Role of an investment adviser
Mr Amit Trivedi, Founder of Karmayog Knowledge highlights the role of an investment adviser and explains how should an adviser manage clients expectations
Managing clients expectations – a key
What does a client expect from an investment adviser or a mutual fund distributor (We will keep using the term “investment adviser” or “adviser” to refer to investment advisers, financial planners as well as mutual fund distributors)? I have asked this question in many training programs to advisers. Some of their answers have set me thinking: Are they not setting very high, or in some cases, completely wrong expectations? If the expectations are not set correctly, the relationship would be under stress sooner or later. However, the first step in setting the expectation is for an adviser to understand his own role and beliefs.
Need based financial planning
Let us start with a basic question: “Why do investors need to invest?” For a question as simple as this, the answer is equally simple: “The investor has surplus today and would need the money to fund a goal in future. Investing the money for the intermediate period is a need.” Given this, it is important to ensure that the money is available at the time of the goal.
For this purpose, an investment portfolio is created. A portfolio, if properly constructed, would help the client to reach the financial goals.
In the typical value chain (Fig. 1), there are two intermediaries between the client and the portfolio. Both the intermediaries play important roles in this process. If both do their respective jobs well, the client has a very high probability of reaching the financial goals. However, one must understand the difference between the exact roles of the two intermediaries.
Role of an investment adviser & Portfolio Manager in financial planning:
• As shown in the diagram, the portfolio manager is closer to the portfolio, or the investments. The investment adviser is closer to the client. Hence, in simple terms, the portfolio manager manages investments, whereas the investment adviser manages the investor. Further, the former must know Economics, the latter Psychology.
• The portfolio manager analyses the merits of various investment options to construct a good portfolio. The attempt is to generate performance in line with the stated objectives of the scheme. It is the investment options and the selection done by the portfolio manager from time to time that helps generate returns. The job of the investment adviser is more of managing the risks in line with the client’s need to take risk and his risk appetite. For that purpose, the investment adviser is supposed to understand the risks the portfolio is exposed to. One must also remember what Benjamin Graham said, “The investor’s chief problem and his worst enemy is likely to be himself.” This is where the role of Psychology comes in. Most of the times, it is the decision taken under the influence of some strong emotions (most of the time, fear) that results into portfolio losses or opportunity losses.
Bringing discipline in investment approach
The role of the adviser then becomes quite clear. The investment adviser helps the investor plan the investments and then ensures the investor stays with the plan without any deviation.
However, whether to be a pure play investment adviser or also play the role of portfolio manager (either in full or in part) is a decision one has to take based on one’s strengths and beliefs. Someone may believe in the principles of asset allocation and decide to stay with strategic asset allocation. Someone may believe that the adviser has to only take strategic asset allocation decisions and then leave the active management to portfolio managers. Someone else may believe that tactically changing the asset allocation could help generate alpha.
Whatever the belief, one can build the practice in line with the belief. One only requires building the ability to fulfil the promises.
Having said that, it pays to keep few things in mind:
1. The investment adviser must know how the fund manager manages the fund. What is the investment objective and what is the investment style?
a. Assume the adviser is tactically shifting between the asset classes, viz. equity, bonds and cash. If the fund manager and the investment adviser have opposite views, the eventual result could be far from desired. For example, if the investment adviser is bullish and has recommended investment in an equity fund, which has taken a conservative stance and moved into cash, the investor still does not get a full equity portfolio.
b. Similarly, when one believes that it is possible to take a call on interest rates, it is also important to decide whether the adviser tries it himself or leaves it to the fund manager.
c. When the adviser believes in strategic allocation, it is important to use only those funds which allow for maintaining the desired allocation. Else, the allocation strategy should be flexible enough to accommodate the fund styles.
2. Ensure that both the investment adviser and the fund manager are adding value to the whole process; else one must avoid duplication of charges to the customer.
It is important for an investment adviser to understand her role and clearly communicate the same to the client. This communication should become the core of the relationship with the client. Your ability to deliver on the expectations is critical to building trust with the clients.
About Author: Amit Trivedi runs Karmayog Knowledge Academy.
Disclaimer: The views expressed are author’s personal views. He can be reached at amit@karmayog-knowledge.com
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