Behavioral Finance in Investment Advice: How to use Client Psychology to make better Decisions

A customer calls, his voice strained. The stock market has plummeted and he wants to sell immediately. You know his long-term strategy, you know that selling now would be wrong. But rational arguments bounce off. Why? Because emotions have taken over. Behavioral finance provides the answer and shows you how to master such situations. In this article, you will find out which psychological biases influence investment decisions and how you as a financial advisor can better understand, support and retain your clients in the long term.

The most important facts at a glance

• Behavioral finance explains why even well-informed investors make irrational decisions: under pressure, feelings often prevail over arguments
• Cognitive biases such as loss aversion and overconfidence influence investment decisions, and the cost of overconfidence shows up in brokerage account data
• Financial advisors who understand these biases can give clients more focused support and help them avoid costly mistakes
• Systematic investment strategies such as the Everon Portfolio Engine follow fixed, quantitative rules and leave less room for spontaneous decisions
• Discussion guides help advisors to recognise biases in daily practice and address them constructively

What is behavioral finance?

Behavioral finance combines psychology with finance. The discipline examines how human emotions, cognitive biases and social influences shape investment decisions. Unlike traditional financial theories, which assume that market participants act rationally, behavioral finance shows that people often make decisions irrationally.

The foundations were laid by psychologists Daniel Kahneman and Amos Tversky in the 1970s. Their research proved that systematic errors in thinking, known as biases, distort our judgment. Richard Thaler later developed these findings further and made behavioral finance a recognised field of research.

This insight is key for financial advisors. Those who understand why clients act against their own interests can provide better advice. Market bubbles, crashes and irrational price jumps can be explained by behavioral finance. Knowledge of these mechanisms creates trust and strengthens the relationship between advisor and client in the long term.

The 7 most common biases in investment advice

Psychological biases are not uncommon. They affect almost every investor - regardless of experience or knowledge. It is crucial for financial advisors to recognise these patterns and classify them correctly.

1. Loss aversion - the fear of losses

Psychologically, losses hurt about twice as much as gains are pleasing. This loss aversion leads investors to hold on to falling positions in the hope of recovery. Selling would mean admitting the loss in real terms, an emotionally stressful experience. In practice, you often see this: a client holds on to a losing stock for years, even though he has long since sold winning positions.

2. Overconfidence bias - the overestimation of one’s own abilities

In the FINRA Investor Education Foundation’s National Financial Capability Study, conducted in 2021 among 2,824 US investors, 64 percent rated their investment knowledge as high. On the knowledge quiz in the same survey, respondents averaged 4.7 correct answers out of 10, and the report describes their view of their own knowledge as positively biased. This overconfidence can lead to risky behavior: clients ignore diversification, trade too frequently or try to time the market. Brad Barber and Terrance Odean measured what frequent trading costs in the Quarterly Journal of Economics (2001), using 1991 to 1997 account data for more than 35,000 households at a US discount brokerage. Their starting point was psychological research showing that men are more overconfident than women in financial matters, so they compared the two groups: men traded 45 percent more than women, and trading cut their net returns by 2.65 percentage points a year, against 1.72 percentage points for women.

3. Herd mentality - the herd behavior

People follow the lead of others, especially in uncertain situations. This herd mentality explains why investors enter overheated markets or sell in panic when everyone is selling.

4. Confirmation bias - the confirmation error

Investors prefer to look for information that supports their existing opinion. Facts to the contrary are ignored. A customer who is convinced of a share only reads positive analyses. Confirmation bias prevents an objective evaluation and leads to one-sided portfolios.

5. Recency bias - the distortion of current events

Current events are given too much weight, historical data too little. After a market slump, many clients expect further losses, because the latest slump shapes their view more than the long price history does. This recency bias leads to short-term, emotional decisions instead of long-term planning.

6. Anchoring - the anchor effect

People fixate on irrelevant reference values. A classic example: a customer wants to buy a share “again at the old price of CHF 100”, even though the fundamental data has changed massively. The original purchase price serves as an anchor that has no rational significance.

7. Status quo bias - inertia

Changes are avoided even if they would make sense. Clients ignore rebalancing recommendations because they would rather do nothing. This inertia can impair performance in the long term and increase risks.

Effects of biases on investment performance

The consequences of emotional decisions show up in returns. Barber and Odean’s study, cited above, found that frequent trading cut men’s net returns by 2.65 percentage points a year. Market timing and panic selling can also reduce returns: selling after a price drop turns a paper loss into a realised one and leaves the investor out of the market if prices recover.

Over decades, these shortfalls compound. In Switzerland, that includes Pillar 3a and vested benefits accounts, which are often held for many years.

Typical mistakes include

• Selling during market slumps out of fear
• Entering overheated markets out of greed
• Shifting the portfolio too frequently
• Concentrating on a few positions instead of diversification

Recognising these patterns can help avoid typical mistakes.

How financial advisors can recognise biases

Identifying biases is an art. It requires active listening and a trained eye for emotional signals. Pay attention to your customers’ language. Phrases such as “I’m afraid that…” or “Everyone is buying now…” are warning signals.

