Michael Finke: 3 Critical Lessons From the COVID Crash

In the experience of Michael Finke, the retirement researcher and educator, a wealth of interesting research exists to help illuminate the important role that financial advisors play with their clients. Sometimes, though, there is nothing like reviewing a real-world test case when it comes to demonstrating the true impact that financial advisors can have.

As Finke recently noted in an interview with ThinkAdvisor, the acute phase of the COVID-19 pandemic offers about as good of an empirical test case as one could expect to find as a financial researcher.

“Economists don’t get many chances to see what people do when stock prices fall by 26% in four days, but the pandemic offered that opportunity,” Finke said. “It was a natural experiment, in a sense. We haven’t had a lot of similar opportunities to see how investors react to such a shock.”

According to Finke, there is essentially no end to the potentially useful economic questions applicable to the pandemic period, but one important topic he and various colleagues have been working on is the following: What role were advisors and asset managers able to play in helping their clients avoid the common behavioral traps that inevitably come about during periods of significant market stress?

In a word, Finke said, the role is critical. The evidence shows that the influence these parties can play in helping clients avoid costly money management mistakes is growing increasingly important as the equity and bond markets evolve and portfolios become more complex.

What is clear, Finke said, is that those with direct access to financial advisors made far fewer market-timing mistakes during the COVID-19 crisis, while retirement plan participants using target-date funds and managed accounts also fared much better than peers who directly managed their own portfolios.

To put it simply, Finke suggested, the pandemic period showed just how much the typical investor needs the guidance and support of a prudent financial professional — and that mass-market solutions such as the target-date fund, even if imperfect, can provide a lot of the same benefits to middle-class consumers as more sophisticated (and expensive) advisory options.

A Lens on Recent Research

As Finke recalled, a number of papers have been published that examine how defined contribution participants responded to the March 2020 pandemic crash, including one he worked on directly alongside David Blanchett and Jonathan Reuter, “Portfolio Delegation and 401(k) Plan Participant Responses to COVID-19.”

“We were most interested in whether delegation of investments to a professional through the use of a default investment such as a target-date fund let less sophisticated investors avoid pulling money out of stocks after the market crashed,” Finke said.

In the study, the trio found strong evidence that there is an important benefit that comes along with handing ongoing investment oversight over to a professional: less ill-timed trading during significant but short-lived market troughs.

“When the markets crash, you don’t feel like it’s your responsibility to make a change [if you own a target-date fund],” Finke suggested. “This is consistent with the Morningstar analyses of investor underperformance in mutual funds. They find the lowest underperformance among the set-it-and-forget types of funds that allow an investor to step away from their investments.”