This month, Rick has been writing. His article, “Explaining Risk to Clients: an Advisory Perspective,” co-authored with Paula Hogan, appears in The Market for Retirement Financial Advice, recently published by Oxford University Press. The articles in this book originated as papers presented in Philadelphia in May 2012 at the Pension Research Council Conference with the same title. The articles in the book vary in their degree of technical difficulty, but the target audience is scholars rather than the general public (Amazon considers it to be a textbook).
In “Explaining Risk to Clients,” Rick and Paula identify four approaches (paradigms) for delivering financial advice. Each contributes something to people with financial planning issues – those of us who must make choices about what we would like to do in life.
The Traditional paradigm emerged from stock brokerage and naturally focuses on investments and the investment portfolio. In contrast, economic theory is the fundamental basis of the Life Cycle approach, which focuses on lifetime earning power and developing a stable living standard. The Behavioral approach recognizes that people are human, which complicates planning because their decisions are frequently not rational. Finally, real world considerations intrude through Advisor Experience. For example, couples don’t always agree on goals and values, risk and return forecasts are very uncertain, and clients frequently benefit from ongoing support. In short, advisors must adapt all of the first three paradigms to the realities of life.
In the authors’ view, the Traditional paradigm has long been dominant, while the LifeCycle approach is gaining ground. The Behavioral approach advances many important issues, but the implications for practice remain to be developed. Finally, if the first three paradigms represent the “science” of financial planning, Advisor Experience is the “art.”