Ask specific questions:

• What is your biggest concern about this investment?
• Have you discussed this decision with anyone?
• What information has influenced your opinion?
• How would you advise a friend in this situation?

A mental checklist helps during the conversation:

• Is the client talking about short-term market movements? → Possible recency bias
• Is he referring to acquaintances or media reports? → Indication of herd mentality
• Does he ignore risks or is overly optimistic? → Overconfidence
• Does he not want to sell despite clear losses? → Loss aversion

The earlier you recognise these patterns, the better you can react.

Communication strategies: How to address customer biases

Addressing biases is tricky. Nobody likes to hear that they are acting irrationally. The trick is to make customers understand without snubbing them.

Empathy before facts

Show understanding for your customer’s feelings. Only when they feel understood will they be prepared to think rationally. For example, say: “I understand that the current market situation is unsettling. Many investors feel the same way.”

Ask instead of lecturing

Use the Socratic method. Lead customers to their own insights by asking questions. Example: “What advice would you give to a friend in this situation?” or “What are your long-term goals with this investment?”

Emphasise the long-term perspective

Shift the focus from daily fluctuations to long-term goals. This is particularly effective in the Swiss context: “Your Pillar 3a has an investment horizon of 20 years. Short-term fluctuations are a normal part of equity investing. Your strategy is built for that horizon, not for today’s price.”

Use data and facts

Show historical data, such as how long earlier price slumps in a broad index lasted, and point out that past slumps are no guide to future ones. Facts provide orientation and can reduce fear. However, avoid overwhelming the customer with figures.

Set rules before the crisis

Explain how systematic approaches guard against emotional mistakes. Rebalancing strategies or automatic savings plans make impulsive decisions less likely. “A systematic approach sets the rules before the next crisis arrives. Then the mood of the moment has less say.”

Systematic strategies against emotional errors

A clearly defined system helps counter biases. Those who stick to fixed rules are less likely to make emotional mistakes. Five approaches at a glance:

1. Automatic rebalancing

Portfolios are adjusted according to fixed rules. Overweight positions are reduced, underweight ones topped up. This goes against your gut feeling. Automatic rebalancing replaces market timing attempts with a fixed rule and keeps the risk profile close to the agreed strategy.

2. Rule-based stock selection

Quantitative models instead of subjective assessments. The Everon Portfolio Engine, for example, uses a multifactor approach. Factors such as momentum, quality and value are systematically evaluated.

3. Dollar-cost averaging (DCA)

Regular deposits regardless of the market level. This method is well suited to Pillar 3a. Customers buy fewer units when prices are high and more when they are low. This results in a favourable average price in the long term, without timing stress.

4. Long-term investment horizons

The longer the time horizon, the less important short-term fluctuations are. The Swiss pension system with its three pillars is a good example of this. If you have 20 or 30 years, you can take a relaxed approach to volatility.

5. Transparent communication

Customers who understand the strategy remain calmer. The Everon app provides a daily portfolio overview and explains decisions transparently. Understanding reduces fear and builds trust.

Everon’s approach: Technology against behavioral biases

Everon was founded with a clear goal: To help people make the right financial decisions. The company combines Swiss tradition with innovation and relies on a systematic, rule-based approach.

The proprietary Everon Portfolio Engine uses quantitative methods for stock selection. Factors such as momentum, quality and value are evaluated according to fixed criteria. Individual judgment calls in the portfolio take a back seat. This leaves less room for behavioral biases such as herd mentality or overconfidence in stock selection. The engine does not change how clients behave: whether a client stays invested remains the client’s own decision.

The technology is an instrument, not an end in itself. Through the digital infrastructure, financial advisors can efficiently onboard their clients, monitor portfolios and implement individual strategies. End clients use the intuitive app for complete transparency and daily updates.

Everon is a FINMA-regulated wealth manager. Its investment strategies follow the regulatory requirements. The business magazine “Bilanz” has recognised Everon several times.

The approach is used in three areas:

• Pillar 3a: Long-term asset accumulation according to fixed rules instead of individual decisions
• Vested benefits: systematic rebalancing and professional management
• Wealth Management: Broad diversification based on quantitative criteria

Financial advisors also benefit from comprehensive training, marketing materials and co-branding options. The focus is on the partnership. The technology supports it.

Conclusion: Behavioral finance in everyday advisory work

Those who understand the psychological mechanisms behind investment decisions can support clients better and build long-term relationships.

Knowledge and technology complement each other. Financial advisors who recognise and address biases can build trust. Systematic investment strategies like Everon’s add fixed rules that are set well before a hectic trading day.

The Swiss pension system, with its long investment horizons in Pillar 3a and vested benefits accounts, lends itself to systematic investing. Advisors who use behavioral finance in client conversations can more readily help clients stick to the agreed strategy through turbulent markets. Would you like to find out more about the partnership with Everon? There you can see how to offer your clients systematic investment strategies from a FINMA-regulated wealth manager.