4 Things Clients Need to Know about Volatility
When markets are volatile investors can get spooked and start to question their investment strategies. Especially if they’re new to the process of investing. This could prompt them to withdraw from the market and wait on the sidelines until things get better.
As their financial advisor you’re there to help them see things in perspective. By helping them understand the nature of volatility they will find it easier to stick to their plan.
Here are four things about volatility you need to explain to them right away.
#1. Tell clients that corrections will always happen
Volatility is a measure of the tendency of markets or securities to rise or fall within a short time period. It can arise from economic news, company news, analysts’ warnings, or simply from an imbalance of trading. In fact, volatility is often down to human emotion where large numbers of people cash in their stocks at any given time. Overall though, there’s no absolute consensus on what causes volatility. But – because it exists – your clients will have to deal with it.
Explain to clients that volatility does not equal loss. There’s no need to panic. Short term peaks and valleys are normal for markets.
#2. Market volatility seems more extreme than it is
When a portfolio is doing well, dopamine is released in the brain, triggering a euphoric feeling. When it’s in a slump, the brain feels a strong sense of danger – triggering a ‘fight or flight’ reaction – which for some investors can be their cue to jump ship.
Market volatility seems more extreme to clients – especially when they have access to the markets 24/7. Volatility over short periods of time e.g. 24 hours could see the Dow drop by hundreds or even thousands of points. You need to explain to clients that rather than obsess about short-term changes it’s more important to focus on what the Dow has done over the past 20 years. Then it’s time to look ahead to the next 5 to 10 years.
#3. Volatility is built into the plan
When you sat down with clients and drew up their plan you built into it that their account could dip – so swings are already factored in. These dips are of no consequence so long as they are still on track and their assets are still safe. Tell them that since their goals haven’t changed – their behavior when the market overreacts shouldn’t change either.
Reiterate to clients though, that just because they’re all set to weather stormy markets that doesn’t mean you’re endorsing a passive approach. You are constantly ensuring that their portfolio is balanced for risk and for their preferences – and that their balance of investments is up to date.
In fact, volatility can be a good time for a review. If clients have made good gains in some areas it could be time to scale risk back a bit. Especially if they’re ahead of where they need to be in terms of financial goals.
#4. It’s impossible to time the markets
Some advisors claim they can time the markets for a fee. This is generally a myth. Markets run in cycles and, while this does give some indication of the kind of things likely to reflect a market phase at a given time, it doesn’t mean it’s possible to know when to get in and out, accurately and consistently.
That’s why clients need to look at the bigger picture. Timing the market is never as consistently successful as staying fully invested for the whole period. Investors who move their stocks in and out according to their views at any particular time do not do better than patient and cautious investors who stay the course
Investors who repeatedly abandon a good strategy because it hasn’t worked so well recently invariably jump ship at precisely the wrong time.
So, if an advisor tells them they have the solution to the timing problem, boasting potentially spectacular returns – standard wisdom says that this isn’t the case. Timing the market means being right twice. That’s a tall order.
The more informed your clients are about the nature of market volatility, the better placed they’ll be to face it down and remain invested. The more educated they are about volatility, the less likely they’ll be to react emotionally when they encounter it.