Editor's note: This is the first in a series of stories that will look at how the advice industry is getting ready for the next market correction.
Proactive advisers have been taking steps in recent months to equip clients with the mental resilience to handle a 10% to 20% market correction.
They're going beyond the usual reminders that dips are part of the natural equities cycle and posing direct questions, such as, "How will you react when your $1 million portfolio loses $100,000?"
They're also describing the U.S. equity markets as "very highly valued" and telling clients rather bluntly that the low level of stock market volatility over the past 15 months portends a pullback over the next year.
"Instead of sending emails when the market is collapsing to calm people's fears, we're trying to get ahead of the curve," said Gerry Klingman, founder of
Klingman & Associates. "We are trying to prepare clients to have the right behavior."
During the first five years after the 2008 economic crisis, many investors remained anxious about equity investments and advisers had to coax these clients to invest their stockpiles of cash. But now they're pretty used to some heady returns.
With U.S. equities enjoying eight years of a bull market,
some advisers are trying to jolt clients back to reality before the next downturn to make sure they don't panic and seek to sell at a low point or go elsewhere for financial guidance.
More and more advisers have taken this proactive approach since the post-election market rally.
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"When the market's been going up for eight years, investors at first blush might have a nonchalant reaction to theoretical talk of a correction," said Andrew Crowell, vice chairman of regional brokerage firm
D.A. Davidson's Wealth Management Group.
It can make a difference, though, when the inevitable occurs, he said.
Preparing clients for the scary headlines they'll see in newspapers and on television and the declines they'll see in their account statements can help investors feel more empowered, and less fearful.
"It can prevent them from feeling boxed in, or like they've been caught unaware," Mr. Crowell said.
Some clients already feel anxious about the market being overvalued, primarily because the chaos they hear coming out of Washington doesn't seem to match up with the equities market's seeming contentment. In fact, investors
acted on their fears last Wednesday, with the Dow Jones Industrial Average falling 370 points.
The index, though, was rising again by Thursday morning.
Dave Yeske, co-founder of
Yeske Buie, said his firm has been preparing clients to see a short-term drop in their portfolios when U.S. equity markets correct, even though most clients only have about 7% of their portfolios invested in Standard & Poor's 500 stock index.
He explains to them that whatever happens to blue chip stocks, it's going to have an impact on the rest of the world, but only in the short run.
"We emphasize that when this domino falls, they're all going to fall, and I think clients are hearing that," he said. "Hopefully they're also hearing that their portfolio is so broadly diversified and skewed to undervalued markets and segments that a short-term fall isn't going to have a big implication."
Not all advisers think it's appropriate to be preparing clients for a market correction more than just the usual warnings.
Some believe advisers who talk too much about a pending correction could be sparking more concern than warranted.
"They may be ratcheting up their client's anxiety level," said Chris Cordaro, managing partner and chief executive of
RegentAtlantic. "In counseling our advisers, I say that the adviser has to be the calmest person in the room."
His firm has been telling clients in their regular quarterly webinars that the U.S. equity markets are "pretty richly valued," but also explaining that other foreign markets are fairly valued, and some, like emerging markets, are undervalued.
In speaking with clients, advisers should not be getting too specific about what they believe will spark a correction or even describing all the market indicators that they see as foretelling one, according to practice management experts.
"You don't want to look like a prognosticator," said John Anderson, managing director,
SEI Investments Co.
Mr. Anderson said more advisers should take advantage of the markets being smooth right now and focus on their relationships with their clients, including prepping them on how to react to a 10% or 20% decline.
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In addition to preparing clients for a market drop, advisers should have a game plan for themselves and their staff.
"Advisers should think about what their reaction is going to be when the inevitable occurs," Mr. Anderson said.
They should create a communication process "so they're not scrambling" and have certain clients identified who are likely to be most worried and need the most hand-holding.
In discussions with clients, most proactive advisers are letting clients know that the market signs they see do not support equities falling as steep as during the most recent recession, a sentiment that may help steady those who remember how the initial market hit felt in 2008.
"Getting clients to stick to their plans is where we, as advisers, earn our stripes," Mr. Klingman said.
