Understanding Your Risk Appetite in Investment.

The world of investing is wide open for just about anyone. However, not all investment opportunities are the same. Each has their own returns and risk profiles to consider.

The best way to decide where to invest? First figure out your risk appetite.

What is investment risk appetite?

The term risk appetite is often used interchangeably with risk tolerance, but it’s important to note that these are different.

Risk appetite is essentially the attitude you have towards risk when it comes to achieving your investment goals. It is a broader statement of how you feel about risk and taking risks when investing.

Risk tolerance is about the implementation of your risk appetite. It’s the amount of risk you’re willing to take based on your finances in order to achieve your objectives. This can be broken down to how much risk you’re willing to take and how much variance you’re willing to tolerate with each individual investment based on your general risk appetite.

Why should you know your risk appetite?

As an investor, it’s always a good idea to understand your risk appetite because it:

Guides your decision-making when structuring your investment portfolio
Focuses your investments on your goals
Removes some uncertainty

You don’t want to end up stressed and panicked by taking on more risk than you’re comfortable with. You also don’t want to be disappointed by your returns by taking on less risk than you can handle – and risk not achieving your objectives.

Risk appetites: Low, Medium, High

Broadly, there are three levels of risk appetites you can fall into.

Low	Your priority is to preserve your capital as much as possible. You are comfortable with low or minimal potential returns.
Medium	You are willing to accept potentially losing some of your capital in order to achieve moderate potential returns.
High	You are prepared to lose a significant chunk or all of your capital in order to achieve maximum potential returns.

Determining your risk appetite

There are several factors to consider when determining your risk appetite.

1. Financial Goals

Think about why you are investing and what you want to achieve. Make a list of your major and minor goals, then group them in two categories: Negotiable and Non-Negotiable.

An example of a minor goal is investing for a vacation, while a major goal would be investing for retirement or education. You may not want to compromise on your financial goal of a retirement fund – but you might have a little more leeway in terms of the vacation goal. This will help you decide what your hard limits are.

2. Investment tenure

Think about how much time you’re willing to spend investing in order to achieve your goals. At this point, you’re not necessarily looking at the investment tenure for each individual goal – it’s more of a general approach of how long you want to be an investor for.

If you plan on doing this long-term, you may be able to handle a slightly higher risk since most markets often perform well in the long run. In the short to medium term, markets may be too volatile for your comfort.

3. Age

Age is a key determinant of risk appetite. A general rule of thumb is that your risk appetite will decrease as you get older. As you get closer to retirement, your ability to jump back from a potential major loss could be severely decreased. You also may not be comfortable risking your capital as much as you did when you were younger, given the shorter investment tenure ahead of you.

4. Investible surplus

Take a look at your income and expenses to determine how much surplus you have to invest or act as a cushion to your investments. Keep in mind that you should not only consider investing when you have a surplus. Instead, your investments should be part of your financial plan in general.

However, being aware of your surplus will help you make a more informed decision of your risk appetite and how aggressive you want to be with your investments.

5. Financial Responsibilities

Consider all your financial responsibilities, both in the short and long-term. Whether it’s getting married, financing your children’s education or caring for aging parents, your financial responsibilities are crucial in determining your risk appetite.

6. Understand your attitude towards risk in general

Your risk appetite in investment is also greatly informed by your attitude towards risk in general. So, knowing your general attitude towards risk is crucial in providing clarity on your level of risk appetite.

If you’re inherently risk averse, you may have a low risk appetite in investment. The opposite may be true if you are inherently open to taking risks.

Investment options based on your risk appetite

Now that you know your risk appetite, you can start to consider the different investment options available to you.

Low Risk Investors

If you have a low risk appetite, you may opt to channel your money into Employee Provident Fund (EPF), high yield savings accounts, or fixed deposits.

Low risk investment options
Employee Provident Fund (EPF)	EPF has a strong performance record over the years Not easily withdrawn before age of 55 Returns: 5-6% per annum in the last five years Minimum 2.5% per annum guaranteed returns for conventional accounts.
High yield savings	Tiered interest rates Generally applicable up to a specific amount Very liquid Returns: 1.8 – 2.2% per annum at maximum
Fixed deposits	Returns only paid out when deposits reach maturity Highly illiquid Returns: 3 to 4.8% per annum depending on the tenure (*subject to conditions from the bank)

Medium Risk Investors

If you have a medium risk appetite, you may consider Private Retirement Schemes (PRS), Real Estate Investment Trusts (REITs), or medium-risk unit trusts.

Medium risk investment options
Private Retirement Scheme (PRS)	Unit trust funds managed by PRS providers Returns not guaranteed Moderate risk of capital loss Returns: 6-10% per annum
Real Estate Investment Trusts (REITs)	Collective investment funds that invest in properties – residential, commercial, industrial, and retail REITs are incentivised to pay out high dividends Investors may gain profit through capital appreciation Returns vary largely depending on specific REITs
Unit Trust Funds	Collective investment in a diverse portfolio Managed by professional fund manager Low capital to requirement to start Incurs fees such as sales charges, platform fees, management charges, etc. Returns depend on portfolio and fund managers

High Risk Investors

If you have a high risk appetite, you may consider higher-risk investment options such as Exchange Traded Funds (ETFs), stock trading, and cryptocurrency.

High risk investment options
Exchange Traded Funds (ETFs)	Collective investment scheme similar to unit trusts Unlike unit trusts, not managed by fund managers Returns from dividends and capital appreciation Relatively low fees Returns depend on specific ETFs
Stock trading	Requires research and keeping up with financial health of various companies and markets Can be unpredictable and volatile Returns dependent on market performance and your ability to manage your portfolio Potentially high returns
Cryptocurrency	Very volatile and unpredictable Potentially high returns

*All figures found in the article are subject to change and are correct at the time of writing.

It’s important to remember that your risk appetite may fluctuate depending on changes in any of the factors mentioned above. So it’s always good practice to review your risk appetite periodically to ensure your investment portfolio is aligned accordingly.

Regardless of your risk appetite, there’s a unit trust for you. Contact our advisors here to kickstart your investment journey today.