Like many of you, I've become a student of behavioral finance. As a onetime social worker, I enjoy the psychological aspects of investing, particularly those associated with risk tolerance and asset allocation. By the same token, I'm also frustrated with traditional risk tolerance questionnaires, asset allocation models, and modern portfolio theory. Their effectiveness is questionable in the current environment of low interest rates, intense market volatility and increasing asset correlations.
My research and experience suggest that the current five to 10 risk tolerance questions that seem to dominate the industry need to be dramatically changed to include mental, social and even health questions. Only then will advisors be able to more concisely design an asset allocation that supports not just a client's financial goals, but also their everyday peace of mind.
Today, most risk tolerance questionnaires begin by identifying time constraints for the portfolio followed by a series of questions that seek to elicit a client's response to either a market upturn or downturn. But the process falls short of accurately portraying how a client will respond because arbitrary dollar amounts, such as $10,000, are used instead of a client's actual account balance. Furthermore, without a systematic way to assess a client's mental, social and physical status, advisors may be prone to higher client turnover. Without such a system, an advisor will fail to help clients see how their personal lives (mood, health and perceived longevity) may impact their asset allocation and investment results. This is particularly important during retirement, when factors like the loss of a loved one, divorce, declining health or general depression can alter how a client would respond to a negative market event.
My desire to push the asset allocation envelope came about as I was conducting research for my book Naked Retirement. When I looked at and developed strategies to help clients plan beyond the dollars and cents of retirement, I found research that sexual activity, social life and a client's willingness to volunteer can impact longevity, stress level and mood -- some of the same factors associated with asset allocation and risk tolerance. The research includes:
Sex Is Good
According to the Mayo Clinic, A person who has at least a hundred orgasms a year can expect to prolong his or her life by up to eight years and reduce their mortality rate by half. Sex is also wonderful because:
30 minutes can burn 200 calories and help fight off food cravings by producing phenethylamine
Sex keeps the skin supple and gives it that peachy glow by producing collagen
Having Friends Is Healthy
Having a solid network of friends can help increase one's longevity. In a 10-year study of people aged 70 and older, Australian researchers at Flinders University Centre for Ageing Studies concluded that having a network of good friends was more likely to increasing longevity than having close family relationships. Related research also suggests that:
People with an extensive network of good friends live 22% longer than those with the fewest friends.
A person's mood or odds of being happy increases by 15% if a friend in their network is happy. Even having a friend with a happy friend can increase your chances of being happy by as much as 10%. That increase may not seem significant until you compare it with the same study's finding that an annual income increase of approximately $10,000 was associated with just a 2% rise in respondents' happiness.
Volunteering Keeps You Young
A University of Michigan study of more than 1,200 adults over age 65 (mostly retirees) found that subjects who volunteered at least 40 hours each year to a single cause were 40% more likely than non-volunteers to be alive at the end of the study. Volunteering your time and energy can:
Provide a sense of belonging and purpose that can help fight off depression and stress.
Offer volunteers a chance to both care for others and be cared about.
While I don't anticipate advisors asking their clients how often they have sex, to count their friends or track volunteer hours, my overall argument is simply that we're under serving our industry, business models and ultimately clients by using risk tolerance questionnaires that don't include psychological components. There's a growing need and opportunity to move from a technical left-brain focus on retirement planning to a more creative and intuitive right-brain approach.
One simple way to begin to integrate these factors into the risk tolerance and asset allocation process would be to ask questions similar to those the insurance industry asks to gauge a person's insurability.
Insurance applications ask for personal information such as height, weight, medical conditions and propensity to take risks -- whether the applicant does things like skydiving or bungee jumping or use alcohol or recreational drugs. The answers to these questions may tell a very different story than what a particular client expresses. Such questions could be useful in a risk tolerance questionnaire given to a financial advisory client as well.
Although privacy experts may argue against the need for retirees and investors to disclose this information to their advisor, I believe that mental, social and physical details could help an advisor develop an appropriate asset allocation model. Advisors may also find this information useful in segmenting clients and prospects.
For example, after a steep market drop like we experienced last August and September, would you rather call a client who has an active sex life, recently met with some old friends or just left their volunteer role at the pet shelter, or chat with a client who's bored and subsequently checks their account balance three times a day? Which kinds of clients do you have or would you rather have? Those with a focus beyond their net worth are more likely to tolerate such a difficult or negative period instead of reacting emotionally and either pulling out of the market at the wrong time or switching advisors.
Don't be surprised if this approach to asset allocation also becomes a model for profiling clients. Forget classifying clients by their net worth or whether they're a "Driver" or "Amiable." Instead, imagine segregating clients based on their sexual activity, network of friends, propensity to volunteer, or at the very least, blood pressure, cholesterol and blood sugar levels. While this may seem controversial, the reality is when building a profitable business do you want your niche to be grumpy retirees whose business income may last five to ten years or healthy, happy clients with a life outside of their net worth and a business relationship that could last in excess of 20 years?
Assessing the effects of sexual activity, friendships and health on risk tolerance and integrating that information into a suitable asset allocation may be outside the realm of traditional financial planning now. But I believe advisors may soon be calling their client's doctor and therapist rather than just their CPA and attorney to create the ideal retirement plan and asset allocation. Eventually, risk tolerance questionnaires may look a lot more like an insurance application, making them a more comprehensive and involved process.
Robert Laura is the president of SYNEGOS Financial group, co-founder of RetirementProject.org, creator of the Laddered Dividend Portfolio, and author of Naked Retirement. He can be reached at [email protected].