As Jeff Magson sees it, an unseen killer of financial plans lurks beneath the surface of every client relationship: behavioral inertia.
Inertia is the tendency of an object to remain at rest, or to continue in motion, unless acted upon by an external force. Behavioral inertia expresses itself in planning as a reluctance to enact a plan, to change plans or to respond to a changing environment, says Magson, executive vice president and client experience officer at Dallas-based 1st Global. Once beliefs form, they tend to crystalize and endure, and humans often struggle to revise their assumptions.
“It’s in every client interaction,” says Magson. “Clients aren’t necessarily doing what the advisor would have them do.”
Behavioral inertia impacts financial planning at multiple levels: in saving and spending habits, in implementing and changing investing strategies and in seeking and executing financial advice. The historically low participation rates within 401(k) plans can be, in part, attributed to inertia, he says.
Other advisors agree that setting clients in motion is an important task in the planning process.
As more advisors give up discretion over client assets, more attention must be given to managing and modifying client behaviors, says Ron Lottridge, principal at Aurora, Colo.-based Catalyst Retirement Advisors.
“You can’t force people to do things, so inertia is always going to be difficult,” says Lottridge. “We have many clients who engage with us purely for planning and advice. Often times they’re asking for us to do project work and they’re not ongoing clients. Some come back on an annual basis. Others just want to delegate everything. We try to figure out how we can serve everyone in a way that suits their preferences.”
Clients who retain discretion over their accounts are often as untaught and uninformed as those who delegate, putting them at risk for inertia’s pitfalls, notes Lottridge.
Investors tend to be strongly biased towards the status quo, according to behavioral economics, because of loss aversion. Nobel-laureate behavioral economists Daniel Kahneman and Amos Tversky found that individuals feel less regret from the negative consequences of inaction than they do for bad outcomes that result from new actions.
Investor inertia could also be responsible for many of history’s financial “bubbles” from the Dutch tulip craze of 1636 to the mortgage-backed bonanza of the 2000s. As the value of an investment increases, investors want to purchase more since their assumptions have been confirmed. Then, if the value of that investment decreases, many of the same investors are unable to reverse course and sell.