Investment Risk Profiling PDF

Investment Risk Profiling Assessment of an individual’s or a company’s willingness and ability to take and manage risks. - To ensure that the investment and financial recommendations match an investor’s financial and emotional aptitude to engage in financial transactions that entail financial/inve...

Investment Risk Profiling Assessment of an individual’s or a company’s willingness and ability to take and manage risks. - To ensure that the investment and financial recommendations match an investor’s financial and emotional aptitude to engage in financial transactions that entail financial/investment risk. Factors of an Investment Risk Profile 1. Need for risk 2. Ability to take risk 3. Behavioral Loss Tolerance Factors of an Investment Risk Profile 1. Need for Risk. This is related to establishing the investor’s goals and the required return needed to grow or preserve current assets to fund future goals. a. Required Rate of Return- refers to the amount of portfolio risk an investor must accept to meet a specific financial goal b. Market Risk Environment – the current and future market environment can play an important role in shaping portfolio development and allocation decisions c. Consequences of failure- financial and emotional threats an investor faces if a goal is not achieved Rate of Return (RoR) = 1,500,000.00 return __________________ = __________________ 10,000,000.00 Initial Investment = 15% Market Risk Environment Gross Domestic Product (GDP) - market value of all the final goods and services produced by a country by a given period of time Nominal GDP – the value of final goods and services produced by a domestic economy for a year at current market prices Real GDP- the value of final goods and services produced in a given year when valued at a constant prices, (eliminates the effects of inflation) Gross Domestic Product Business Cycles – cumulative fluctuations in real GDP over a period of time Market Risk Environment Inflation – a sustained increase in an economy’s average price level Causes of Inflation 1. Demand-pull inflation – increase in demand 2. Cost-push inflation - increase in production cost due to higher wages or higher raw materials and other inputs Indices Used to Measure Inflation Consumer Price Index – measures the price changes for goods and services purchased by consumers. Wholesale price index – measures the price changes for goods and services at the wholesale level GDP deflator – measures the changes in price for goods and services included in GDP Market Risk Environment Unemployment Rate. There is an inverse relationship between the unemployment rate and the inflation rate. When the unemployment rate is low, inflation tends to increase. Labor force = the sum of employed plus unemployed workers. Market Risk Environment Fiscal Policy – government actions, such as taxes, subsidies, and government spending designed to achieve economic goals. Example: Reduction of taxes increases personal disposable income which will stimulate economic activity. Monetary Policy – actions under the control of BSP Example: Changing interest rates and reserve requirements. When in recession the BSP might lower interest rates or decrease reserve requirements to increase money in the economy. Monetary Policy: Changing interest rates and the money supply in the economy Examples: 1. BSP might lower interest rates, buy government securities in open- market operations or decrease reserve requirement 2. BSP might increase interest rates, sell government securities or increase reserve requirements 2. Establishing an Investor’s Risk Taking Ability Goal Time Horizon The period when the goal is established and the date of the goal’s achievement. Need For Liquidity An objective requirement or desire to hold cash for ongoing or future distribution needs. Risk Capacity Refers to an investor’s financial capacity to withstand financial loss without compromising the desired standard of living. 3. Establishing an Investor’s Behavioral Risk Tolerance Risk Tolerance. This represents the maximum amount of uncertainty an investor is willing to accept when making a financial decision Risk Preference - loss-averse vs. risk-averse or safety vs. returns Financial Knowledge This represents the combined financial information, facts, and skills an investor exhibits and uses when making financial decisions. Establishing an Investor’s Behavioral Risk Tolerance Investment Experience This refers to an investor’s mastery of financial topics and skills obtained through action, behavior, or participation in financial and/or investment activities. Risk Perception This refers to a judgment an investor makes (feels) regarding the severity of risk in association with a broader economic environment. Risk Composure This refers to the likelihood that in a perceived or actual crisis, an investor will exhibit behavior fundamentally different from her past actions. Classification of an Investor Conservative – Primary goal is to prevent the loss of principal. (cash and cash equivalents, time deposits short term government securities) Moderate – Prospects of higher returns than traditional deposit products for some level of risks (fixed income securities/bonds) Aggressive – prospects of capital appreciation over time and has the willingness to accept higher risks involving volatility of returns and possible loss of capital in return for higher long-term results (equities – stocks/preferred shares)  Risk Disclosure Statement - A document wherein risks associated to the specific investment are laid out for the client to understand Waiver – option to reclassify to a different classification other than what was previously concluded