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Risk exposure and risk appetite are terms you’ll often hear in a wealth management context – and they’re essential to understand. The goal for many individuals is to have a balanced portfolio. In essence, that means your riskier exposure, with the associated more attractive returns, is mitigated by lower-risk products.

At Chase Buchanan we believe that the key to exceptional financial advice is to equip our clients with every piece of valuable knowledge that will impact their decision-making.

This article shares insight from our experienced consultancy team about what an investment risk assessment involves and why, if you haven’t conducted one yet, the time is now.

Why Risk Assess Investment Portfolios?

Even if minimal risk, every investment carries a proportion of exposure; it’s an inherent part of risk-return and not something we can ever truly eliminate. What we can do however, is control how exposed your portfolio is with careful calculations to identify the potential pitfalls of any investment product.

A risk assessment might include:

  • Identifying the range of specific assets or funds in one portfolio.
  • Reporting on historical, current and projected performance.
  • Analysing market trends, new opportunities and emerging risks.

Although those tasks might look similar for any portfolio, the outcomes won’t be.

A risk assessment isn’t solely an exercise to try and quantify the potential that a product will fail but is intended to align your risk to your aspirations. For example, if you were looking for dynamic investment options with a high-expected return in a short timescale, the suitable options would be more volatile.

A long-term investment strategy to grow your wealth for retirement should adopt a more cautious stance.

With that in mind, risk assessments are essential since they highlight how well your current investment products match your expectations and whether there are better performing options out there.

How to Calculate Your Investment Risk Factor

Just as the resulting actions from a risk assessment will differ for each portfolio, several techniques are used to evaluate the risk involved in an investment.

  • Standard Deviation
  • Beta
  • Value at Risk (VaR)
  • Conditional Value at Risk (CVaR)

While your financial adviser manages the intricate analysis processes, it’s helpful for you to know how they calculate the probability of a loss and how accurate those statistical methods are.

Let’s run through the techniques we’ve mentioned above.

Standard Deviation Risk Analysis

Standard deviation looks at the performance of an investment product and how far returns stray from expected values.

For example, we can examine the annual return rates and how current returns deviate from historical norms. An investment with highly volatile deviations is riskier.

Beta Investment Risk Calculations

A beta measurement estimates systematic risk – those are exposures related to the market or sector. For example, political uncertainty is a systematic risk that will likely affect many currency markets.

The market is measured as one beta, gauged against the security beta – if that beta is also one, it moves in line with the market. A beta of over one indicates higher instability, and less than one the opposite.

The benefit of beta evaluations is that it’s relatively simple to diversify your portfolio if an unacceptable risk is identified.

Value at Risk Assessments

You’re likely familiar with financial documentation advising that ‘value is at risk’, which means that your invested funds have an exposure element associated with the company or portfolio.

VaR measures the worst-case scenario loss over a defined period. The goal is to judge the percentage chance that the portfolio will lose a specific value over the time considered.

Conditional Value at Risk Explained

CVaR is slightly different in that it considers the tail risk.

That means the likelihood that something will happen, in extension to the VaR calculation, after the investment has reached the maximum threshold for loss.

These techniques are just some of the many ways a financial adviser should evaluate your portfolio and arrive at professional recommendations that help you maximise returns but in line with your accepted risk exposure appetite.

Defining Your Risk Exposure Appetite

Approaching any wealth management strategy with an eye solely on the potential returns is a recipe for disaster. While risk and rewards aren’t the only indicators of a quality investment, they are essential components to creating a future-proof wealth management strategy.

So, if you want to appraise your risk exposure, the first step is to work out what you consider acceptable.

At Chase Buchanan our approach always starts with a thorough consultation process to help us understand what you want from your wealth and how well your investment performance links to your plans.

Investment Risk Exposure: Questions to Ask

  • Timescales: when do you want to tap into your assets? The right wealth management strategy for a 10-year timetable will differ from one with a two-year crystallisation goal.
  • Preferences: do you have any inherited assets you want to hold onto, regardless of the quantified risk? Are there specific markets or sustainable sectors you would like to see incorporated into your portfolio?
  • Retirement: what range of assets do you have, and how reliant are you on the income generated to fund a comfortable retirement? When do you plan to retire, and in which country?
  • Contingencies: how many dependents do you want to provide for financially? Do you have a contingency fund or sufficient liquidity that failure of high-risk investment products wouldn’t severely impact you?
  • Insurance: do you hold insurance products to guard against loss of income, ill health, bereavement or other unforeseen circumstances?

All of these elements lead to creating a tailored wealth management strategy, catering to your family circumstances, income requirements and cash flow needs.

Risk tolerance can and often does change over time, so a risk assessment isn’t a one-off or something that will continually fit the same risk exposure profile. Having an experienced financial adviser, offering regular portfolio performance reports, reviews and appraisals is key to making sure your investments work for you and remain beneficial.

For more information about evaluating your current risk exposure or creating a comprehensive risk profile, please contact your nearest Chase Buchanan office to schedule a private consultation with one of our specialist expat financial advice.

*Information correct as of September 2021