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Towards augmented advice: better qualify your clients' savings profile
Today, the "unicorns" of Tech, whether they are established like Paypal or still young like Deliveroo, swear by knowledge and customer relations. The famous personae (customer profiles) are at the center of all attention.
And for good reason, Data has transformed the world of commerce, with the triumph of e-commerce. Data, and in particular customer data, is now "disrupting" the service sectors with ever more advanced phygital experiences.
In the banking sector, these profound changes are reflected in the advent of augmented advice. The latter relies on data to refine the understanding of investor profiles. As a result, competition between financial institutions is being renewed, notably through new types of products such as those focused on ESG (Environmental, Social and Governance). The future will be "Client Centric".
The first part of this article will help you understand how behavioral finance and predictive analytics are improving the qualification of profiles and facilitating the support of advisors. The second part will present two innovative trends that are influencing product proposals: ESG and Design Sprint.
Risk profiles in 2022
"Investment is rational, money is emotional."
The above sentence is taken from the preface of the study Profiling and risk tolerance: perspectives for wealth managers [1], led by the Chartered Financial Analyst Institute Research Foundation. It summarizes a major issue in the financial industry: taking into account the impact of psychology in investments.
Psychology played its part in the 2008 crisis, when $15 trillion was lost [2]. The regulators have drawn the consequences. The European Union has put in place the MiFID 2 (Markets in Financial Instruments Directive) legislative framework, while in the United States FINRA (the Financial Markets Regulatory Authority) has strengthened investor protection measures.
For financial institutions, the challenge is to define the best equation between client profile and product recommendation. In this perspective, article 25 of MiFID gives the following indication:
"When providing investment advice, an institution shall obtain the necessary information related to its client's own knowledge and experience in a specific investment area for a type of product [...] in order for the institution to recommend the financial services that will be most appropriate, in particular with regard to the client's risk tolerance and capacity to bear losses" [3].
In this context, the AMF (Autorité des Marchés Financiers) proposes a categorization of risk levels associated with the different client profiles [4], with ranges from 1 to 7
- 1 to 2: safe profile ;
- 1.5 to : conservative profile;
- 2 to 4: balanced profile;
- 2.5 to 5.5: dynamic profile;
- 5.5 to 7: offensive profile.
These different profiles are established by the establishments on the basis of questionnaires collecting client information. Hence the growing importance of new digital tools to facilitate data collection (but also the customer experience) and to reinforce the practice of advice.
How risk profiling is becoming more accurate, thanks to behavioral finance
The study conducted by the CFA Institute Research Foundation shows how finance "has learned from psychology in the last four decades, identifying the behavioral biases of the so-called rational investor" [5].
Why the phrase "so-called rational investor"? Because CFA reveals that emotional (feelings and intuitions) and cognitive (intellectualizations) biases explain the behaviors of certain profiles, especially when they are at the extremes. We knew that emotions and investment do not always mix. Research shows that rational biases can also be at the origin of unproductive decision-making.
This work also suggests that "regardless of the quality of the questionnaire, advisors should always be aware that in the "heat of the moment" clients tend to deviate from their risk profile" [6].
To enlighten advisors, Michael Pompian, author of the book Behavioral Finance and the Investor Type, offers in the chapter "Risk Profiling through the Lens of Behavioral Finance", a classification of the many psychological biases influencing investor behavior:
- Conservative profile => Low-risk tolerance. Mainly emotional biases. Types of bias: loss aversion bias, status quo bias, ability bias, anchoring bias, mental categorization bias.
- Moderate profile => Medium risk tolerance. Mainly cognitive biases. Types of bias: extrapolation bias, hindsight bias, contextualization bias, cognitive dissonance bias, regret aversion bias.
- Growth profile => High-risk tolerance. Mainly cognitive biases. Types of bias: conservatism bias, availability bias, representation bias, personal attribution bias.
- Aggressive profile => Very high-risk tolerance. Mainly emotional bias. Types of biases: overconfidence bias, self-control bias, affinity bias, outcome bias, the illusion of control bias.
(You can find a detailed description of the biases mentioned on page 25 of the study [7])
What does this research tell us?
The central role of the advisor. The advisor can, through his expertise, guide the client with respect to the financial risks inherent to the different markets. But he can also guide him in his personal reactions to economic fluctuations.
