Bull markets ruin good planning

A client of mine sells security systems. Whenever he has potential customers call him about buying a home alarm, he asks them when they were robbed. He knows most people take home security seriously after they’ve had a break-in.

Human nature is like that. We only prepare for risks after they’ve hit close to home.

How many of your clients have bought life insurance or prepared their wills after a close friend or relative dies? We all know someone who started taking their health seriously, through diet or exercise, after a heart attack or other ailment put them in hospital.

We all think we’re invincible. We all think bad things only happen to other people. We all think we have time to get our plans in order. We all think these things – until we get scared straight.

And then, after a burst of responsible behaviour, we lapse back into our regular habits.

As advisors, we must recognize this normal human condition, and take advantage of it to help our clients.

Nearly every Canadian’s financial plan was crash-tested over the past two years. The severity of the damage was different for everyone. Some walked away bruised but will recover. Others suffered permanent damage and will require years of rehabilitation.

For everyone, the accident is still fresh in their minds. And, right on cue, they’re taking a very deep interest in their plans and portfolios to ensure this never happens again.

The lasting benefit of this new awareness is that your clients are willing to take advice on their retirement plans and risk management.

This is important – and it’s critical to remember it’s also temporary.

Right now, clients want their retirement income plans calculated. They want to review their insurance coverage. They are willing to (finally) get their wills prepared. This is the sober, prudent action to take after watching their future plans and hopes take a massive clobbering.

When the next bull market rears its head (and it could happen sooner than later), clients will go back to their normal state of mind and once again ignore their plans and portfolios for most of the year. I’ve been in this business nearly 20 years, and have watched this pattern play out several times.

Hot emerging markets gave us the Asian Flu. Sky-high Internet stocks crashed in the Tech Wreck. A normal recovery was terrorized by 9/11. Cheap leverage and the housing bubble nearly broke the back of the world’s financial system. We’ll be in rehab for years recovering from this one, but the bulls always start running ahead of the real recovery.

Through all of the ups and downs, I’ve noticed the pattern of client engagement in their financial plans is the inverse of the stock market. When it’s way up, they don’t care. Everything feels good. When it’s down, after the panic subsides, they pay attention and sweat the details.

While their new focus on their investment statements won’t make the market go up, here are a few ways we can help to permanently improve the quality and durability of their plans:

Rebuild the cash reserves: We know people should have three to six months of income stashed away in savings. Not in their retirement portfolios and not in available credit; in savings. This is the cushion that helps people in times of wage cuts and job losses. Have your clients build it when they don’t need it so it’s there when they do. You buy an umbrella when it’s sunny.

Review their insurance protection: Look at life, disability and other living benefits coverage. Make them dig out their group plan booklets and confirm coverage limits with their HR departments. Are there limitations or ceilings? What is covered and what is not? Pay attention to waiting periods for disability coverage as well as occupation clauses. If your client were sick or disabled, how would the family survive financially? No one likes doing this chore but the lack of planning in this area turns misfortune into tragedy.

Complete the estate plan: Have wills and power of attorney documents been prepared or updated? This is one area of financial planning where much is discussed and little done. The consequences for procrastination are enormous. Call the lawyer, book the appointment and complete this chore before summer comes. Repeat in five years.

Don’t be chicken: While some have flocked to the perceived safety of cash and fixed-income investments, your clients cannot financially survive three decades of rising costs on a fixed income. If they want to buy GICs and bonds now, determine how old they will be when they have to go back to work. After a bear market, it’s perfectly natural for clients to focus on capital preservation. Our job is to have them focused entirely on income preservation.

Note that all of these also apply to you. How’s your cash reserve? Have you looked at your insurance coverage? What happens to your family if you can’t work? What happens to your book of business? And are you brave enough to remain a believer in the long-term benefit of equities when all of your clients have lost money?

The time to address these issues is now—before the next bull market gets everyone’s attention.

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Harper fraze is a pseudonym. He is an investment advisor with a large Canadian-based financial services firm he cannot name.

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Harper Fraze