Multi-scored Approach to Risk Alignment
TIFIN Wealth takes an intelligent approach to risk using a multi-score approach. Why is this important? Many investors are matched to portfolios that don’t align with the facts of their current life circumstances.
Risk Capacity describes the amount of risk an investor can or cannot afford to take based on the details of their personal life circumstances.
Risk Preference is the behavioral figure most risk questionnaires hone in on, which expresses the level of risk an investor is willing to take (and can change quite often, as do emotions).
Portfolio Risk is calculated based upon an investment portfolio’s exposure to potential risk. This figure describes a portfolio’s expected % Value at Risk (VaR) at the 99% level for a one-year period. Mathematically it tells us where 1% outlier/tail events could begin to occur to the downside.
“Summarize the Risk Score in 3 Sentences”
To calculate the Risk Score, TIFIN uses forward-looking returns for each security based on the expected return and volatility of its respective asset class. Each security’s exposure to its asset class is calculated using a 5-year historical regression. The portfolio is then given a Risk Score based on Value at Risk (VaR), which is used to estimate the total potential loss over the next year (percentage basis) at a 99% confidence level.
While Risk Scores range from 1-99, most user scores fall within the range of 6-55.
How is TIFIN Wealth's Risk Scoring Approach Different?
Most risk tolerance tools only address one aspect of risk at any given time. Some look at risk preference (a risk score based on an investor’s feelings about risk), while others base their score on a timeline toward retirement. The prevalent practice of ONLY measuring an investor’s feelings toward risk is insufficient as this can be quite different than the losses the client can actually withstand given their unique personal and financial situations.
TIFIN separates risk capacity, risk preference, and the portfolios risk score. Risk capacity only changes as life situations change and is based upon facts versus feelings: an objective, stable, and relevant anchor for accurate risk assessment. Psychological risk preferences are included, however, these questions serve as a reference rather than the sole basis of advice.
In short, advisors are able to compare all 3 scores using a common methodology in order to make wise investment decisions appropriate for their household at that time. In addition, the ability to revisit the questionnaire annually serves as a touchpoint for the advisor and client to reconnect and reassess the client’s risk tolerance, adjusting their portfolio as needed. With TIFIN Risk, facts over feelings lead to a more accurate risk assessment, a better investment strategy, and a stronger advisor/client relationship.