Financial Jargon — Does Your Client Really Understand?
By Neill Roynon, RFP | Roynon Commentary
This article is intended for financial advisers and their clients alike.
As advisers, we need to recognise that not every client we meet will immediately understand the jargon and technical terminology commonly used within the financial services industry.
We should take particular care when explaining an investment, discussing a risk product or working through the more technical sections of a financial document.
All too often, clients nod in apparent agreement, perhaps embarrassed or reluctant to admit they don’t fully understand a term or explanation we have just used.
Unfortunately, this can lead to confusion, unrealistic expectations and, ultimately, dissatisfaction later in the adviser-client relationship.
How often have we heard a client complain, “I didn’t understand what my adviser was telling me”?
The question we should perhaps be asking ourselves is:
Did we genuinely ensure the client understood, or did we simply assume they did?
Err on the Side of Caution
As the saying goes, “Better to be safe than sorry.”
Prepare presentations using clear, simple language that clients can comfortably understand.
Remember, the purpose of a financial presentation is not to demonstrate how much technical knowledge we possess, but to ensure that clients understand the advice being offered and the implications of the decisions they are being asked to make.
When discussing more technical aspects of a recommendation, take the time to pause and ask:
“Is there anything I’ve explained so far that isn’t entirely clear?”
This simple question gives clients an opportunity to raise concerns, seek clarification or revisit something they may not have fully understood.
Importantly, we should never make clients feel uncomfortable about asking questions.
Understanding financial matters should not require a qualification in financial planning!
This principle applies equally to investment products, retirement planning, life assurance and other risk products.
Communication Builds Trust
A good adviser-client relationship is built on trust, transparency and understanding.
Clients should leave a meeting feeling informed and confident that they understand the recommendations made, rather than overwhelmed by terminology they may be reluctant to question.
And for clients, remember:
There is no such thing as a foolish question when it comes to your financial future.
If something is unclear, ask your adviser to explain it again in simpler terms. It is your money, your financial security and, ultimately, your decision.
Our responsibility as advisers is not simply to provide sound financial advice, but to communicate that advice in a way that clients can genuinely understand.
Save the industry jargon for the office, when talking to colleagues. When sitting across the table from a client, speak their language, not ours.
Financial Jargon Explained in Plain English
Here are some commonly used financial terms and what they actually mean.
ROI — Return on Investment
ROI measures the gain or loss on an investment relative to the amount originally invested.
For example, if you invest £10,000 and its value rises to £11,000, your return on investment is 10%, before considering any associated costs or taxes.
If its value falls to £9,000, your return is negative 10%.
ROI does not, by itself, tell you how long it took to achieve that return.
IRR — Internal Rate of Return
IRR is a way of measuring an investment’s annualised return while taking into account the amount and timing of money invested and received.
In simple terms, it helps answer the question:
“What annual rate of return has this investment generated, considering when money went in and came out?”
IRR is particularly useful where investments involve several contributions or withdrawals over time. However, it should be interpreted carefully, as it does not tell the whole story about investment risk or profitability.
Alpha (α) — Investment Performance
Alpha measures how much an investment has outperformed or underperformed the return expected after accounting for its exposure to market risk.
In simple terms:
- Positive Alpha: The investment has performed better than expected.
- Negative Alpha: The investment has performed worse than expected.
Alpha is often used when evaluating investment managers, although the result depends on the benchmark and method used.
Beta (β) — Sensitivity to Market Movements
Beta measures how sensitive an investment is to movements in a chosen market benchmark.
- Beta of 1: The investment tends to move in line with the market.
- Beta of 1.5: The investment tends to move approximately 50% more than the market, in the same direction.
- Beta of 0.5: The investment tends to move approximately half as much as the market.
Beta measures market sensitivity, not every type of investment risk. These relationships are historical estimates rather than guarantees.
Sharpe Ratio — Return Relative to Risk
The Sharpe Ratio measures how much return an investment has generated above a relatively risk-free rate, compared with the volatility experienced.
In simpler language, it helps investors assess whether the additional return has been worthwhile relative to the fluctuations in the investment’s value.
Consider two investment funds:
- Fund A: Returns 12% annually but experiences considerable volatility.
- Fund B: Returns 10% annually but experiences much less volatility.
Fund B could have a higher Sharpe Ratio because it has achieved its return with less volatility.
A higher Sharpe Ratio is generally more favourable, although it should never be the only measure used when comparing investments.
Volatility — How Much an Investment’s Value Fluctuates
Volatility measures the extent to which an investment’s value moves up and down over time.
For example:
- Fund A: Returns 10% over a year, with relatively small fluctuations in value.
- Fund B: Also returns 10% over the same year, but experiences significant rises and falls along the way.
Fund B would generally be described as the more volatile investment.
Volatility is an important consideration, particularly for investors who may need access to their capital at short notice.
ETF — Exchange-Traded Fund
An ETF is an investment fund that can be bought and sold on a stock exchange, much like an ordinary company share.
For example, rather than purchasing shares in 100 different companies individually, you could invest in an ETF designed to track an index containing those companies.
Many ETFs hold a basket of investments, allowing investors to achieve diversification through a single purchase.
However, ETFs are not risk-free, and their value can rise or fall depending on the investments and strategy they follow.
CGT — Capital Gains Tax
Capital Gains Tax is a tax that may apply when an asset, such as shares or investment property, is sold or otherwise disposed of for a profit.
The amount payable and available exemptions depend on the tax rules of the relevant country and the investor’s circumstances.
Benchmark — A Standard for Measuring Performance
A benchmark is a standard against which an investment’s performance can be measured.
For example, an investment may aim to outperform inflation by 2% annually.
If inflation is 5%, the benchmark would be approximately 7%, using a simple inflation-plus-2-percentage-point calculation.
If the investment achieves a return of 10% over the same period, it has outperformed that benchmark by 3 percentage points.
If it achieves only 5%, it has fallen short by 2 percentage points.
Benchmarks help investors establish whether an investment has achieved its stated performance objective.
A Final Thought
Financial terminology has its place. It provides professionals with a common language and allows complex concepts to be discussed efficiently.
But the same language can create unnecessary barriers between advisers and the people they serve.
The true measure of a good financial explanation is not how impressive it sounds, but how clearly it is understood.
Neill Roynon, RFP
Founder and Editor — Roynon Commentary
Disclaimer
The information contained in this article is provided for educational, informational and general commentary purposes only. It does not constitute personalised financial, investment, tax or legal advice, or a recommendation to purchase or sell any financial product.
The views expressed are those of the author. Financial decisions should be made with consideration of individual circumstances, objectives and risk tolerance. Readers are encouraged to seek guidance from a suitably qualified and, where applicable, appropriately authorised financial professional before making financial or investment decisions.