YOUR AP­PETITE FOR RISK

Weekend Argus (Saturday Edition) - - GOODDRINKING -

Some fi­nan­cial ad­vis­ers use risk pro­file ques­tion­naires to de­ter­mine how well you can tol­er­ate the risk you need to take to meet your needs. How­ever, even when they are used in this way, risk pro­file ques­tion­naires pro­duce noth­ing mean­ing­ful about your ap­petite for risk, An­drew Bradley says.

The brain is a back­ward look­ing, pat­tern-seek­ing de­vice that helps us to sim­plify our com­plex en­vi­ron­ments, he says.

As a re­sult, we suf­fer from var­i­ous bi­ases, such as overem­pha­sis­ing the re­cent past, re­ly­ing on stereo­types, over­re­act­ing to new in­for­ma­tion and us­ing men­tal short­cuts – for ex­am­ple, as­sum­ing that more ex­pen­sive items are of bet­ter qual­ity. Risk pro­fil­ing ex­ploits these bi­ases and will never be ac­cu­rate, Bradley says.

Your psy­cho­log­i­cal pro­file, per­cep­tions and feel­ings change all the time, he says. Your per­cep­tions will in­flu­ence how you an­swer a ques­tion­naire, as will your level of fi­nan­cial well-be­ing and se­cu­rity, Bradley says.

For ex­am­ple, he says, some ques­tion­naires ask you whether, on buy­ing a new car, you would in­sure it fully with a small ex­cess or a large ex­cess, or not at all.

The per­son who an­swers that he or she would in­sure the car fully is then of­ten re­garded as a con­ser­va­tive in­vestor, whereas the per­son who an­swers that they would not in­sure the car at all is said to be an ag­gres­sive in­vestor.

But your level of in­sur­ance is likely to be de­ter­mined by your per­cep­tion of the risk of your car be­ing stolen or in­volved in an ac­ci­dent, rather than your ap­petite for in­vest­ment risk, Bradley says.

Your cash flow may also in­flu­ence how much in­sur­ance you take out, he says.

Bradley is of the view that your fi­nan­cial ad­viser needs to ex­plore with you your abil­ity to take in­vest­ment risk.

Your ad­viser needs to work out the pos­si­bil­i­ties and prob­a­bil­i­ties for the in­vest­ment strat­egy you need and show you how of­ten dur­ing the in­vest­ment term you can ex­pect your in­vest­ment to have neg­a­tive re­turns, he says.

Bradley says you can ask your­self ques­tions, such as “How would I feel if I see that my R100 in­vest­ment has be­came R80 as a re­sult of mar­ket move­ments?”. Could you and would you have the con­fi­dence to stay in­vested and await a re­cov­ery?

If you then feel you can­not tol­er­ate the real risks of the in­vest­ment strat­egy you need to adopt to achieve the re­quired re­turn, you can ex­plore al­ter­na­tives. For ex­am­ple, if you are sav­ing for re­tire­ment, you can con­sider work­ing longer, scal­ing back on your re­tire­ment in­come or low­er­ing your cur­rent stan­dard of liv­ing to save more, he says.

Bradley is of the view that ques­tion­naires are use­ful only in help­ing your fi­nan­cial ad­viser to un­der­stand your at­ti­tudes and bi­ases, which, in turn, will help your ad­viser to know how to en­gage with you in way that is mean­ing­ful for you.

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