Ensuring your investment strategy matches your risk profile

Determining your risk profile is one of the single most important aspects to investing, yet many people don’t take enough time to adequately work out their tolerance for risk leaving them exposed to a downside that they are often unprepared for.

According to Rod Lowe, Director at investonline.co.za, it is vital that investors understand what their personal risk profile is before they invest their money. “The investment industry provides a myriad of options and one of the crucial factors in determining how best to invest your money is working out the level of risk you are prepared to take on.”

Lowe says it was evident when the financial markets started tumbling at the end of 2008 that a number of investors were invested in products that were not suitable for their needs. “All investments have a degree of risk but many investors who had been taking advantage of the seemingly ever upward rise of equities realized that their tolerance for risk was far lower than they had thought, once the market began heading south.”

“It is therefore important not just to identify your personal appetite for risk but also how much risk you would need to take on in order to meet your objectives.”

“An investor nearing retirement may decide to place his money in an aggressive portfolio with a high exposure to equities as he has a high tolerance for risk. However, if he is already close to meeting his financial goals, he would be ill advised to take on huge levels of risk at this stage.”

Lowe says the need for risk is often dependent on someone’s life stage but as a general rule of thumb, young investors are likely to have a greater appetite for risk as they do have the time to make up for any mistakes.

“There are many factors that influence someone’s risk tolerance so it is important people re-evaluate their risk profile at least once a year. As someone’s situation changes – getting married, having children or starting a business – it is a good idea to revisit your risk appetite to ensure your investments are appropriate for your needs.”

For most people, their financial adviser will conduct a risk profile based on a questionnaire to assess how much risk someone is willing to take on. This should provide a clear indication of what kind of investment would match their needs.

To ensure your risk profile has been properly assessed, you should answer a number of questions based on your own personal circumstances, your personal tolerance for risk and your expectations for that particular investment such as:

· Your timeframe to achieve your financial goals on a particular investment

· What percentage of your assets the investment would represent

· How you would react if your investment fell by 25% over the course of a few months

· What portion of the investment would be used for retirement income

“One of the most common causes of investment failure is a rush to exit the equity market at the wrong time. If someone is invested correctly in the first place then they are more likely to stay in the market and therefore not suffer extreme financial loss by incorrectly timing the markets,” says Lowe.

At investonline.co.za all investors are required to complete a comprehensive risk profile after which they will be recommended a suite of unit trust products appropriate to their needs.

“While we would advise someone to invest in unit trust products for the long-term, sometimes people wish to switch products or providers, but are reluctant to do so because of the impact the switching fee will have on their total investment. Through investonline.co.za investors can switch between providers at no cost as we believe that their investments should match any change in their circumstances without being penalised.”