What risk management is and why it matters

For investors, risk is the potential to lose value in their investments due to fluctuations in the price of their assets, typically measured by possibility, probability and severity. Effective portfolio risk management across a diverse client base is essential. And it’s good business:

• Know Your Customer (KYC) requirements demand it.
• Ongoing advisor/client dialog is driven by it.
• Your value is demonstrated by it.
• Your reputation rests on it.

Determining a client’s risk profile

There are many types of risk and even more ways to measure it. Financial planning software and platforms often include risk assessments as part of their offering; however, the adoption rate for risk assessment technology is only 48.1%.¹ For many advisors, a Risk Tolerance Questionnaire (RTQ) is central to the discovery process. For most clients, the RTQ offers a structured opportunity to take a deep dive into their goals, time horizon, feelings about wealth and attitudes about risk. Still, it’s important to remember that RTQs are limited in terms of what they reveal about a client’s risk personality.

There are no right or wrong answers to a typical psychometric RTQ question such as: “If an investment loses a significant amount of value in a short period, how likely are you to sell it right away?” However, clients may tailor their responses to align with what they believe the advisor wants to hear – not what they actually feel.

The same can be said for econometric-based questions within an RTQ, including: “Would you or would you not invest $1,000 if there was a 50% chance you could double it and a 50% chance you could lose it all?” In hypothetical situations, we’re sometimes bolder than we’d be in the actual moment.

The RTQ is a steppingstone that guides ongoing discussions that uncover whether the client is more driven by FOMO (fear of missing out) or loss aversion. Knowledge of a client’s preferences and attitudes is only part of an advisor’s overall – and ongoing – engagement process. Why? Because people and circumstances change.

Transforming theory into practice

Financial advisors think about risk management all the time. It’s one of the more challenging parts of their job description. Not only do economic and market conditions evolve and devolve quickly, determining a client’s risk tolerance…

• is not an exact science;
• nor is it a “one and done” proposition;
• and it’s only part of the equation.

Advisors must translate their insights into an investment strategy suited to each client’s needs.

The right partner = the right resources

Creating and monitoring portfolios that consistently optimize the risk/return continuum and align with each client’s profile is a complex undertaking. But doing so – at scale – is easier than you think when you leverage innovative resources, technologies and methodologies that:

• help facilitate portfolio construction;
• simplify compliance workflows;
• generate real-time drift alerts;
• make client conversations and reviews simpler; and
• equip you to react in real time.

Risk redefined

Risk cannot be avoided but can be managed. Streamlining the risk management process with tools that record suitability, monitor client portfolios and instantaneously generate drift alerts, allows you to cover all the bases without missing a step.

¹www.kitces.com/kitces-report-independent-financial-advisor-technology-fintech-software-tools-research/

Amplify Technology, LLC (“Amplify”) is not an investment adviser. Its services are for informational purposes only and do not constitute investment advice or recommendation. Please consult a registered investment adviser before using Amplify and its services.