Augmented advice makes this quality of relationship possible by using the latest digital tools, such as predictive and behavioral analysis, to collect even more precise customer data. These same tools make communication with the customer more fluid, thanks to omnichannel. Through a hybrid approach combining data and human expertise, the advisor asserts his or her role of support, which is essential in the proposal of investment products.
Personalized advice is the culmination of this value chain. The objective is to offer services that are increasingly better adapted to each client's profile. New types of investments, such as ESG, are a perfect example of this evolution. This will be discussed in the second part of this article.
Proposal of products adapted to the profile: which trends for the future?
When ESG sheds light on the future of consulting
In the space of two decades, a multitude of words related to issues for the planet and society have emerged: Sustainability, climate change and global warming, carbon neutrality, inclusiveness, and privacy. Following this trend, the acronym ESG has taken hold in the financial sector.
The digital age is accompanied by a generalized awareness. People now want these issues to be exposed. Whether it is in the news, in elections, in the workplace, but also in their investments.
In its annual Global Wealth Report [8], Ernst & Young summarizes the current period in two sentences: "Customer views are changing rapidly. Can institutions adapt?"
The report presents two figures highlighting the magnitude of this socio-economic phenomenon. Regarding their wealth:
- 78% of clients now have sustainability-related goals.
- 62% of customers want to make a personal contribution to society.
For financial institutions, the question is no longer whether ESG will be part of their products, but which types of ESG products best meet their clients' expectations.
Indeed, the Ernst & Young study shows that a reallocation of assets is underway, with 76% of clients believing that it is important to integrate ESG criteria into their portfolio.
Nevertheless, orientations can differ significantly, depending on the country. For example, the issue of deforestation is particularly relevant in South American countries.
The orientations also vary according to the cultural characteristics of each person. Certain categories of the population will be more sensitive to environmental causes than social ones and vice versa.
If we look at social issues, individual preferences emerge between diversity and inclusion, data protection, or human rights. Each client will have their priorities according to their own economic and cultural background.
Augmented consulting responds to this evolution by offering digital control of customer knowledge, notably through predictive analysis. But also (and above all), it offers a hybrid framework to the advisor. It allows the advisor to deepen the relationship with the customer in order to better understand him or her and, ultimately, to propose convincing personalized offers.
In Europe, the new MiFID 2 regulations include investors' preferences in terms of sustainability, which must now be integrated throughout the advisory and financial management stages.
In this context, Gambit Financial Solutions is already offering tailored solutions for an ESG-compliant client journey.
Product Proposition: How the Design Sprint is transforming the development of new Fintech solutions
In 2011, in an article that became famous, Marc Andreesen (one of the most famous tech investors on the planet) explained: "why software is eating the world" [9].
Ten years later, the phenomenal evolution of digital seems to prove him right. If computers are the tools of this transformation, it is the collective intelligence that is the key to these incredible results.
Google knows this better than anyone, as the firm is at the origin of an approach that is now at the heart of every product development in Silicon Valley: the Design Sprint. One of Google's star designers, Jake Knapp, has actually written one of the Bestsellers in this field, his title summarizing the prodigious progress of the Design Sprint:
"Sprint: how to solve big problems and test new ideas in just five days."[10]
That says it all. That's why the software industry has gone from huge projects of indefinite duration involving thousands of engineers in the 1980s to micro-teams that can move mountains and create the best products of the Internet age in record time.
This revolution was born from very simple ideas:
- Do user testing and take every bit of feedback into account;
- Test related ideas very quickly;
- Accelerate the decision-making process;
- Prototype and validate;
- Avoid high development costs.
Do you want to improve your consulting offer? Take advantage of the Design Sprint approach:
Gambit Financial Solution offers Design Sprint workshops, to foster innovation and the development of customized solutions for each client.
The workshops take place with members of the client company, coordinators, and a panel of internal and external experts. A few days are enough to validate a strategic direction or to initiate the creation of a new solution. Make an appointment with our specialized team.
[1] https://www.cfainstitute.org/-/media/documents/book/rf-publication/2018/risk_compilation_2018.ashx
[2] https://www.cfainstitute.org/-/media/documents/book/rf-publication/2018/risk_compilation_2018.ashx (p.30)
[5][6][7] https://www.cfainstitute.org/-/media/documents/book/rf-publication/2018/risk_compilation_2018.ashx (p.12)
[9] https://a16z.com/2011/08/20/why-software-is-eating-the-world/