As investment advisors we usually explore things like age, size of investment portfolio, expected retirement date and future earnings and financial obligations to gauge your risk tolerance. These quantifiable aspects can tell us a lot about your ability to take investment risk, but what about your willingness?
The importance and complexity of your willingness to take risk is one of the many differentiating factors between managing investment portfolios for large institutions and managing them for individual investors. Because most investment products and programmes are developed by institutions for in- situations they fail to address this “human side” of risk tolerance. Personality typing is a new tool that is helping investment advisors better understand an individual investor’s willingness to take risk and behavioural tendencies. Read on to learn more about what personality typing is, how it can help you gauge risk tolerance, and how it can give you insight into your decision-making tendencies.
Before we discuss the process of personality typing, it is important to understand that individual investors are unique and cannot always be perfectly placed into a specific personality type or category. However, personality typing can help facilitate discussions with investors about risk tolerance and can give you insight into investment strategies that may fit your psychological profile. (Just because you’re willing to accept a risk, it doesn’t mean you always should. Risk tolerance only tells half the story.)
The first step in personality typing is to understand your personal background. Interviewing investors about their life experiences, inherited behavioural traits, career paths and their current investment portfolio can tell a lot about their willingness to take risk and whether or not they have a tendency to make emotional decisions regarding their investments. Once a good understanding of their background is established, they can usually be placed into a broad investor personality type.
There are four main personality types: cautious, methodical, spontaneous, and individualist. They are categorised (in the next post), by willingness to take risk.