I look up. I don’t want to go that way. I look down and see nothing beneath me for hundreds of feet. Certainly don’t want to go that way. I look to my right and see my family. Can’t go back. I look at my guide again. “Okay, tell me one more time where to step next.”
I am hanging off a rock on Mount Norquay in Canada on an adventure called via ferrata, which translates to “iron road.” It is a system of steel cables, rungs, and tiny ladders which create a climbing route up a rock or mountain, and the climber is secured to the route by two carabiners. It is also a way for people who sit behind desks all day to get some breathtaking adventure in their lives without the risk of, say, falling to their deaths.
A rational person can reason that the just-off-the-mountain smiling family we met coming down the path, and the thousands of other people that have completed this exercise around the world, are evidence that we weren’t doing anything truly dangerous. As long as we keep one carabiner attached, we should be safe. I mostly believed that, but not in the primal part of me that protects my human body and those of my loved ones.
Whether contemplating scaling a mountain or investing, risk assessment is a pesky challenge, and present-day humans are simply not that skilled at it. Humans tend to misestimate risk when they don’t know all of the facts and when they don’t have experience with a particular type of risk. Nobel prize winning economist Richard Thaler and Nobel prize winning psychologist Daniel Kahneman have written together - and separately - about the effect of loss aversion on investors. Loss aversion, simply stated, is the preference to avoid losses, as opposed to the ability to gain an equivalent amount. The theory of loss aversion explains why investors will wonder in a market downturn - which is an expected part of the process of investing in stocks and bonds - whether they should get out of the investment.
We consider our wealth management firm to be a “boots on the ground” risk laboratory, with daily conversations with clients about how risk can be a positive tool or a negative influence for their portfolios. We help them manage their risk so they can achieve their long-term goals. What we know from working in our risk laboratory for 20+ years is that facts and experience have a huge effect on investors and how they make decisions.
The financial markets are changing, and we expect to have more conversations about risk this year than last year. Below are five clear findings from our risk laboratory (and Canadian adventures) that might help as you review your financial plan and portfolio this year.
Confidence in decision-making: trust in others who have the data and experience
Parts of the via ferrata climb looked actually impossible to me, but our guide scaled the climb with the same ease that I walk down a hallway. While I was terrified and ready to say it couldn’t be done, he showed me by example that my lack of experience didn’t make my assessment of the situation true.
Listen, but do so critically.
Critical listening requires you to evaluate the message and source and compare what you hear to what you already know. Our via ferrata guide was leading me out of my comfort and skill level, but I still had to interpret the teachings and apply his words to my skill and comfort level. There are many different points of view these days, and fewer and fewer sources for rational unbiased facts. Remember to ask yourself - does this information make sense to me? How will I interpret this information for me and my life, my family, my business, or career?
Check your risk stack.
A significant key to success for investors is for comprehensive asset allocation to match risk levels and timeframes to goals and resources. For any client - whether we are working with an individual, a business, or a family - we start with the proper level of cash reserves. We then build their financial plan on top of that sturdy foundation for longer term success, with higher levels of risk matched to longer term goals. For my adventure topping Mount Norquay, my foundation started with safe equipment and a seasoned guide that allowed me to scramble up boulders - something I would otherwise never do - with confidence.
Use the right tools.
Whether it’s equipment like a double carabiner or the appropriate level of risk and abundant communication, specific tools can help you navigate the here and now, avoid excess risk, and plan for future crises. A committed and capable financial advisor can give you the freedom to explore what you truly want to accomplish with your money, while balancing the risk and reward that you are comfortable taking on.
Make a plan for both likely and unlikely life events.
A frequent refrain in our office is that while a crisis will happen when we least expect it, Day 2 of a crisis shouldn’t be its own crisis. From checking the weather and equipment to base camp training, we were prepared for many “what if” scenarios. Contingency planning is commonly associated with natural disasters and emergencies, but everyone - from via ferrata tourists to business owners, families, and individuals can benefit from intentional planning in their own lives, for both good times and potential surprises.
If you need help understanding your financial plan, investment portfolio, or risk strategy, please contact us at firstname.lastname@example.org.
Debra Brennan Tagg is a CERTIFIED FINANCIAL PLANNER™ Professional and the creator of the DBT360 Financial Plan, a proprietary program that helps her clients prioritize their goals, leverage their resources, and address their risks. She is the president of BFS Advisory Group and teaches the public and the financial services industry about the importance of values-based financial planning and investor education.