Your definition of risk is integral to your wealth management planning. Together with your wealth management team, you can make a financial risk assessment that suits your goals.

Risk-reward is the balance of life. You only stand to gain what you’re willing to risk, whether you’re betting it all on high-growth-potential investments or making more conservative moves in a low-stakes market. Assessing risk in financial planning is a crucial component to building a suitable portfolio. You may be a high-net-worth individual (HNWI) investing in higher risk equities, or someone at the end of your career, aiming to grow your retirement assets through more conservative investments. Whatever your position, your definition of risk is integral to your wealth management planning. Together with your wealth management team, you can make a financial risk assessment that suits your goals.

What Is Risk Management?

The term “risk management” may conjure up negative associations, but it’s a vital part of the financial world. An accurate financial risk assessment leads to sound investment decisions, especially for HNWIs looking to grow or safeguard their hard-earned capital.

Risk management identifies the uncertainties of a given investment decision before accepting, modifying, or declining the investment. Your wealth management team will scrutinize every investment opportunity and quantify the potential for loss. Knowing how much you stand to lose is as important as what you stand to gain.

A skilled wealth management team knows that risk and return are inseparable. They’ll guide you to sound investments based on your investment objectives and your calculated risk tolerance. Some investments come with little risk, such as U.S. Treasury Bills backed by the government. Meanwhile other investments, like emerging real estate in high-inflationary markets, are considered high-risk / high-return. While you stand to lose more money, the potential gains are accordingly much larger.

So how does a financial advisor assess risk? With so many variables in the market, financial advisors think of risk as a deviation from the expected outcome. Remember, deviations can be both positive and negative. Your financial advisor may expect you to earn an 8% return on your investment over two years. However, if you earn 12%, you’ve deviated positively from the expected outcome.

Financial advisors analyze market volatility when establishing the security of an investment. Their client’s tolerance for risk—how much they’re willing to lose—determines how much volatility they’re willing to accept. Most financial advisors will use standard deviations to assess the volatility of any given investment.

Standard deviations measure the dispersion of data points relative to the average. Financial advisors first look at returns over a given period: for example, one might measure over a fixed frame of months, quarters, or years. The standard deviation of that investment is based on a comparison of the average historical return versus its performance in the given period. Lower standard deviations indicate safer, low-risk investments while higher standard deviations indicate more volatility.

How Does a Wealth Manager’s Client Define Risk?

managing financial risk

Everyone has their own definition of risk, and their own comfort levels accordingly. One’s financial risk assessment is based on one’s lifestyle, investment objectives, future goals and personal experience in the market. While nobody wants to lose money, some investors may feel more comfortable taking risks than others. If you never want to lose a penny, that’s perfectly fine. There are investments, like the T-Bills mentioned before, that are considered ultra-low risk investments. Unless the United States suffers a cataclysmic collapse, your T-Bill investment would be safe and sound if held to maturity.

Understanding a client’s definition of risk is one of a wealth manager’s most critical duties. Professional wealth managers come armed with a litany of personal, financial, and opinion questionnaires aimed at gauging their client’s definition of risk management. Some clients may define risk as market loss. For others, risk could mean losing their job, income, or insurance coverage. Aggressive investors may look at risk as a missed opportunity—a blossoming investment they missed out on.

Traditional Investor Categories

A client’s financial risk assessment is based on the kind of investments they’re willing to make versus their goals and risk tolerance. As such, it’s important to understand the different general categories of investors, and how they define risk management.

  • Conservative Investors seek to safeguard their current capital before increasing their potential returns. They are only interested in low-risk investment opportunities.
  • Moderate Investors look to grow their capital through low to medium-risk investment opportunities. They’re willing to accept small gains in exchange for some risk, but they’re still concerned about protecting their initial investment.
  • Balanced Investors are willing to lose some money in the short term for growth opportunities in the future. They understand market behavior and strike a compromise between growth and stability.
  • Assertive Investors take calculated risks for the potential of future growth. They’re thinking long-term and aren’t taking any unnecessary risks along the way.
  • Aggressive Investors focus solely on achieving the highest gains possible. They’re willing to ride out the low years and have the time and money to wait for long-term capital growth.

POLARIS PRO TIP: In the present market environment, cash versus inflation is an important consideration. With current inflation rates hovering around 6%, owning most fixed income products means you will lose your buying power. An experienced wealth management firm, like Polaris Wealth, can help you better understand your eroding buying power (which will happen if you simply sit on cash) and recommend better investment opportunities based on market conditions.

What Can Full-Service Wealth Management Offer a Client?

Formulating a sound financial risk assessment entails more than just a simple analysis of market trends. It’s about understanding a client’s investment objectives and making decisions based on their capacity for risk. Only then can your financial advisor help you build an investment portfolio with an appropriate amount of diversification to deliver returns while managing risk.

POLARIS PRO TIP: There’s a better way to play the game than simply buying indices. For over a decade, the majority of investors have opted for passive investments rather than actively managed funds. This is not surprising given that most active funds have historically failed to deliver better returns than indexed-based strategies. But a smart financial advisor that refuses to follow the herd mentality can use a tactical approach that focuses on expanding sectors and concentrates an equity portfolio around a select number of stocks.

Trusting your financial planning to a wealth management team means partnering with someone who will understand your risk tolerance and develop a comprehensive plan for your financial future. Polaris Wealth Advisory Group is built to cater to the needs of their HNWI clientele accordingly. If you’re ready to develop an effective investment strategy and plan for your future, reach out today.

This website is solely for informational purposes. Past performance is no guarantee of future returns. Investing involves risk and possible loss of principal capital. No advice may be rendered by Polaris Wealth Advisory Group unless an investment management agreement is in place.