touched for years together, during which the client needs have changed but his/her, portfolio is not aligned to meet them. With client become increasing aware of the market in general and demanding nothing but the best, client profiling can no longer be ignored as just a basic step in the whole financial planning process. It should be used a foundation to build a strong input for the portfolio composition and maintenance.

What do you think, should the client profiling be used as it is today or its time to revisit its significance and impact on business??? Let me know your thoughts......

Posted by Navdeep Gill at 9:12 AM | Permalink | Comments (6) | TrackBacks (0)

In my last blog's closing comments I spoke about "Thinking out of box" and the growing importance of Alternative investments in the ever dynamic world of Portfolio management. Gathering my thoughts from where I left last time around, "Alternative investments" are indeed the buzz word in the world of wealth and asset management today. Talking about "Alternative investments" my thoughts first drift towards "Art" and off course the fact that it has been so much in news in the recent past is merely a coincidence here!! With news, I am referring to the recent sale of a Tagore painting collection for a whopping 1.6 million pounds, which created ripples in the world of Art and Investments alike.

Art was once considered the indulgence of the "privileged few", but today it has emerged as a niche investment vehicle which provides the portfolio with just the right amount of stability and diversification. The fact that it's correlation with the equity market is as low as 0.5, only makes it all the more desirable in the present market context, wherein equity markets are highly volatile.

Art investment works with a network of art dealers, artists, galleries, auction houses and investors. Decoding the correct valuation of a piece of art is no cakewalk! It requires extensive knowledge of the various forms of art be it ancient, modern or contemporary to distinguish a masterpiece from a fake imitation. This is all the more challenging in today's digital age where even signatures can be easily manipulated.  Also the art market comes with a certain amount of risk which cannot be predicted easily, what may be the "flavor of the market" today may not have much value few years down the lane and vice versa. So much so that I would say prices here are a function of Trends and Tastes and not any performance fundamentals!

Physical possession of Art comes at a cost which can sometimes be very steep, considering the recent theft of rare precious paintings from a Paris Museum.  Professional maintenance services provided by art galleries are required to maintain and attract buyers, and these do not come cheap by any standards! Holding power of the investor is another concern here since unlike property and stocks, there is no underlying income stream such as rentals, dividends or interest received.   Also investors taking the plunge into Art for investments purposes should typically stay clear of any "emotional attachments" with the works of art and should consider it a purely financial transaction to reap its benefits fully.  

All these factors coupled with the lack of transparency and regulations in the past, ensured that the Art markets were dominated by the larger players i.e. UNHI's and Institutional investors. The last few years have seen increased activity on part of Art Auction houses and Dealers, which has led to the growth of a secondary market for Art and, in turn, promoted liquidity. But it has a long way to go in terms of its penetration to the retail investors, which remains to be low till date.

What's your opinion, will the Art bubble burst or it'll emerge as a practical and stable alternative investment? Let me know ...

Posted by Navdeep Gill at 3:15 AM | Permalink | Comments (4) | TrackBacks (0)

Recently, I was studying and evaluating the wealth management trends worldwide. In the course of my research I was surprised that barring few regional differences the challenges faced by WM firms are more or less similar globally.  Customers are demanding products which are not just "off the shelf types" and at the same time are cautious of investing in anything new! Which only adds to the dilemma of the WM firms.

Of course, one fact which no one can deny is that, the last 18 months have been truly transformational for the industry as whole in terms of its operations and assets under management (AUM). Coming back to trends, the following are my "Top 5":

1.     Regaining Client Trust

Failure of a number of banks/ financial institutions coupled with mounting losses, in the recent past, has had an adverse impact on the client trust. Winning back client trust is the top priority of firms today. I recommend bringing in transparency in operations and make full disclosure of facts to the customer, in order to achieve this.  There can be no hard and fast rules here but I believe that advisors with their conduct and expertise can win back customer trust over a period of time.

2.     Operational Efficiency and Technology

It's a fact well known today, that margins of advisory firms (or WM firms) are at an all time low. There is a huge need to cut costs and yet sustain and grow business operations. While dealing with the client in a "rendezvous" sort of mode comes at a cost; alternatives are provided by technology today in the form of "Smart devices" like the iphone or blackberry which facilitate seamless connectivity. Also initiatives like setting up comprehensive and user friendly online services provide an extra edge to the firms in the ever competitive market place.

3.     Looking East

Advisors are today increasingly looking at "New money" in the Asian markets of China, Singapore and India.  These markets have shown growth even in the last year or so and have been largely untapped. The trick here is not just to dump the western products in these markets but for me the key to success here  would be to bring in the "regional flavor" and come up with customized products and services with which  local investor can associate.

4.     Regulatory Compliance

Post the economic downturn, a whole new set of regulations has been put in place to ensure that Financial Services firms remain healthy and robust. Starting from the account opening (KYC process) to trading regulations (MiFID, NMS, SOX etc), the regulatory scanner is higher today than ever before.  This has a direct implication on operational costs and efficiency, as firms need to quickly ramp up there systems to comply with these regulations.  What would help here is technology enabled flexible and agile process setup, which can be modified with relative ease.

5.      Thinking Out of the Box

With the widening client base, the advisors need to come up with innovative solutions which cater to the needs of its "Diverse clientele". Having burnt their fingers in equities most clients today are looking out for products/solutions which offer them diversification and growth. The growing traction in fields like Wine banking, Art banking and even Islamic banking seconds my claim here!

Posted by Navdeep Gill at 8:16 AM | Permalink | Comments (0) | TrackBacks (0)

At the very onset I welcome you all to the wealth management blog. This being the inaugural post, I would like to introduce this much talked about topic at a high level.

"Accumulate, grow, protect and spend" these 4 words sum up the wealth management processes in a nutshell. WM progresses along the life cycle of an individual to cater and adapt to his/her requirements at each junction.   The importance of WM has only increased with the standards of living improving worldwide. People are now looking at WM to help them plan early retirementsJ, sustain their lifestyles, account for all important milestones of life and facilitate inter-generational wealth transfer. Also with global economies opening up, WM is used by many as a tool to invest and hold cross border investments which are typically difficult to manage on a "do it yourself" sort of mode, as it requires expertise in regulations and taxation policies worldwide.  Hence investors are largely now moving to "Do it for me" mode. This basically means that investors are looking for "Global Life cum wealth advisor" and not just a regular "Financial advisor".

Over the past few years WM has evolved from being something which was catering only to the needs of the "RICH" to an offering which is now offered to all socio-economic classes starting from the Affluent to the ultra high network individuals (UHNI's). The recent market downturn has shifted the focus back on WM with a special spotlight on "Wealth Protection". My interactions  with individuals/advisors  post the recession has led me to believe that individuals are still very cautious of putting their money in complex products which they don't understand  ( Hedge Funds, are the best example here) and are increasingly looking for products which are simpler to understand, trusted and offer capital protection.  And the price skyrocketing prices of bullion (gold being the perfect example) seems to validate my theory here!

Change is the only constant and WM practices are a live example!!

Stay tuned for much more exciting stuff here!!!

Posted by Navdeep Gill at 9:30 AM | Permalink | Comments (0) | TrackBacks (0)