Investment Risk

Your Tolerance for Investment Risk

Science has developed a myriad of ways to measure investment risk, some incorporating complex mathematics and some looking at the behaviour and psychology of investors. What is certainly clear is that the days of sticking a pin in somewhere on a scale of 1-10 is of little value when trying to measure an investors capacity to understand and tolerate risk. Before we look at how we carry out the risk profiling however, it makes sense to look at some of the main types of risk that an investor may face.

• Capital Risk - when investors talk about risk it is probably safe to say that most will be concerned about the risk to their invested capital i.e. ‘can it go down, how far might it fall’ etc and whilst capital risk clearly exists, the fear of investing in real assets due to the risk of capital loss can often result in investors missing out on ‘real returns’.

• Liquidity Risk - Too many investors get caught out by having insufficient access to short term funds, being forced to sell invested assets at the wrong time.

• Inflation Risk - The concern that money will lose its real value in relation to inflation over time.

• Market Timing - Too many investors try to forecast the highs and lows of markets and inevitably end up being out of the market during the periods of the best returns.

Your Risk Tolerance is your ability, be it emotionally or financially, to withstand potential declines in the value of your portfolio in the short to medium term without succumbing to the urge or need to sell holdings at the wrong time. Detailed studies have shown that one of the most costly mistakes in long term investing is to be ‘out of the market’ when prices increase. Over the years the market has had more up days than down days, it follows therefore that if you step out of the market it is likely you will miss more up days than down days. As no one is able to predict the market timing of any rises, it is likely that by the time you choose to re enter the market, there would already have been a significant increase in values, If one adds in that a fundamental of long term investing is to buy low and not sell low, (something that can be achieved by periodical re balancing), the logical conclusion is that in times of market stress, almost invariably, the right thing to do is nothing. The Finametrica Risk Profiling system is a sophisticated tool helping us to determine clearly where your boundaries lie in terms of what level of volatility you are prepared to accept.

To see how we apply your risk tolerance click, How do we make it work for you