Managing Risk in Your Client Relationships

Posted by Stephanie Surette

March 25, 2015 at 1:30 PM

managing risk in your client relationshipsFor business owners, the ability to identify risk is critical. Some risks, like client complaints and regulatory reviews, are inherent to the financial services industry. And in some situations, such as managing risk in your client relationships, you'll find risks you can control and those, unfortunately, that you can't.

Whatever the risks, however, there are a few simple steps you can take to enhance your practice's level of risk management.

Determine What You Can Control

It's key to focus on what you can control. You can:

  • Choose with whom you do business.
  • Establish the parameters of your client relationships.
  • Set expectations—what clients can expect from you and what you expect from them.
  • Document your client review meetings, including any recommendations or investment decisions you discuss.

Thorough review meeting notes and accurate account documentation are more than just best practices; in today's regulatory environment, they're a necessity. Increasingly, FINRA and the SEC are scrutinizing areas such as sales to seniors, variable annuity suitability, and other recommendations to ensure that they are in line with clients' needs. An organized advisor who maintains detailed documentation of client interactions will be better prepared to weather both client complaints and regulatory audits, as you will have a tangible record that you can fall back on.

But as noted earlier, you can't control all risks. Outlined below are three scenarios that pose potential risks to your business and what you can do to mitigate these risks.

1) Clients Who Don't Follow Your Advice

Against your own recommendation, you submit a product application at the insistence of a client. 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 you can 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 details of the situation, 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's Actions Vs. 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 you can 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, you should prepare new paperwork and have it signed by the client.

3) 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 you can 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 e-mails 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 will face these and many other client-based risks. It's important to remember:

  • Trust your judgment.
  • Continually evaluate your client relationships.
  • Maintain open and ongoing communication with your clients.
  • Document these interactions.
  • Make sure that you and your clients are on the same page.

In the end, perhaps you are not right for them or they are not right for you. Sometimes, amicably ending your business relationship might be the best route for everyone.

How do you manage unresponsive clients or those who don't follow your advice? What other tips do you have for managing risk in your client relationships? Please share your thoughts below.

Tips for Conducting a Self-Audit of Your Practice

Topics: Compliance

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