When it comes to discussing a client's portfolio, performance becomes a central issue. Moreover, the client's perception is crucial in whether they feel pleased or disappointed. It's this perception, which we call "expectation," that can either derail or fast-track the relationship. In this post, I'd like to share a recent experience and lay out a plan for managing client expectations.
A Brief Case Study
During a review a few months ago, a client explained that his retirement plan through work had achieved an 8.0% return for the most recent annual period. He went on to say that he didn't expect us to reach that mark since we were positioned far more conservatively than his 401(k). When I shared that the portfolio returned 7.5%, with much less risk, he was pleasantly surprised.
In my view, as it pertains to managing client portfolios, there are three key issues to consider: absolute performance, relative performance, and performance relative to the client's required rate of return. Each client will tend to favor one of these categories, which will have an impact on the success or failure of the relationship.
Absolute Performance
Clients without the benefit of a financial plan, or those who lack understanding about the Sharpe Ratio, Treynor Ratio, Jensen Ratio (Alpha) or other risk-return measures, may be far more likely to compare their portfolio's performance to that of the stock market in general. Because of this, they may also be more likely to change advisors during a period of market outperformance. Unless you, as advisor, have a plan to educate these clients, it's also very possible that these clients will become more difficult to manage, especially when stocks are soaring. To sum it up, these clients are more likely to chase returns and change advisors, and gaining their full commitment may prove more difficult.
