It’s a bit like bungee jumping before breakfast
Because after breakfast is definitely a bad idea. But would you be the type to bungee jump at all? That is a bit how risk profiling works: it determines how much of a risk an investment is or how risk averse an investor is. As investments are a risky business, this is a crucial thing to figure out before seriously starting to invest.
What is a risk profile?
Also referred to as “risk tolerance”, it’s how much of a risk an individual is willing to take. Organizations also have risk assessments in order to better mitigate potential threats. But sticking to the individual’s risk, a risk tolerance helps figure out the ability of an individual to take on portfolio risk. This assessment defines the investment strategy, as it should be suited to the individual’s profile. If one is risk-averse, for example, that means that they are more suited for safer investments which are less volatile. If someone is more into taking risky decisions regarding their portfolio, these may or may not yield results, but they will most likely either gain more value or suffer large losses. Just like any risk, it’s a give and take.
Is it risky?
Assets help determine a risk evaluation. The higher the assets, the lower the liabilities, the more risk that can be undertaken. So if someone has savings, a retirement plan, and an overall good financial situation, they are more suited for a risky portfolio since they have some safe securities. The opposite is also true, where someone with a less stable situation should divert from taking on risky portfolios. Defining how much of a risk one can take it’s not so different from taking your favorite Buzzfeed test (because let's be honest, we all do take those tests). You go through a questionnaire which amounts the answers to a score that can later be used to determine a risk profile and later an asset allocation. This can be done either via a financial advisor or through a virtual financial advisor, which can help make sure that one is not exposed to too much (or too little) risk.
I risk, therefore I am
There are many factors defining a risk profile. One of them is a client’s tolerance for risk on an emotional level, how do they deal with tricky situations? Do they keep their cool or proactively find actionable solutions? As we are talking about financial risk, it is important to understand just how much one can take as a risk financially. Lastly, risk is subjective, so it differs from one person to another. That being said, all of these elements can change over time, so it’s important to continuously evaluate one’s risk profile.
Why will your future self thank you?
To each its own. Risk profiles are important as they can help determine the appropriate risk a client can take with their financial plans and investments. There’s many financial advisors willing (for money, of course!) to guide you through your risk profile. The truth is that you are the one who would know best - and you will be the one knowing best after some financial literacy bits from Bits™.
- No one can actually tell you what “risk” means in the stock market.
- Volatility is not a measure of risk. We repeat, figuring out how much a number changes over a period of time will actually not yield sure results on the risk assessment.
- The word “risk” in Chinese is made up of two symbols: “danger” and “opportunity".