Risk Scores: Putting the Horse Behind the Cart
The understandable appeal of a single risk number which encapsulates all of the complexities of a client is indeed alluring. Alas, it is but a siren’s song. We know that risk is too multi-faceted to be contained within a single number or cell on a spreadsheet. The goal of the risk score – understanding the client’s risk tolerance – is not just laudable, it is an absolute necessity to make sure the client does not throw in the towel at the worst possible time. Unfortunately, in reality the risk score ends up driving the entire process, even going so far as determining a key element: the asset allocation. To us here at Nebo Wealth, using a risk score to produce an asset allocation and then testing that portfolio, most of the time with flawed Monte Carlo simulations, is akin to putting the horse behind the cart. It makes it really difficult to get where you want to go.
Risk Scores: Putting the Horse Behind the Cart
The understandable appeal of a single risk number which encapsulates all of the complexities of a client is indeed alluring. Alas, it is but a siren’s song. We know that risk is too multi-faceted to be contained within a single number or cell on a spreadsheet. The goal of the risk score – understanding the client’s risk tolerance – is not just laudable, it is an absolute necessity to make sure the client does not throw in the towel at the worst possible time. Unfortunately, in reality the risk score ends up driving the entire process, even going so far as determining a key element: the asset allocation. To us here at Nebo Wealth, using a risk score to produce an asset allocation and then testing that portfolio, most of the time with flawed Monte Carlo simulations, is akin to putting the horse behind the cart. It makes it really difficult to get where you want to go.
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