Risk profile overlooks required outcomes
Engineering a client's portfolio based on risk profiling can overlook the client's long-term income requirements and lead to sub-par outcomes, according to Bailey Roberts group director Leith Thomas.
Although risk profiling is often adopted as a "tick the box" aspect of compliance, there is no specific requirement to conduct such a questionnaire - rather advisers are required to assess a client's risk tolerance, Thomas said.
Further, many questions that can appear in a risk profile can be misleading - for example, "have you ever taken a financial risk" has little value when asked of a pre-retiree who took financial risks in their twenties, he said.
"Risk profiling is putting the cart before the horse, in our opinion," he said.
Thomas suggested a more outcome-focused mode of investing, where a client's requirements are assessed first, and then the risks that may need to be taken to achieve those goals are discussed, he said.
Clients will also give different answers based on the current state of the market. Even if a hypothetical "perfect risk profile" were developed, there would be no guarantee that that would result in a portfolio that met the client's needs, Thomas said.
For example, a client who needed $100,000 per year from their portfolio, which would require a moderate amount of risk, could end up in a conservative portfolio due to risk profiling - and only discover when it was too late that they were not generating the required level of income.
But if they were told at the time, they could make a value judgement on the level of risk that would be required, Thomas said.
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