Risk is as important a factor in determining your portfolio, as returns are. After all, you can’t only chase higher returns, because that comes with a cost - higher risk. You may end up investing in super risky instruments now, but when the markets fall and those investments drop, would you have the appetite to deal with it? You may just end up panicking and selling your investments at a loss, defeating the purpose of investing in the first place. So, how do you determine what is appropriate for you? How do you find that balance between returns and risk?
Risk for financial instruments is how much the investment can decline in value. What level of a downturn you’re comfortable with determines how much risk you can take on your portfolio. The way we look at it, risk is made up of 2 parts:
Willingness to take risk
The best case scenario is for the ability and willingness to match. However, often that is not the case. You may have a higher willingness to take risk, but your current finances, or your inherent nature may restrict your ability to take risk. We, as a rule, pay more heed to the risk-taking ability, and not willingness. Willingness after all is also situational, and may change. For example, if the markets are performing really well, FOMO may kick in and your willingness may go up. That doesn't necessarily mean you have the ability to take that kind of risk.
3 general categories of risk
A risk profile can be broken down into 3 basic categories. This usually determines asset allocation for the investor.
Aggressive - An investor with an aggressive risk profile would be willing to purchase volatile securities to generate higher returns. They might take exposure to smaller companies, or companies that are focused on emerging technologies, or newer asset classes like crypto or NFTs. They typically would research and invest, and would not really lose sleep over notional losses. Their potential for both returns and loss is greater.
Balanced - Investors with a balanced/moderate risk profile usually look for a combination of risky assets and income-generating bonds. They have a keen eye for diversifying their portfolios, and risk levels. Through a balanced asset allocation, they wouldn’t usually take a large financial hit when the markets fall, but they also accept returns that are lower than aggressive investors.
Conservative - Investors with a very low tolerance for risk look for investments that don’t typically lose value; like fixed deposits and liquid bonds.The priority for these investors is to hold on to whatever they have, rather than losing any of it.
Factors that influence risk tolerance
Stage of life - A retiree’s risk tolerance would not be as high as that of an investor in their late 20s without any dependents. However, that would turn out different if the retiree were to be a millionaire.
Excess income - If the income is materially higher than expenses, risk tolerance is usually greater. If you’re a 20-something who has just started working, and is barely able to meet ends, risk tolerance reduces.
Goals - Everyone wants different things and money fascinates that. Further the goal, the more risk one can take with their investments. Investing in risky assets over the long term, can help not worry about the interim volatility and also benefit from the effects of compounding.
Time horizon - Time horizon is the time for which one wants to be invested. The longer the time horizon, the more is the ability to take risk. Interim losses can be made up for, or even ignored. If you want to achieve the goal of retirement 30 years from now, you can easily stay invested and not worry about cycles in the middle.
Size of portfolio - The larger ones portfolio, the smaller percentage a loss may constitute in their overall net worth. Generally.
Liabilities - The more loans one has to pay back, the lesser their ability to take on risk. After all, they can curb expenses, but the burden of repayment weighs on the ability to take a loss.
Comfort - Here’s where an investor’s self-awareness comes in. Would losing 20% of your wealth make you lose sleep? Would it make you take emotional decisions and not rational ones? Or would you see this as a buying opportunity instead?
What’s right for me?
Let's try taking a short quiz to figure who you are. You may answer these questions, and score your answers. Total up scores for all your answers and see what band you fit in.
Remember, don’t try to score higher or lower!
How old are you?
18-25 (40 points)
26-40 (30 points)
41-60 (20 points)
60+ (10 points)
What is your investment objective?
Protect invested capital with very low chance of a loss (10 points)
Seek balance between invested capital growth and protection (20 points)
Seek long term wealth creation with chances of higher short term loss (30 points)
What is your annual income?
< 15 lakh (10 points)
15 - 30 lakh (20 points)
30 lakh (30 points)
What percentage of your income goes in repayment of existing liabilities like bank loans, etc.?
<20% (30 points)
20-50% (20 points)
50% (10 points)
Pick a possible outcome for your investment
7% Avg. Return | 12% Best Return | -5% Worst Return (10 points)
10% Avg. Return | 18% Best Return | -12% Worst Return (20 points)
12% Avg. Return | 22% Best Return | -19% Worst Return (30 points)
What percentage of your total wealth are you planning to invest?
<5% (30 points)
5-15% (20 points)
15% (10 points)
What investments do you currently hold?
Bank FD (10 points)
Mutual Funds (20 points)
Stocks (30 points)
What’s your total score?
70-120 - Conservative
121-170 - Balanced
171-220 - Aggressive
How do I allocate my portfolio?
Ideally, here’s a rough appropriate allocation for you. Of course, focus on the words ideal and rough. To fine-tune allocation better, there would be more factors we’d consider. But here goes:
Conservative - Risky: 10-25% | Safe: 75-90%
Balanced - Risky: 40-60% | Safe: 40-60%
Aggressive - Risky: 65-80% | 20-35%
Where to invest though?
Rupeeting is here to help 😊
How do we help? We get to know you, decide optimum asset allocation for you, select investments for you, and then even manage it for you regularly.
It’s really simple, all you got to do is visit: https://rupeeting.smallcase.com
Our Core Portfolio offerings diversify money across several asset classes:
Indian large cap stocks
Indian mid cap stocks
Indian government bonds
Indian corporate bonds
Indian state development loans
We keep changing the allocation between these as per market conditions, while still maintaining the broad composition split between risky and safe assets to suit your risk profile.
Result? You get investments that are suited for you, and that are managed by us. Simple, no?
Need more help? Want to speak to us? Book your free session here: https://calendly.com/rupeeting