MasterMind is a joint initiative between Sundaram Mutual and Wealth Forum, in which we offer insights into how you can become a more effective advisor to your clients, by understanding them better, understanding how they think, understanding how they take financial decisions. This gateway into your clients' minds we believe will help you relate better to them, communicate more effectively with them and thus serve them better. Mastering your client's mind is your gateway to becoming a more successful advisor. Its not for nothing that they say, "Its all in the mind!"

In this article, Ranjit Dani of Think Consultants - one of the most successful financial planning firms in the country, shares his insights into how he explains dry and often boring concepts of risk, risk adjusted returns, asset allocation using non-correlated assets and other such financial planning concepts to clients in a manner they can more easily relate to. Helping clients relate to what you are explaining is often the first and most important step. Once they relate to it, they are more attentive and willing to absorb the finer details. Read on as Ranjit shares with us the way he creates gateways into his clients' minds.

Two of the biggest tasks for a financial planner to help clients successfully meet their financial goals are :

1. Help clients understand and embrace the right proportion of risk

2. Help clients understand the merits of proper asset allocation

It is quite often a big challenge to help clients understand why risk is necessary in their portfolios and then to understand how much risk is required, when is risk necessary and when is risk unnecessary. A theoretical discussion of various risk-return pay-off scenarios filled with financial data and graphs is unlikely to help you do this job. And yet, unless you get this done properly, you can't really get onto asset allocation and portfolio construction related discussions.

Then, when you get onto asset allocation discussions, comes challenge number two. Its easy for us planners to get into a discussion on correlation of returns across asset classes, betas of various sectors within equities and then showcase how asset allocation by blending non-correlated assets can help deliver a superior risk adjusted return. Try reciting this sentence to a techie client or a businessman client who have little or no interest in financial markets -and you will realize what an uphill struggle it is to explain why asset allocation is critical to financial success.

I have found over time that a more right brained approach works better with many clients in helping them understand what I am trying to communicate, as opposed to a left brained pitch, which may make me sound very knowledgeable, but may not cut much ice with clients. Its important for clients to be able to relate to the concepts of risk in portfolios and asset allocation, by using analogies that they can more readily relate to. I have found cricket to be my biggest ally in these circumstances.

How much risk should I take?

I try to help clients visualize a one day match. Your opponents have put runs on the board - its your team's turn to bat against that score and beat it. When you go in to bat, if your asking rate is 6, you know that singles with an occasional boundary should help you reach your target. But, if you have played too cautiously for too long and then got out, the next batsman comes to the crease with an asking rate of say 8. He knows from the start of his innings that singles won't do the job for him. He needs at least one boundary or a six in every over and then a few singles too. He has to bat with a view that at least one ball every over has to reach the boundary ropes. If he has to try some risky shots, so be it. He has to take calculated risks. He can't be reckless and throw his wicket away, yet he can't just tuck away balls for singles all the time.

In a similar way, when casting a portfolio, financial planners keep the target (your financial goals) in mind, work out the required run rate (the rate of return that your savings have to fetch over time) and recommend a batting strategy that is designed to help you reach the target. If singles can do the job, take less risks and work the field for those singles. If the asking rate is a little higher, you need to take some calculated risks, because singles alone won't do. That's where an element of equity comes into the portfolio. What proportion of safety and calculated risks one needs to take is therefore dependent on the asking rate required - exactly as it is in a one day match.

Need, ability and willingness to take risk

It is very important for us to help clients to distinguish between need, ability and willingness to take risk. This understanding is critical to help them through market volatility and towards successfully achieving their financial goals.

Take a situation where Virender Sehwag is batting fluently at one end. But at the other end, is your last batsman in - a rank tail ender. It's a test match, your team has 40 runs more to get to win and the mandatory overs are just starting. There's enough time and overs - but no more wickets to play with. One batsman gets out, and the game's up. Now, does Sehwag have the ability to hit a six at this stage? No doubt. Does he have the willingness to do so? Always! But, is there a need to do this? No! If he hits one high up anyway and it clears the fence, he is a hero. If it lands into the safe hands of a fielder, a whole nation will be cursing him for his foolishness.

The same two batsmen on another day are playing the last over of a T20 innings. Their team is 9 wickets down. The last over is starting, Sehwag on strike, 15 runs required from it. Sehwag swings at the first ball and misses. Next ball - he swings again, and connects. If the ball sails over the ropes, he is a hero. If it falls into the hands of a fielder, few would curse him - he had to take that risk, pity it didn't come off.

Taking an undue risk just because you have the ability and willingness to do so is not the wisest decision. Risk is best taken when there is a confluence of need, ability and willingness.

This situation is the exact opposite of what we talked about earlier, where we were trying to encourage clients to take on some risk in order to meet their goals. Helping clients see both sides of the spectrum helps them understand the contours of risk much better.

Asset allocation is like cricket team selection

How do you explain the merits of asset allocation to clients? Why diversify? What is the importance of each asset class in their portfolio? Cricket again is a big help to me for this. I tell my clients to think of the 2010 Indian T-20 team for the Champions Trophy. We had only big hitters in the team - each one capable of out-hitting the other. You would have thought this is clearly the best team for this format. Yet, the team couldn't progress beyond the second stage. Now, think of IPL. CSK and Mumbai Indians are seen as the strongest because they have the best balance in their teams. RCB has a galaxy of big hitters, but they don't do as well as CSK and MI. MI showed that Sachin playing a sheet anchor role even in a T-20, enables the team to do consistently well. CSK depends on Badrinath to bail them out when their big hitters have an off day. A team that has a balance between big hitters, steady batsmen, wicket taking bowlers and economical bowlers is one that wins most often. You never know which quality is most required at a given moment in a match - but whichever quality is required, you want an expert in that aspect in your team.

Just the same way, your portfolio must have a good blend of asset classes, each of which has its own risk and return characteristics. You never know which asset class may be the star next year or in the next 6 months - but do want to own all relevant asset classes in reasonable proportions. A winning portfolio is one that has some experts for every pitch and not a team loaded with players who can excel only on one type of pitch.

All content in MasterMind is created by Wealth Forum and should not be construed as an opinion of Sundaram Mutual Fund.

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