Adviser rejects psychometric risk profiling
Traditional methods of assessing client risk tolerance leave much to be desired, according to an adviser who has developed a different way of doing things.
Thursday, October 11th 2012, 6:00AM 9 Comments
by Niko Kloeten
While many advisers now use psychometric testing to assess client attitudes to risk, Mike Newton of Newton Ross said he wasn’t convinced of the usefulness of such tools.
“The bottom line is we don’t I guess give a client quizzes or a questionnaire to determine their risk profile,” he said.
“In a way that’s kind of lazy, because you don’t have to do any forecasting work around the portfolio or the different outcomes.”
Rather than using tests to work out how conservative or aggressive clients are with regards to investments and using that information to design a portfolio, Newton Ross approaches the issue from the other end.
“The way we do it is we actually sit down with the client and show them the likely range of outcomes from different strategies in terms of their wealth,” Newton said.
“This requires three things. The first is to understand the expected average rates of return and range of return for different asset classes. Secondly you need to construct a portfolio and understand the risks of this portfolio in terms of the expected range of returns.
“Thirdly you need to model the client’s cashflow situation – the likely cashflow in and out of the portfolio – and given average rates of return work out what is the expected outcome of that portfolio.”
Newton said the process “empowers” clients as it enables them to see the range of outcomes and make an informed decision about their portfolio.
“With risk profiling the question is, what’s right?” he said. “Right is what can only be right in terms of the client understands the consequences of the decisions they are making.
“We get clients who have talked to other advisers who will want to debate the semantics of whether they are conservative or moderately conservative. The question is what the hell do those actually mean?”
Niko Kloeten can be contacted at email@example.com
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