Whether we like it or not, investor psychology will always be a component of the portfolio management process. (Find me an aspect of life where psychology does not play a role!) The most effective advisors have the required technical skills and investment acumen to efficiently manage a portfolio, but also the ability to tap into their inner psychologist to ensure that investor sentiment is appropriately managed and does not drive the decision-making process. Unfortunately, there is no magic formula to manage or predict an investor's behavior, and there will be instances where your strategies will be at the mercy of human emotion.
Even if we give our clients a survey, it does not mean we have a firm grasp on their risk tolerance. And client management techniques, even if we master them, will not work with every client. Nothing can replace seeing how clients actually react in certain situations.
It is incumbent on us to use this volatile period to study our clients and learn more about their psychological tendencies and degree of risk aversion so that we can more effectively and appropriately manage their portfolios in the future. In March 2009, Ed and Betty learned something they did not know about themselves before. I did too. While no one wants to relive the volatility and uncertainty of the past 18 months, we must view this period as an indispensable opportunity to more thoroughly understand and explore our clients, as well as ourselves.