Risk Profiling

One of the most important parameters to achieving satisfactory results from the equity market is to know one’s risk appetite. Many a times novice investors, while investing in risky assets, aren’t able to bear minor draw-downs on their invested capital, resulting in a premature withdrawal from the asset. Had the investor known his likely response to such risk he would have been much better off by choosing a different asset to invest in.

Broadly categorized, there are 3 portfolio segmentations based on the investor’s risk profile:

  • Aggressive Portfolio
  • Moderate Portfolio
  • Conservative Portfolio

As mentioned before, the risk profile of the investor goes a long way in making the investor achieve his financial goals. The age of the investor also plays a role in determining the choice of the asset and in most cases there does exists a correlation between the age of the investor and safety of the investment.

Assessing Risk v/s Return

There are various types of investable products available in the Capital Markets. Each of these products is exposed to various different risks of varying degrees. For instance certain investment products have a credit risk and interest rate risk whereas others may have a liquidity risk.

An investor always should choose a product that is compatible with his/her risk profile as well as age and also takes into account the following:

  • Expected Return
  • Performance of the Fund Manager in case of MFs or PMS
  • Financial Health, Performance and Interest Coverage Ability of Corporate institutions’ NCDs
  • Credit Rating of the Investment Product
  • Liquidity
  • Risk to Principle Capital

The measure of return is generally CAGR (Compounded Annual Growth Rate). Very simply put, CAGR appropriately measures the growth of the investment per annum taking into account the reinvestment of the interest earned or the profit each year.