In surveys, financial advisors often say client referrals are the most important way they cultivate new relationships and grow their practices. But research over the last two decades suggests client referral levels are declining. Clients—especially affluent clients—are less inclined to refer their peers and associates to advisors they are using.
There are two main interconnected reasons for this. In part, clients are less inclined to make such recommendations because of the “social risk.” Complementing this is the failure by a large number of advisors to psychologically prepare their wealthier clients before asking for the referral.
If an affluent client’s investment portfolio underperforms, he or she is the only one who knows (outside of loved ones and accountants) and can change advisors accordingly. But when he refers a peer to an advisor and that person loses a substantial amount of money, there are all sorts of adverse social, personal and possibly professional complications.
In researching the thinking and actions of affluent investors over the years, we found that their willingness to make referrals has declined. The big drop came in 2008, and there has not been a recovery. A survey of 89 qualified purchasers in 2013 suggests that while 85% of them readily referred their associates to their financial advisors (and other professionals) before 2008, fewer than one in 10 of them have made such a referral since (Figure 1).
In 2012, we asked 169 affluent investors (those with a minimum of $1 million in investable assets) whether it was more important to them that their own investment portfolio had decreased by a certain percentage or that a close friend or relative they referred to a financial advisor suffered the same loss (see Figure 2). The importance they placed on these scenarios depended on how much was lost, but in many of the asset declines, it was far worse that they had referred somebody to a poor performer.
Interestingly, it was not until both investment portfolios had fallen to significant depths that the clients placed more importance on their own losses—somewhere around drops of 40%, at which point they felt that their own losses were more significant than the complications they faced because of their referral.
There are many methodological complications with this study. Nevertheless, it does shed some light on the issues of cultivating affluent investor referrals. With volatile markets and varying investment portfolio performance, there is for many affluent investors a considerable social risk in making introductions.
Complicating the situation is that although most financial advisors say they get most of their new clients from existing ones, most of them are not taking the necessary actions to generate the referrals.