Changing risk perception, not tolerance

It is the changed perception of risk, rather than risk tolerance that altered investor behaviour following the global financial crisis (GFC), according to Paul Resnik, the co-founder of the risk profiling consultancy FinaMetrica.

His comments followed the recently published report by Michael J. Roszkowski and another co-founder of FinaMetrica, Geoff Davey, entitled Risk Perception and Risk Tolerance, Changes Attributable to the 2008 Economic Crisis: A Subtle but Critical Difference.

This paper provided data collected pre and post crisis inception, showing that the decline in risk tolerance was relatively small, but that the public’s perception of the risk had significantly changed.

Resnik said risk tolerance is defined as the amount of risk that an individual would prefer to take, which had remained constant pre and post the GFC, while research shows that risk perception is generally a function of intuition.

“Before the crisis, as markets seemed to be moving ever upwards, most investors perceived little risk; however after the substantial falls, most perceived high risk,” said Resnik.

As a result of the economic crisis, 33 per cent of the clients now see the market as enormously or considerably more risky and a further 41 per cent see it as somewhat more risky, according to FinaMetrica’s survey results.

The risk profiling consultancy concluded the figures show that the perceived risk had increased for three out of four clients, while risk tolerance levels remained constant.

Resnik said clients’ risk perception has to be managed actively by advisers.

“Advisers can educate clients about current risk in the market and help them deal with media hype and market noise,” he added.