There is very often a direct correlation between an investor's knowledge level and their dependency on a financial advisor.
There is also very often a direct correlation between an investor’s advisor dependency and risk tolerance, with those dependent on advisors often being more risk-adverse.
Using the transitive property we have not employed since high school geometry, an investor with limited knowledge about finances and investment strategy is likely to be averse to riskier investments that could produce larger returns.
The circular relationship detailed above are discussed and investigated in Spectrem’s new study Knowledge, Risk and Advisor Dependency, an examination of how those three investor traits relate to each other and propel each other.
“Spectrem has long noted the relationship between an investor’s knowledge level, risk tolerance and dependency upon a financial advisor, but this study cements the understanding of that relationship,’’ said Spectrem president George H. Walper Jr. “It gives advisors cause to consider the value in educating investors as well as understanding the limitation of working with investors who admit they do not understand the intricacies of investment strategies and product values.”
According to the study, most investors consider themselves to be fairly knowledgeable about investment products and services (54 percent) and moderate in their risk tolerance (53 percent). The largest percentage describe themselves as self-directed investors (35 percent), with little involvement with financial advisors if at all.
But 35 percent of investors consider themselves to be Advisor-Assisted or Advisor-Dependent, with a strong need for advisor assistance. Also, 22 percent consider themselves to be not very knowledgeable or not at all knowledgeable about investment products and finances, and 19 percent consider themselves to be conservative in investment risk.
The study then does an analysis of those three traits as they relate to each other, finding that 47 percent of Advisor-Dependent investors consider themselves not very knowledgeable about investing, and 45 percent of those investors who are not very knowledgeable consider themselves to be conservative in their investment strategy.
It makes sense that someone who does not understand investing well would be cautious in their investment strategies and would seek the assistance of a professional in making investment decisions. The question for advisors is whether there is an advantage in educating those investors in order to make them less risk averse and then perhaps less dependent upon their advisor.
Top Takeaways for Advisors
The role advisors play in educating investors could have an impact on how the increased knowledge could affect the investor-advisor relationship. While there are some investors who do not mind being entirely dependent upon their advisor for understanding their portfolio, many investors desire a greater understanding of what they are investing in and how those investments can increase their asset level. Advisors should acknowledge those investors who want to become more educated and find a way to make that happen through seminars or reading materials.
©2018 Spectrem Group