Unfortunately, there is no asset investment that fully meets all three of these criteria. But how should you invest your money optimally? How should you solve the conflict of goals return-risk-liquidity for yourself? Investment advisors usually use a tool here, the risk profile. This is made up of the risk capacity and the risk appetite. An interview or questionnaire is used to determine the extent to which an investor is able and willing to take risks. The lower of the two values then determines the investment strategy, which can range from safety-oriented to balanced to return-oriented. The greater the risk profile, the more aggressive (and therefore equity-heavy) the investment strategy: the investor deliberately takes higher risks in order to generate a higher return over the long term.
Risk capacity: Can you take risks?
Risk capacity measures how big risks you can take. The greater the risk, the greater the potential fluctuations in the price of the assets, but the greater the expected average return on the capital.
Basically, the more risky you are, the
- younger you are
- longer you don't need the money (your investment horizon)
- less you depend on the fortune
- larger your savings and your expected savings rate are
- lower your financial obligations/fixed costs are
A 20-year-old unattached man who lives with his parents and has just received 300,000 francs from an inheritance is thus much more risk-averse than a 55-year-old family man who has just become unemployed, has no savings, lives in a home that is 85% mortgaged and has to provide for his wife and two daughters who are still in education for at least 5 years.
Risk tolerance is thus measured with hard facts that an outsider can easily judge, because the data can be easily quantified. But risk tolerance is only one side of the coin. Let's now look at the second determining factor of the risk profile, the willingness to take risks.
Risk appetite: do you want to take risks?
Risk tolerance measures how much risk you are willing to take. In contrast to the ability to take risks, the willingness to take risks depends strongly on your personality. Risk tolerance indicates how willing you are to deal with fluctuations in value and to take risks. Here, every person differs in character, and there are no "right" or "wrong" values. While one person loves to paraglide in his free time, the other does not even dare to bite into a freshly picked, unwashed apple.
Risk profile: the deeper value of risk-taking ability and risk tolerance
Because security and risk reduction are in the foreground, the lower of the two values "risk capacity" and "risk appetite" is used to determine the risk profile. The investment strategy is derived directly from the risk profile: The greater the risk profile, the riskier the optimal investment strategy will be, and the higher the expected long-term return will be. This sounds complicated? Let's look at the four examples in this chart:
You see on the vertical axis the risk capacity (how much risk can you take?) and on the horizontal axis the willingness to take risks (how much risk do you want to take)?). The risk profile and thus the investment strategy (security-oriented, balanced, return-oriented) is determined by the lower of the two values risk capacity and risk tolerance.
Person A is young, well-to-do, wealthy and without financial obligations. However, the person has a very anxious disposition – a 5% drop in the exchange rate makes them lose sleep over a long period of time. Despite a high risk capacity, this person must invest in a very safety-oriented manner due to a low risk tolerance.
Person B is unable and unwilling to take risks – again, a safety-oriented investment strategy is the best choice.
Person C has a gambler mentality: although he would like to take risks, he cannot take any risks due to his financial situation and therefore also has to invest in a safety-oriented way.
Only person D is able to pursue an investment strategy with a higher share of stocks: The risk capacity is medium and the risk appetite is high. From this follows as a recommendation a balanced investment strategy.
Measure your risk profile!
You have assets that you want to invest profitably? You've inherited money and don't know what type of investment is appropriate for the inheritance? You want to better understand what investment strategy a financial expert would recommend to you? Then answer these 11 questions to learn more about your risk capacity and risk tolerance with this short test.