Why many Americans no longer "tolerate" riskArticle added by Tony Walker on October 28, 2013
Tony Walker

Tony Walker

Bowling Green, KY

Joined: March 11, 2010

A saver is not wired for risk to begin with. Wall Street has done a great job of convincing us that one size does fit all — and that one size is the stock market. So here’s my advice: Walk away from the dogma you’ve been taught.

As a money manager during the go-go 1990s, I was infatuated with a process known as asset allocation.

You remember the 90s — close your eyes, point your finger and shoot. It didn’t matter what you hit, all you had do was pull the trigger. That’s because in the 90s, every stock and/or mutual fund pick was a winner. The hunt-and-peck method of picking stocks back then was so easy that money managers (such as myself) who made their living charging fees on managed accounts had to figure out a way to justify the quarterly management fees charged for services. Alas, an ingenious invention from Wall Street was introduced; the now infamous (secret weapon) known as the risk tolerance questionnaire (RTQ).

Upon serious consideration and observation in the financial trenches for the past 30 years, the whole concept of trying to figure out one’s “risk tolerance” is absurd, since it begins the merry-go-round with the faulty assumption that we are all wired for risk — some just appear to love it more than others. The RTQ is a simple little tool: The advisor finds anyone who can fog a mirror and begins to ask them a bunch of arbitrary what-if questions regarding money and hypothetical feelings that are aroused from potential loss (“Tell me Mr. Jones, would you lose sleep if the market went down 20 percent or would you jump for joy knowing that stocks are now on sale?”).

Back then, I’d rush the client through my 10-question form and feed the data into my “asset allocation” software for the answer to all of life’s risk tolerance quandaries. I hit enter and in just a moment’s notice, presto! A beautiful four-color asset allocation pie chart complete with all the fixings; the exact percent needed for a proper allocation into my quiver of different mutual funds. Large cap, mid cap, small cap, high yield bonds — you name it, I had it. It all seemed so easy and very cool. And, as long as the market was plowing along at 20 percent to 30 percent (one of my favorite mutual funds back then was Van Wagoner Emerging Growth, which one year hit a whopping 280 percent!).

Just to prove how easy it was to make money during the 90s, the Wall Street Journal actually put the stock experts to the test by employing monkeys to randomly throw darts at a dart board full of stocks and mutual funds to see if they could beat the so-called stock experts. As one might guess, in some cases, the monkeys won! Unfortunately, the monkeys weren’t registered and their petition of the SEC to charge quarterly management fees was denied.
Nevertheless, time has a way of exposing the truth. Things changed following the tragic events of 9/11. No matter how asset-allocated my clients were (they were all over the spectrum in terms of risk/reward allocations) they all lost money. And here’s what dawned on me: Not all people are “wired” for risk. Regardless of how my clients responded to my goofy little RTQ, none of them “tolerated” losing that much money.

Which is why, in my estimation, independent research firm DALBAR is so perplexed as to why, over the past 20 years, the average asset-allocated portfolio/investor doesn’t come close to matching the higher returns of the S&P 500. What DALBAR is lacking is an understanding of who these people are who fall into their study of so-called investors. That’s because many of these people who are invested in the market are not investors but savers masquerading as investors. In other words, a saver is not wired for risk to begin with. That’s why they time the market and exhibit all kinds of perplexing behavior that most true investors will never understand or appreciate. Again, Wall Street has done a great job of convincing us all that “one size does fit all” — and that one size is the stock market.

So that’s the problem; that’s why the RTQ is in need of shelving. What’s needed is not an assumption that everyone is an investor; what’s needed is a scientific, proven method of first determining one’s “financial personality," and then placing them into investments and strategies that fit their unique financial personality.

I often am reminded of my Granddad, who was worry-free and never owned a stock or growth mutual fund in his life. He couldn’t even tell you what asset allocation was because he didn’t need to. He took zero risk with his money. He was a saver from the word go, and savers don’t like risk.

Who you are and what you should invest in is based on how you’re wired. It is no different than assuming that everyone who walks into Universal Studios is going to feel comfortable riding all the roller coasters. Some people can ride them all day and never get sick; others can’t stand to even watch a roller coaster, much less ride one.

So here’s my advice: Walk away from the “one-size-fits-all” dogma you’ve been taught. Consider the RTQ as a tool, yes, but realize that it is not a magic bullet for determining one’s true desire for products and strategies. Not everyone can “tolerate” risk. Realize that everyone is not wired the same way; one's financial personality is either (predominately) a saver, investor or speculator. Armed with this new-found knowledge about yourself and your clients, you will stay more focused on the products and services that are more suited for them, as opposed to what the financial world is telling them they should do.

See also:
Financial planning: one size does not fit all
Are younger Americans becoming too risk averse?
Target date fund risk and Brad Pitt
There's more risk in the stock market than you realize — and it's increasing
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