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NISM Certifications · NISM-Series-X-B: Investment Adviser (Level 2) · Behavioural Finance in Practice

Caselet: Mr Rohit Verma, 45, saw his mutual fund rise 20% last year and now wants to put his entire annual bonus into the same fund, extrapolating that it will keep rising. His risk profile is moderate. Which approach is best for the adviser to use?

The adviser should rely on a documented asset allocation policy with staggered investment and explain that recent returns may not continue. Mr Verma is displaying recency bias, and a policy anchored to his moderate risk profile counters it better than chasing performance or moving to an unsuitable product.

  1. AAgree, because past returns reliably predict future returns
  2. BUse a documented asset allocation policy and staggered investment, explaining that recent returns may not persistCorrect
  3. CRefuse to serve him as a client
  4. DSwitch him to the lowest-risk product regardless of his profile

Explanation

Extrapolating recent returns is recency bias. An agreed asset allocation, with staggered investing, keeps the portfolio aligned to the moderate profile. Past returns do not guarantee future results, and an extreme switch ignores his profile.

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