Voice of the Industry: Advising Low-Risk Clients
The recent UK government bond crisis has led to quite significant drops in pension valuations in a very volatile and inflationary environment. What makes this latest market shock unusual is that investments deemed low risk were hit the hardest due to their higher bond allocation.
This challenged the theory that bonds are lower risk or more appropriate for clients approaching retirement or who are retired and created a conundrum where lower risk has become the new risk. higher.
In the face of the cost of living crisis, how can advisors ease client concerns and what steps can they take to help drive better outcomes for risk-averse clients?
Management of customer concerns
Engage and educate your customers – One of the main reasons why risk-averse clients are often placed in low-risk strategies is that they don’t feel like “venturer” market drops, so naturally this latest crisis has sparked concerns.
In this context, it is important to engage and educate clients who lack investment expertise or confidence. This does not mean educating clients on how bond yields interact with interest rates, but reassuring on how this crisis is due to the exposure of low-risk investments to bonds that have been severely scared off by the measures announced in the government’s “mini-budget”. . This can be very technical, but it is important to clarify that there are specific reasons for this drop.
There is no doubt that market volatility is also a significant issue for clients planning to retire soon. This can be exacerbated if they wish to turn assets into cash and effectively crystallize their losses, underscoring the real value of continued advice in this turbulent environment.
Encourage income flexibility – Clients who draw regular income from their plan will already feel the bite of higher inflation and increased volatility. Drawdown investment strategies tend to have a higher bond allocation compared to accumulation strategies (especially those on the lower end of the risk spectrum) with the intention of being more resilient to market shocks . The effect of the latest crisis on these solutions would have come as a big surprise to clients of these strategies and could negatively impact revenue sustainability.
So how can revenue sustainability be preserved for low-risk customers? If they can afford it, it is a good idea to limit the amount of income withdrawn. Also, don’t be afraid to discuss reducing current and planned spending levels with clients, as this can improve longer-term revenue sustainability.
What practical steps can counselors take?
Review your investment solutions and processes – Low-risk multi-asset solutions with a wider range of assets have fared better than core solutions using an equity and government bond allocation during this period of inflation. . These are not diversified enough to withstand inflationary conditions and market shocks.
Having a more diversified asset allocation has the potential to help maximize risk-adjusted returns in a wider variety of market conditions. For example, our multi-asset solutions have exposure to commodities and commercial real estate which have supported performance during this period of inflation. Adopting a truly diversified solution and highlighting how broad diversification can produce good results for customers could help you demonstrate how your products and services provide fair value under upcoming regulations on FCA consumer obligations.
It is also worth considering the benefits of active management in difficult market environments. Active strategies can be used to help clients navigate the investment landscape rather than simply following the benchmark. They can also be used to add additional value as market opportunities arise which cannot be achieved with passive strategies. We use active management in our multi-asset solutions to add value by tactically adjusting exposure to different assets as the economic cycle changes. For example, we have already tactically reduced our exposure to various bond strategies.
Increase the risk
Increasing a client’s level of risk, and therefore reducing overall bond exposure, is one way to potentially generate higher returns, but is this practice appropriate and what would they think of increased risk exposure? during periods of higher volatility?
To achieve higher returns, you must be prepared to increase your exposure to higher risk investments. This can generate higher returns in the short and long term, but will almost certainly lead to periods of greater underperformance as well – an undesirable outcome for many.
It comes down to engaging and educating customers. A lack of investment education can cause individuals to choose low-risk solutions. It is therefore imperative to continue to support and educate clients by instilling conversations about taking more risk into your advisory processes.
Does lower risk = vulnerability?
One of the results of the consumer obligation is “consumer support”. It’s about how customers interact with a company’s products and services. Part of that is making sure companies have procedures in place to support vulnerable customers. You could argue that risk averse customers are vulnerable customers (now even more so!) who need support during times of market stress. Do you have processes in place to respond to queries, offer support, and capture concerns and results? By thinking about it from the customer’s perspective, you’ll not only prepare for these new demands, but you’ll also help deliver a better customer experience.
Learn more about Royal London’s investment experts on our advisor website.
This position is funded by Royal London