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- Advisers say being easily influenced by recent news or events is the top misstep clients make when investing, according to a new study by Charles Schwab Investment Management.
- The study broke down top behavioral biases that advisers observe in clients. It's important to consider behavioral finance because of recent market volatility, said Omar Aguilar of CSIM.
- Different generations have different top biases, the study showed.
- Having awareness of behavioral biases and a clear plan to deal with them is the best way forward, the study said.
- Read more on Markets Insider.
A new study of advisers found that recency bias - or the tendency to be easily influenced by the latest news, events, or experiences - was the top mistake that they saw clients making when deciding how to invest.
The study, conducted by Charles Schwab Investment Management and Cerulli Associates, took a dive into behavioral biases that all investors grapple with when making decisions about their money.
"With the prospect of increased volatility and lower returns on the horizon, advisors who understand the psychological or emotional factors that predispose investors to behavioral biases can differentiate their services in what is becoming an increasingly competitive environment," said Omar Aguilar, chief investment officer of equities and multi-asset strategies at CSIM.
The chart below shows that recency bias was the top behavioral bias by a wide margin of nine percentage points.
Charles Schwab Investment Management
Analyst Note: Advisors were asked, "To what degree do you believe the following biases may be affecting your clients' investment decision making?"
Aguilar, who also holds a doctorate degree in statistics and decision sciences, said that understanding the different biases investors have can give advisers powerful insight.
"The reason why we care about behavioral finance is because the human brain doesn't work well under stress," Aguilar said on a call with reporters. "The fact that we have these major shifts in the markets basically make these biases even more prevalent."
For example, an investor might look at all-time market highs and want to buy more stocks, instead of rebalancing their portfolio with less risky assets. Or, on the flip side, clients might see market swings after tweets from President Trump and say "the next time we see a tweet from the president we're going to sell everything," Aguilar said.
Instead, the best defense is to take a long-term view and work with an adviser to develop a plan that the investor is comfortable with, he said.
The top biases differ by generation
The study also broke down the top biases that advisers reported in their clients by generation, illustrating the differences in perception among investors in different age brackets.
Millennials' top bias is framing, which Aguilar describes as similar to fear of missing out.
"Their framing basically says, if people think that bitcoin is a good idea, let's try it," said Aguilar.
Meanwhile, Generation X is most plagued by recency bias, the top one overall.
Baby Boomers and the Silent Generation (those over 73) showed stronger majorities in the top biases - 75% of boomers were seen as having an anchoring bias, meaning that they're most concerned with hitting a certain number or other reference point, said Scott Smith, the director of advice relationships at Cerulli Associates.
Of the silent generation, 85% were seen as having a similarity or home bias, meaning that they're hesitant to invest outside of the US or outside companies they know well, Smith said.
How to overcome a bias
Advisers can help clients overcome biases - and even learn to address their own biases themselves - by moving beyond awareness of biases to active planning, the study concluded. This can be done through embracing a long-term view of investing, adopting a systematic process, and sticking to clients' goals for investing.
Awareness to some degree helps, said Devin Ekberg, chief learning officer for CSIM, but it's not a cure.
"I think advisers need to put processes in place that they can follow, that are repeatable and actionable and quite frankly defensible," he said.
In addition, having a plan can help advisers be proactive in volatile times, said Smith, which has proven to be beneficial in the past.
"Back in 2008 and 2009 we found advisers that were more proactive in those times were actually gaining clients," he said. "Where those advisors that were hiding under their desks were losing clients or had unhappy clients."
Framing the plan in a positive way can help, Smith said. For example, if the market goes down and clients are worried about it, Smith offered this framing, "when your favorite product goes on sale at the grocery store, do you stop buying because it's too cheap now, or do you buy extra?"
"You buy more," he said. "So you can stock up."