As a financial advisor, the ability to identify potential risks to your firm is critical. Some risks, like client complaints and regulatory reviews, are inherent in the financial services industry. And when it comes to client relationship management, you’ll find risks you can control, as well as those you can’t.
Fortunately, there are a few simple steps you can take to be more successful in managing risk in your client relationships:
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Choose with whom you do business.
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Establish the parameters of your client relationships.
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Set expectations—what clients can expect from you and what you expect from them.
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Document your client review meetings, including any recommendations or investment decisions you discuss.
Following these steps can do a lot to protect your practice against known risks. But what about situations you haven’t anticipated? Despite having taken the above precautions, it’s possible you’ll face client interactions that put your business at risk. To help you prepare for potential challenges, outlined below are four scenarios that pose risks to your firm and what you can do to mitigate them.
1) Clients Who Don’t Follow Your Advice
Against your own recommendation, you submit a product application at the insistence of a client. The product does not perform well, and the client eventually sues you and wins. The verdict: you didn’t try hard enough to stop the client from submitting the application. (This scenario is based on an actual lawsuit.)
What can you do? Document your interactions with your clients. If a client is persistent and refuses to take your advice, send a follow-up letter outlining why you disagree with his or her actions.
The stubborn client situation may present itself in various forms. A client may choose to engage in excessive trading or repeatedly take distributions against your recommendations. Whatever the situation entails, you should respond by engaging your client and clearly documenting your objections. Use these opportunities to reinforce your business model, the expectations set at account inception, and the account’s goals and objectives. It may be that your management is appropriate for only a portion of the client’s assets or that client suitability has changed.
When a client continually refuses to follow your advice, it might be time to part ways. A one-off unsolicited or speculative transaction may not necessarily be of concern, especially if your client’s history and circumstances explain the activity. If the client continues to resist your advice, however, even the most detailed documentation may fail to protect your business. Some clients are dangers to themselves; do not allow their decisions to hurt your business.
2) Client Actions That Don’t Align with Account Objectives
A new client describes himself as a moderate investor with a long-term time horizon and agrees to open an account with a balanced portfolio allocation. Soon after the account is established, however, the client instructs you to invest the majority of his portfolio in penny stocks and other speculative investments.
What can you do? Talk to your client and try to find out why his instructions have changed. In this discussion, determine if the account objective needs to be modified or if the client would be better off with a brokerage account instead of a managed account (or vice versa).
In many cases, a portfolio may not match the account’s stated objectives for a particular reason for a short period of time. For example, a balanced allocation moves to a more conservative or more liquid allocation pending a purchase of real estate. Again, even in these short-term instances, any discussion or investment decision that affects the portfolio should be documented to mitigate potential liability. If an account allocation deviates from the stated investment objectives beyond a short-term period, an update to the account’s suitability should be made immediately.
3) Clients Who Want an All-in-One Advisor
An existing client comes to you looking for investment tax analysis. You remind her of the services you offer, noting that tax analysis is not one of them, but the client still insists you help her with a non-securities-related issue. She feels comfortable with the level of service you’ve provided in the past and finds searching for a tax specialist overwhelming.
What can you do? If you are willing to accommodate a service outside the normal scope of your brokerage and/or advisory business, provide the proper notification to your firm prior to engaging in such activity. In order to meet regulatory rules and obligations, your firm may need to record this as an outside business activity. If you are an IAR, a service such as investment tax analysis may be included in your firm’s advisory programs, and specific client agreements and disclosures may be required.
It is important to clearly distinguish how this activity is different from the other services you’ve provided to the client and to continue to document your conversations. If you provide brokerage services or asset management or are engaging in an outside activity, such distinctions may help you and your clients remember what capacity you are acting under. If you choose not to assist with the requested additional services, this may be an opportunity to refer your client to a trusted acquaintance in the proper industry.
4) Unresponsive Clients
You attempt to contact a client to recommend liquidating one of the client’s holdings. The client doesn’t respond to your repeated requests; as a result, the holding goes unsold. The position drops substantially, and the client submits a complaint to your broker/dealer.
What can you do? Documenting your client communications is critical to managing assets, especially in a hectic economic environment. Be sure to document your attempts to get in touch with an unresponsive client by maintaining copies of letters and emails you send.
To avoid the unresponsive client scenario, establish reasonable expectations for communicating with clients from the get-go. Determining the client’s preferred level and manner of contact at the earliest stages of the relationship will serve you well in the long run, and it may help you detect any problems.
While the above risk scenario involves a brokerage account, unresponsive advisory clients are also a concern. Depending on your firm’s policies, you may be required to conduct periodic—even annual—review meetings for these clients. Your ability to manage the account effectively is constrained if clients are unwilling to discuss their current financial circumstances and account expectations. If a client is unresponsive, consider other options. You may decide that the client would be better served by a different type of account. Based on the additional risk this behavior poses, you may even find that it’s in your best interest to terminate the relationship.
Follow Your Instincts
Any successful practice may face these and many other client-based risks. As such, it’s important to remember to do the following:
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Trust your judgment.
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Continually evaluate your client relationships.
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Maintain open and ongoing communication with your clients.
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Document your interactions.
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Ensure that you and your clients are always on the same page.
If you notice any signs of risk in your client relationships, it’s essential that you confront them sooner rather than later—for the sake of both your clients and your business. Starting a conversation with your clients about any concerns that have surfaced can be immensely helpful in clearing up potential problems. In the end, however, it may be that you’re simply not the right fit for certain clients, or that they are not right for you. Sometimes, amicably ending your business relationship turns out to be the best option for everyone.
Editor’s Note: This post was originally published in March 2015, but we’ve updated it to bring you more relevant and timely information.
