Risk profiling is essential to providing good advice and ensuring regulatory compliance but the profiling field is rife with misunderstanding and poorly designed assessment tools, Oxford Risk said.
It said wealth advisers far too often confuse clients’ tolerance of long-term risks with the unstable attitudes they display in response to short-term events such as market corrections.
Oxford Risk said behavioural profiling provides an opportunity for investors to learn about their own attitudes, emotions and biases, helping them prepare for the anxiety that is likely to arise, but these should be used to help investors control their emotions, not define the risk suitability of the portfolio itself.
Greg Davies, head of behavioural finance at Oxford Risk, said: “By conflating long-term risk tolerance with short-term emotional risk attitudes, advisers will potentially replicate all the silly things that investors do already, rather than helping to control investors’ more destructive tendencies.
“This is exacerbated by the ill-advised trend of using ‘revealed preferences’ and gimmicky ‘games’ to determine risk tolerance. Such over-engineered and unstable approaches to measuring risk tolerance are inappropriate and do not reflect clients’ actual willingness to take long-term risk. Measuring the wrong thing is worse than not measuring at all.”
The firm also said "many wealth managers and financial advisers are poorly equipped to help clients deal with the emotional and psychological roller-coaster ride their clients have endured during the Covid-19 crisis, and the impact it has had on markets and their investments."
It has launched a free "Market Emergency Survival Kit" which allows retail investors to measure six key dimensions of financial personality, which the company has identified through extensive research into investor psychology and financial wellbeing. The service also provides personalised recommendations on how best to invest, which are based on the findings.
Oxford Risk is a fintech firm providing risk profiling tools and consultancy.