Over the long term, equities have undoubtedly been the best asset class to own. Recently published research examined returns from cash, bonds and equities for 17 countries since 1900 and the robust conclusion was that, for investors with a time horizon of 100 years, equities should be the asset class of choice.
However, few investors have such long term horizons and the practical investment time horizon for most investors ranges from 3 to 20 years. Given the length of stock market cycles, it becomes sensible to dampen equity market volatility through investment in other less risky asset classes.
Dualism
Most private client investors have dual investment objectives: to match equity markets when they go up and to match cash when equity markets go down.
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For a period, it looked as if certain alternative investment strategies could deliver an absolute return nirvana of cash-plus returns in all market environments. However, the events of 2008 showed that in times of severe financial market stress all risky assets fall in value.
Heart and mind
It is often the case that, whilst circumstances suggest one level of risk budgeting would be appropriate, investors desire a different risk profile. In establishing each investor's risk tolerance, it is therefore useful to incorporate the key elements behind behavioural finance including: loss aversion; anchoring; and decision regret.
The goal of the risk profiling exercise is to establish a realistic risk budget as the basis for asset allocation modelling.
Our risk profiling questionnaire incorporates these principles to provide an integrated risk report.
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