The discipline known as behavioural finance is gaining traction in the market but it should not be seen as an easy solution to achieving clients’ goals, the head of behavioural finance at Barclays Wealth said yesterday.

Behavioural finance, which employs insights from fields such as psychology and other disciplines to show how people often do not act as purely rational, omniscient creatures but in fact can be prone to biases, is gaining interest from investors eager to avoid past errors. (To view a recent interview with an academic on the subject, click here).

But while behavioural finance can show why certain traditional economics and finance models are incomplete or mistaken, it should not be just an excuse to attack conventional thinking and not suggest a better approach; nor should it be seen as a quick fix, as may be suggested by some popular books in recent years, said Greg Davies.

“Merely telling people that they are irrational isn’t good enough,” Davies told a conference, entitled “The Future of Private Banking” and organised by the Institute of Economic Affairs, a think tank.

Asked if psychometric profiling on clients – which Barclays Wealth has used for several years – had been applied to financial advisors themselves, Davies replied: “If you look at investment advisors, they tend to have a higher risk tolerance, and more composure [on market movements] than others. They also tend to come from a fairly small range of personalities.”

“If you want to come up with an appropriate decision, you need to have a person who is likely to challenge you rather than reinforce their view,” Davies said.

Davies said testing of clients' behaviours went beyond producing a scale of risk tolerances from low to high; instead, it should aim to capture whether a client was composed in the face of market shifts, their desire to get involved in decision-taking, willingness to delegate decision-making, expertise and belief in the benefits of skill.

Speaking at the same conference, Georges Hübner, chief scientific officer at Gambit Financial Solutions, a consultancy and financial services firm based in Belgium, said wealth managers must re-think how they oversee the risks in clients’ portfolios.

For example, rather than sticking to a particular asset allocation in a portfolio, managers should maintain a constant risk-return trade-off. “We know that asset classes have a risk exposure that changes over time and their correlations [to other assets] change over time. What we care about isn’t the asset class,” he said.

One problem, Hübner said, is that risk is not the same as say, market volatility. There are a variety of risks to contend with, such as value at risk (VAR), concentration risk (high exposure to a single part of a market) and counterparty risk, he said.