Let's compare two different people: one wins $1 million in the lottery, the other has an accident and loses the use of his legs. Which one will be happier with their life 12 months after these events? That's easy. The lottery winner, right? In fact, research of actual Illinois State lottery winners and new paraplegics reveals an astonishing result. Members of both groups are equally happy with their lives a year later. Honestly! This wasn't just one quirky bit of research, either. Dozens and dozens of well-designed studies have reached the same conclusion: We don't have a very firm grasp on what truly makes us happy.

In his brilliant and funny best seller Stumbling on Happiness, Harvard psychologist and leading happiness researcher Daniel Gilbert tells us why. He proposes that the unique competence of the human brain is its ability to envision the future: We hurry to an appointment because we imagine the embarrassment or inconvenience if we're late. We stop at a red light because we can imagine the accident or traffic ticket that might otherwise result. We save for retirement because we have imagined what life will be like 20 years from now.

However, he demonstrates in great detail that we repeatedly "mis-predict" the impact that future events will have on our actual experience. The new field of positive psychology or happiness research demonstrates that all of us dramatically and continually misjudge how happy or unhappy we will be in reaction to life events. Humans, Gilbert says, have the ability to "synthesize happiness" in a way almost entirely independent of outer events. We have, in essence, a psychological immune system that modulates our experience enabling us to deal successfully with profound loss and adversity. (If you don't have time for the book, don't miss his terrific 20-minute lecture on the topic at ed.com/talks/lang/eng/dan_gilbert_asks_why_are_we_happy.html).

What does this have to do with financial planning? Well, here at the Kinder Institute of Life Planning we've been thinking recently about the nature of risk tolerance and the way financial advisors seek to measure it as a guide to portfolio construction. Most advisors use some form of questionnaire to document a client's risk profile, so the advisor can guide them to conservative or aggressive investment choices as appropriate. Pretty straightforward stuff.

However, such risk assessment exercises assume that people are capable of correctly imagining a future and ranking how happy they will be under different scenarios. As markets drop, an advisor might inquire, "What would make you feel worse, losing more of your capital or missing out on an upturn?" In so doing, we are asking clients to predict their emotions. The research shows that without exception people are perfectly lousy at doing this.

Financial markets over the last year or two have tested everyone's ideas of risk tolerance. How many investors got skittish and sold despite their earlier declarations about being long-term investors? The thing that typical risk tolerance tools miss is that during violent market swings, humans experience even more violent swings of emotion.

Investors tend to over-predict their expected happiness when markets soar and under-predict their panic when markets sink. The herd rushes in during upswings and stampedes out during downswings. Or in the words of the author and celebrated investment advisor Harold Evensky, "People have infinite risk tolerance when markets are going up, and zero tolerance when they're going down." If that's true, what's the meaning and value of measuring risk tolerance?

The whole subject of "risk" is particularly confusing for advisors and their clients because the word is used to describe two completely different concepts. Financial professionals use the term to refer to the technical measurement of a given asset's variance and correlation with respect to the broader market of investments. But there's nothing technical about a client's experience of risk; it's visceral and emotional, not intellectual.

That's one of the reasons why financial life planning works better than traditional modes of client discovery. Financial life planners are trained to understand and work with the emotion and meaning that inevitably attach to our concepts of money and finances. A financial life planning engagement therefore starts with a rich discussion of what a client finds most meaningful, what goals or aspirations really excite them, what turns them on.

STARTLING RESULTS
We can't know someone's tolerance for risk if we (and they) don't know what they're risking their money for. The kind of deeper discussion that I'm suggesting here takes some additional training to handle well, but it bears tremendous dividends. Life planning concentrates first and foremost on a person's life, not the absolute value of their holdings. That means that discussions with clients tend to focus on how to make progress toward life goals rather than on the relative performance of a portfolio that inevitably fluctuates. And this is in turn a bulwark against hotheaded behavior when markets turn sour.

Because most of us, including most of our clients, really haven't examined our life goals carefully, thoughtful goal discovery conversations can yield startling results. Many of us harbor dreams and aspirations that we don't dare articulate for fear of embarrassment or because we think they're simply unattainable, so what emerges in these conversations is often a real game changer.

Take for example a couple who recently visited a registered life planner and CFP in Connecticut. The wife is a well-paid accountant; the husband lost a high-paying corporate IT job last year and was doing contract work at a fraction of his previous pay. They were coming to the planner ostensibly for help reallocating their retirement portfolio. Rather than settle for a mundane engagement, this planner had the couple do a life planning exercise and used it as the basis for asking a series of probing questions.

