Why Financial Intelligence Is So Emotional

The Emotional Intelligence Aspect of Financial Services

Posted Jan 31, 2018

In his book “How to Win Friends and Influence People” Dale Carnegie, the renowned 20th-century author, notes that human beings are creatures of emotion rather than logic.

According to Carnegie, even though we tend to assume that we are rational beings our emotions influence most of our decisions. Success in most aspects of life is therefore dependent upon our ability to balance the emotional and logical appeal.

A 2006 study by Accenture agrees with Carnegie by concluding that emotional intelligence (EQ) beats intelligence quotient (IQ) as a determinant of career success. The research shows that individuals who have a high interpersonal competence and are self and socially aware tend to perform better career-wise than those with high intelligence.

The same case applies to financial success. According to a 1970 study conducted by the Carnegie Institute of Technology, 85% percent of financial success is as a result of EQ, Body Intelligence (BQ) and Moral Intelligence (MQ). It shows that only 15% is as a result of IQ.  

A similar 2012 study by Schmidt shows that individuals with high EQ make $29,000 more annually than those with low EQ. When it comes to investing, the case is the same with investors with high EQ making more money than those with low EQ. According to Mark Starosciak, a CFP and the founder of Infinium Investment Advisors, in trading, emotions mastery is equally as important as understanding the markets.

In an interview with Fortune Magazine, Warren Buffet, the legendary investor, notes that while reasonable intelligence is essential in successful investing, temperament is the key. According to Buffet, greed and fear are the two emotions that drive the markets and prudent investors should know when to be greedy and when to be fearful.

Here is a chart using hypothetical emotions and a hypothetical $100,000 investment to show how uncontrolled emotions can misguide investors.

BlackRock, Investment Insight
Source: BlackRock, Investment Insight

If an investor cannot control their emotions, they cannot control their money. The ability to control emotions calls for a high level of emotional intelligence. At no time in history has EQ proved to be more critical to investing than today. With the rise of algorithmic investing, computers are taking over all the investment functions that require high IQ, leaving EQ as the key tool for competitive advantage.

Since robo-advisors started hitting the market, discretionary hedge funds have been on a downward spiral as investors flock to hybrid services. While computers can gather, analyze, and interpret data and make investment recommendations, a human touch is required in the emotional aspect of investing. Financial advisors and investment managers must, therefore, develop their EQ to deal to be able to deal with investors effectively.

With computer algorithms eliminating human emotion in investing, ordinary investors may be forgiven for having low EQ, but it is mandatory for financial advisors and Investment Managers. A financial advisor with high-level emotional intelligence can understand a client's individually and help them choose an investment plan that is in line with their emotional needs.

Even if computers were not taking over, the importance of EQ in investing would still surpass that of IQ. This is because our cognitive functions tend to perform at their best when we are less stressed and given that stressors are inevitable, our ability to deal with stress is what determines how it affects us.

Individuals with high EQ can maintain calm and perform optimally during stressful situations and are therefore able to tackle tasks that require high-level IQ perfectly. Buffet himself has managed to build a billion dollar investment not with supercomputers but with a strategy that leverages more on emotional intelligence.

With computer algorithms taking over the financial advisory function of investing, wealth managers need to come up with creative ways to add value to investing or else they will be phased out. Emotional Intelligence, which is an important component of investing but has always been ignored, is the perfect competitive advantage tool for financial advisors.