Goals-Based Investing
The 'fourth dimension' of goal setting
Chris Gies
Director of Advisor Practice Management
  • Forming a complete picture of clients’ goals requires going beyond amount, time horizon and risk tolerance to add the fourth dimension, prioritization.
  • Guiding clients, and their families, through conversations about goal prioritization changes the dynamic of the relationship and positions you to manage more of a clients’ assets.
  • Discussions about goal setting and prioritization provide powerful opportunities to engage with clients’ spouses and younger generations, which can lead to higher client retention.

When helping clients set goals, financial advisors typically focus on only three dimensions: amount, time horizon and risk tolerance. While these factors are certainly meaningful, they don’t tell all you need to know in order to build portfolios that can enable clients to achieve their goals.

To complete the goal-setting picture, advisors need to bring in a fourth dimension: prioritization. Traditionally, advisors have lumped a client’s goals together and assumed that the client’s risk tolerance applies equally across all goals. This approach assumes that all goals carry equal importance to clients — a false assumption that can ultimately lead to disappointing results for clients and a diminished view, in their eyes, of their advisor’s competence.

As you look for ways to highlight the value that you provide clients, helping them prioritize their goals — not necessarily in terms of chronology, but in importance to their lives — can be a powerful tool. Guiding clients through the process of articulating their true feelings about the amount of “shortfall risk” they are willing to incur with their various goals, and the relative importance of each goal, helps clients think clearly about what they are looking to accomplish. This approach also positions you as a trusted advisor who understands your clients’ dreams and values.

Expanding the definition of “risk” leads to goal prioritization

As mentioned above, most advisors are trained to understand client goals through three dimensions: amount, time horizon and risk tolerance, which can be distilled into these questions:

  • Amount: How much money will the client need to achieve his or her goals?
  • Time horizon: How long will it be until the client needs the money?
  • Risk tolerance: How much risk is the client willing to accept in pursuing his or her goals?

While the discussions surrounding amount and time horizon tend to be more straightforward, the “risk tolerance” question is significantly more problematic. When asked to self-assess their tolerance for risk along the aggressive-conservative spectrum, clients may have trouble applying these abstract terms to their own mind-sets. If you use a complicated risk-assessment tool, clients still may struggle to internalize the concepts and answer the questions accurately.

One of the biggest problems underlying these discussions is that disconnect between how advisors talk about risk and how clients think about it. Advisors have been trained to talk about risk using terms such as volatility, standard deviation and the efficient frontier — concepts that have little in common with how clients think about risk. In fact, research shows that clients think about risk not in terms of volatility, but in terms of the probability of not reaching their goals.

Another major problem is that advisors assume — mistakenly — that a client’s risk tolerance applies evenly to all of his or her goals. The reality is that clients’ risk tolerance varies tremendously depending on the specific goals. It is ridiculous to think that every goal a client has is equally important to him or her, but that is how many advisors approach the issue when it comes to portfolio construction and conversations with clients.

Embedding goal prioritization in your client conversations

As an advisor, you need to make goal prioritization a central part of your conversations with clients. You can’t assume that clients will share this information voluntarily; you need to draw it out of them. It helps to have a system in place for gathering this vital information.

One technique that we recommend is having clients first list their goals and then write a number next to the goal corresponding with where it fits on the following spectrum:

Based on the numbers that the client assigns to each goal, you can help the client categorize them as “essentials,” “enhancers” or “endowments,” a system we have developed at Capital Group. To further clarify the client’s values, you can also help the client prioritize the goals in each category. This shows that you understand some essentials are more pressing than others.

In our approach to goals-based planning, we assign a confidence level to each category based on how much “shortfall risk” clients can accept. So, the more important the goal, the higher the required confidence level, and the less risk clients will be willing to take to achieve the goal. To illustrate: An essential goal (90% confidence level) could be having enough money in retirement to pay health care costs; an enhancer goal (75% confidence level) could be owning a vacation home; and an endowment goal (50% confidence level) could be leaving $200,000 to a favorite charity.

This system of prioritization offers flexibility to clients’ perceptions of success and failure in regard to their goals. So, for example, if your clients can’t leave the full $200,000 to a charity, but are able to bequeath $100,000, they may not be overly disappointed. This is especially true when you have gotten them to understand that this was an endowment goal — one that they themselves placed a lower emphasis on achieving when they first prioritized their goals.

Using goal-setting to build family connections

Goal prioritization, at its heart, involves a dialogue with clients about their hopes and dreams. You will find that most, if not all, of these aspirations are connected to clients’ families. Spouses want to ensure their surviving partner will always have the financial resources they need to enjoy life. Parents want their children — and often their grandchildren — to receive the high-quality educations that they need to succeed in the careers of their choice.

Many advisors, however, are hesitant to ask about a client’s hopes and dreams. And when these do occur, too often the advisor talks to only one person — often the husband — about these family-oriented goals. This narrow approach can lead to problems in the future. Consider this: 70% of women fire their financial professional within a year of their husband’s death, according to Vanguard. Many of these terminations could have been avoided if the advisor had been more proactive in engaging the wife in the couple’s financial affairs.

Why stop with the spouse, though? If you are really going to engage with a family in regard to its financial goals, you may also want to ask your clients to bring in their children, especially the ones nearing adulthood. You can suggest getting younger generations involved in these important discussions, saying something along the lines of: “The next time we review your progress toward your goals, it might be helpful to have your children join us. I have never met them, and I can clearly see that they are essential parts of your key priorities.”

By taking this approach, you will not only be making a deeper connection with your clients and their goals, but you will also be further demonstrating your value to clients and their families. You will better position yourself to be the “advisor of choice” for the next generation, an increasingly important position given the estimated $30 trillion of assets that will be passed to heirs over the next few decades.

Clearly, having a far-reaching discussion of your clients’ goals and bringing their family members into the conversation can benefit everyone. Your clients will gain more trust in you — and possibly put you in charge of an even greater percentage of their assets. And by obtaining a clearer picture of their goals, and the respective levels of importance for these different goals, you can do a better job of helping clients build and maintain the appropriate investment portfolios. Furthermore, you will have established at least a foothold, and possibly a much stronger relationship, with your next generation of clients.

Exploring the “fourth dimension”

It is important to realize that discussions about goal prioritization shouldn’t be one-time events that happen at the beginning of the relationship. As people’s lives change, their priorities evolve. Your annual check-in meetings with clients are perfect opportunities to revisit the goals that clients have established and determine if these goals should be adjusted or reprioritized. In situations where clients aren’t on track to meet some of their goals, you can discuss the potential impact of scaling back the goal or adjusting the required confidence level.

Your ability to help clients articulate and understand their goals is central to your value as a financial advisor. But if you only focus on amount, time horizon and risk tolerance, you are getting an incomplete picture of what your clients are looking to accomplish. By helping your clients prioritize their goals, it opens up new opportunities for you to better serve your clients — and a way for those clients to view your value in a new light.

Chris Gies is director of advisor practice management for Capital Group. He has more than three decades of industry experience and specializes in training high-level advisors on various practice development topics.

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