It all starts with the Risk Number®. The Risk Number is a quantitative way to pinpoint how much risk an investor wants, how much risk they currently have in their portfolio, and how much risk they need to reach their goals.
In this article, we'll cover the approaches to find out how much risk our client or prospect wants through the use of the Risk Questionnaire or a Risk Target.
Set A Risk Target
We developed Risk Targets for clients you already know quite well or for advisors that prefer to start their process with goals, portfolio analysis or financial planning. Simply select the Risk Target that is most aligned with the account or portfolio objective. When you set a Risk Target, you’ll see a set of preset ranges, or you can click Set Manually and pick the exact Risk Number you prefer.
Use A Risk Questionnaire
Our Risk Questionnaires take academic work in behavior finance (Prospect Theory) and a series of risk/reward questions, using amounts specific to the investor, in order to calculate a quantification of risk preference, expressed as a Risk Number between 1-99.
Riskalyze offers three distinct risk questionnaire approaches. Each begins by collecting some basic customer information, then proceeds to assess an investor’s risk preference.
1. Next-Gen Risk Questionnaire
The Next-Gen Risk Questionnaire is the result of thousands of hours of research, marrying mathematical sophistication with an elegant user experience that helps investors truly understand the contextual relationships between investment risk and reward - allowing you to showcase the rigor of your process without sacrificing usability.
The Next-Gen Risk Assessment coaches and educates the investor, introducing them to core Riskalyze concepts like the 95% Historical Range™ from the very first step. They’ll begin by focusing on the next six months, and selecting an initial risk and reward “comfort zone”.
Riskalyze immediately puts this selection to the test by presenting them with a large-loss scenario within the bounds of that initial comfort zone. From there, an investor will be presented with a series of risk/reward scenarios, choosing between investing within their comfort zone or accepting a certain outcome.
After being presented with our calculated result, investors have the option to adjust their final Risk Number up or down, before finally confirming their final Risk Number.
2. Legacy Simple Questionnaire
Our simple approach is ideal for getting clients who don’t prefer to think in great detail bought into the concept of risk/reward tradeoffs. Don’t let the name fool you, though. The simple questionnaire is built on the knowledge and data we gained from tens of thousands of completed risk questionnaires.
The simple approach begins by collecting and initial risk preference by asking the investor to select the downside risk level they would accept for a given level of upside potential. Riskalyze will then ask 2-3 confirming questions testing whether the investor would lean towards more return or less risk if all things were equal.
After the confirming questions, the investor is presented with their Risk Number. As with all Riskalyze questionnaire approaches, the client has "buy-in" to the solution. Based on real dollar amounts, they’ll be asked to determine if the results fit their comfort level and confirm the result.
3. Legacy Detailed Questionnaire
The detailed questionnaire is highly analytical and a great way to quantify the risk tolerance of more analytically inclined investors.
It asks the investor their devastation amount. The investment and devastation amounts are the foundational basis for the resulting risk/reward questions.
The risk/reward questions help the investor teach Riskalyze when they would prefer a certain outcome over a 50/50 risk (equivalent to a coin toss). Questions are presented dynamically - each based on the results from all prior questions. The number of questions typically ranges from 7-12 but can be as many as 15. Each answered question helps Riskalyze pinpoint where the investor is on the risk curve.
At the end of the questionnaire, the client reviews their Risk Number and comfort zone and approves it to use in their investment discussions with their advisor.
Note: To access the Legacy Simple or Detailed Questionnaire click the "Use A Legacy Questionnaire" option at the beginning of the questionnaire process. (see image below)
Got any questions? Check out our Best Practices article for how to best take advantage of the Riskalyze questionnaires in your practice.