Welcome to Financial Advisor IQ

Prepare Clients for the Known Unknowns

August 29, 2014

Donald Rumsfeld is a daring person to lift a phrase from when it comes to financial planning, but the controversial former U.S. Secretary of Defense did captivate the world with his attempt to address how leaders deal with uncertainty. Although Rumsfeld himself isn’t mentioned, his point about “known unknowns” is the heart of a recent blog by the wealth-management firm R.W. Rogé & Company.

Clients often mistake the advisor’s role as something of a psychic, according to the blog. Winners supposedly see where markets and clients’ lives are headed, so they build portfolios and plans to capitalize on this clarity. Not only is that false, but clients actually value advisors for doing something rather different. In truth, the blog asserts, clients appreciate how advisors position their finances to withstand outcomes that may or may not occur at any given time.

Good advisors take three steps before contemplating scenarios they’re aware they cannot be sure of, according to the blog. First they address the basics for clients. These include an emergency fund, insurance, income statements and balance sheets. Then advisors study how cash flow may affect retirement. This involves taxes and capital gains. Finally they round out the picture by calculating things like education funding and estate planning.

Enter the known unknowns. Monte Carlo analyses can show how portfolios would look in any number of good or bad situations, or even if the client suffers a couple of horrible years right after retirement. That’s not enough, the blog states. Advisors who are really on their game will admit to clients that there’s no way to predict more-specific situations, such as a relative needing to move in with them. An adult daughter with kids might get divorced. A single, middle-aged son might lose his job. A grandparent might not have enough money to pay for full-time caregivers.

Advisors can, however, present financial solutions beforehand, in case any of these misfortunes occur. That requires knowing clients almost as well as they know themselves. (Invoking Rumsfeld during these discussions is optional.)

By Chris Latham
  • To read the R.W. Rogé & Company article cited in this story, click here.