SENSE OF ADVENTURE
After some initial reluctance, the couple confessed that they were feeling overwhelmed and stuck. The wife admitted being miserable in her job, but she felt resigned to continuing as the family's chief breadwinner. The husband felt frustrated and anxious. After the initial negative feelings dissipated, out of the blue the wife started dreaming out loud about the restaurant she had always wanted to open. And this was no pipe dream. Her family had owned successful establishments so she had the knowledge and connections to make this a success. Seeing his wife's enthusiasm, the husband jumped in and together they started excitedly discussing their new plans. In a blink of an eye, their previously conservative investment stance melted and they began thinking of creative ways to finance this new venture.

"The husband was so onboard he said he would dissolve his portion of a closely held family partnership, and even 'sell the house if we have to,'" the advisors told me. "He said it would be worth it, even if the restaurant failed. 'At least you would have chased something important to you'. I was absolutely stunned."

Now this couple did not run off and start the restaurant the next day. They commenced a concerted business planning effort so that they could lay the proper financial foundations. It's worth noting, however, that this couple's sense of risk changed completely in the course of a single meeting. Clearly the advisor had managed to strike a chord, releasing vigor and passion in the midst of a seemingly hopeless situation, and that change of context made all the difference in their outlook. They were willing to take more risks because they themselves had raised the stakes high enough to renew their sense of adventure.

In another case, a financial life planner and CFP in Arizona was working with a successful couple in their fifties. They owned two homes and had just a small remaining mortgage on home No. 2. They were very close to being able to quit their jobs and retire comfortably. However they came to the planner and announced that they wanted to expand the second home and make it their "dream house," selling some investments and taking out a larger mortgage in the process. They wanted the planner to run the numbers on how much longer they would have to stay at their jobs to pay for it.

When the planner moved from a conversation about what they wanted to do (expand the house) to "what that would feel like" (i.e., to spend time at the second home but also work longer), the clients said they felt "a little anxiety." After more thoughtful conversation with the couple about this "anxiety," the husband was able to admit his misgivings to his spouse for the first time and together they realized that it just wasn't worth it to build a bigger house if they wouldn't have more time to spend there. If the emotions attending the decision had not been addressed, this couple would have taken on more risk than they really wanted to.

These situations come up constantly. One corporate manager who dreamed of owning his own business was dissuaded from blowing his carefully accumulated investment capital on a fancy home renovation. A wealthy widow in her early fifties was talked out of selling at the bottom of the market by an advisor who was able to refocus her on her "life plan" and sensitively show her that her losses were only on paper. Her life plans were still fully funded.

GETTING AT THE CRUX
So how do advisors get this kind of productive conversation started? It's frankly not easy to "break set" and engage clients in a thoughtful discussion about values, life goals and deeper meaning. Most of us-advisors and clients alike-would rather skim the surface and not face the sometimes murky subtext of life. People's deeper ambitions are often sensitive and closely guarded precisely because they have not been achieved.

Exploring this territory means getting comfortable with the anxiety and fear that almost universally attend our personal relationship with money and success. In teaching this approach to thousands of advisors, we use a number of exercises to get things started, but this approach also demands more than a reliance on pencil and paper worksheets. There are four key skills that advisors must develop.

• Understanding yourself. First, advisors must explore their own preconceptions and feelings about money. Only if they can get comfortable with their own emotions can they model the ease needed to help clients open up.

• Listening for meaning. Most of us see client engagements as problem-solving exercises, so we listen for facts and try to get to the most essential issues quickly. Listening for meaning is entirely different because we have to stop trying to solve problems. The head and the heart work at different speeds. We have to learn to give clients much more room to sort through and connect with their truest passions and confront the obstacles that obstruct their progress.

• Empathy. This is how we signal to people that we are genuinely interested and open. But such receptivity doesn't usually come naturally, or we tire easily and want to regain control of the flow of conversation. Just a little more empathy at the outset of an engagement can open up much deeper layers of conversation that can profoundly change the direction and results of your work.

• Validation. Everyone needs a push to take on something new. Validating a client's goals, even if they are quirky or unexpected, releases tremendous enthusiasm for clients-something we call Lighting the Torch. When a client is fired up like that, they're far more excited about executing your recommendations.

It's a cliché to say that the financial markets are ruled by the twin forces of fear and greed. That's certainly a reasonable first approximation of the emotions that drive economic behavior in the aggregate. However, if we leave it at that simplistic level, we short change our clients. Individuals have unique goals, a unique sense of the meaning and value of their lives, and unique feelings and emotions that animate and give color and context to it all. In whatever way you deal with client expectations and risk tolerance, it's easy to see that understanding the emotional nature of a client's essential life goals will make you much better prepared to respond to them regardless of the market cycle.

Roger Wellington joined the Kinder Institute of Life Planning as Executive Director in 2008. The Kinder Institute trains financial advisors and credentials Registered Life Planners. Learn more at kinderinstitute.com.