Psychology of investing

Tests become added tool to customize investments


Published: Sunday, February 1, 2004 at 6:01 a.m.
Last Modified: Saturday, January 31, 2004 at 10:03 p.m.

The man at J. Stephen Putnam's office said he was willing to accept a high risk in order to make a substantial return on his investments.

But after filling out a "money personality" survey, the man was revealed to be a "safety player," someone not comfortable with big risks. He ended up turning to safer bets, bonds and stocks on the S&P 500 Index.

Putnam is an investment adviser and the executive vice president of Raymond James Financial Inc., based in St. Petersburg.

He administers money personality tests to most of his new clients to help him understand their attitudes about investing and their emotional connections to money.

Putnam is not alone.

Thousands of financial advisers use personality tests to measure up new clients. Many more ask probing, personal questions that a generation ago would have been off limits.

Now a new field called "behavioral finance" is emerging that promises to go a step further, helping to unlock the mysteries of why we make certain financial decisions even when careful analysis recommends different strategies.

"A lot of financial planners are trying to probe a little bit more than they have done in the past, trying to find out what people really mean when they talk about money issues and talk about overspending," said Nan Mead, a spokeswoman for the National Endowment for Financial Education, a consumer education group in Denver, Colo. "The more we understand the psychological factors behind why we make decisions the better we can manage our money."

The pioneer

Twenty-two years ago, financial-psychology pioneer Kathleen Gurney was working as a professor of psychological research at the University of Southern California.

She began to study financial psychology after consulting a financial adviser about her own investments. Instead of gaining a clear insight into her financial prospects, she left the meeting feeling uncertain about her choices.

Why, she wondered, was she so anxious and nervous?

After six years of study and polling tens of thousands of people about their attitudes toward money, Gurney developed a 28-question survey called the Moneymax Profiling System to identify a person's "money personality."

In 1986, she wrote a book, "Your Money Personality: What It Is and How You Can Profit From It" (Doubleday, reissued 1997, $26.95), and started hitting the lecture circuit and appearing on radio and TV shows.

Now she and her husband, Mel Srybnik, run the Financial Psychology Corp. - www.kathleengurney.com - and divide their time between Sarasota and the south of France.

They operate the Center for Family Finance to help people with money management and life planning.

The couple said financial decisions are often rooted in emotions. Understanding the psychology behind our financial choices can better guide us in future decisions.

The idea is gaining support.

About 25,000 financial advisers have used the couple's Moneymax survey as a way to assess their clients and help train advisers. Raymond James, GE Financial, LPL Financial and American Express Financial Advisors administer the test, to name a few.

"In dealing with clients, it's a pretty good predictor when it comes to what they do and why they do it," Putnam said.

The test

The test takes about 10 minutes.

The test-taker's responses are keyed into a computer, then seconds later out pops a personality type - from "high rollers," who walk a financial tightrope, to "producers," who work hard but can't seem to get ahead.

Test-takers fall into nine distinct personality types, although many can share traits, said Gurney, who, like her husband, is an entrepreneur type.

The test "offers insights into your strengths and pitfalls, and once you are aware of these pitfalls, you can do something about it," she said.

Mead said advisers find the money personality tests useful when dealing with new clients for whom they're preparing financial plans. The tests can help an adviser develop a client profile and investment pattern, which ultimately can reduce the adviser's liability.

Research by Gurney and several economists and psychologists shows that people sometimes make financial decisions based on their perceptions about investments and emotional connections to money.

Experiences and the attitudes of people around them - their parents, for example - can further impact financial decision making.

Mead said a new field called behavioral finance is emerging to help planners dig deeper into the characteristics of their clients' investment choices.

Harold Evensky, the author of "Wealth Management: The Financial Advisor's Guide to Investing and Managing Your Client's Assets" (McGraw-Hill, 1996, $55) and the chairman of a financial planning firm, said he uses behavioral finance to ultimately hand over to his clients a greater role in their investment decisions.

"We help to empower them to understand what the trade-offs are in making a particular choice," Evensky said.

For example, an investor may own many shares of a single stock and resist selling it. Evensky said he would get them to understand why they're heavily invested in that company - perhaps their grandfather worked there - and what are the risks.

A financial adviser could simply tell the investor to sell the stock and diversify. But if the investor understands the risks and makes that decision, he or she will be happier with it, Evensky said.

Evensky expects that ultimately financial planners will employ psychologists to help them prepare comprehensive plans for their clients. The erosion of public confidence in financial institutions could further galvanize planners to develop close ties to their clients.

"More than educating our clients, we want to help to let themselves make those (investment) decisions," he said. "No question about it, behavioral finance is gaining a great deal of cachet and publicity. Planners are getting much more comfortable about it."

Rich Shopes writes for the Herald-Tribune in Sarasota.

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