Being an investor is much more than just investing, it requires you to determine your investor profile. In order to be a successful and seasoned investor, you must initially determine what sort of investor you are. To do so, evaluate some key factors regarding your investment personality that allow you to define your investor profile.
A few factors influence your investor profile, and they can deeply influence how you should conduct each of your investments. It is important to determine for how long you want to invest, as well as the type of investments you want to make based on your investor profile.
Your investment objectives, along with your risk appetite and your expected returns, should all be considered. As it will affect the investment strategy, you will choose to implement.
What is an investor profile?
An Investor Profile is a description of a person's financial objectives, financial condition, investment timeframe, and overall risk profile. It describes how much risk an investor is ready to tolerate, as well as the returns he expects.
Since each asset class, and each investment strategy, involves a varying amount of risk, an investor and a financial adviser can collaborate to choose where to deploy funds depending on the investor’s profile. A careful analysis of an investor’s profile will determine how much capital should be invested, as well as the assets to invest in based on the profile, and which investment strategy should be employed.
Although an investor profile is usually determined by a financial advisor, retail investors might also determine their investor profile on their own.
What factors determine an investor's profile?
In order to determine your investor profile, a financial advisor will often ask the investor a few questions. The goal is to assert a few important components of the overall investor profile. Here are a few key factors that should be considered:
- Personal and financial circumstances
- Investment goals
- Investment horizon
- Risk profile
- Investment knowledge
Personal and financial circumstances
It is crucial that an investor’s financial and personal circumstances are evaluated before even advising or investing. There are several things that should be considered before investing, and personal finances and personal circumstances are a major part of determining your investor profile.
Foremost, it is important to determine the available capital to invest. The amount of capital that the investor wants to invest can deeply influence his investor profile. Then it should also be considered the age and the period of life the investor is going through.
Someone approaching retirement might not be able to take the same risks, as someone in their 20s or 30s. It is also important to know if they will need some funds intended for investment in the short to medium term.
Determining investment goals is another important step in defining an investor’s profile. Everyone has different goals, and when it comes to investing they vary a lot. Therefore, an investor should be able to define what his goals are. It will then consider this in combination with all the other factors to determine the best investment strategy based on the specific goals.
Some investors might look to invest in order to create a retirement fund. Others might look to earn a modest return on their capital without exposing themselves to risk. Knowing the investment goals will also be helpful in determining the investment horizon.
An investor’s personal and financial circumstances, as well as the investment goals, will directly affect what his investment horizon will be. This will determine the type of investment strategy that is employed, and the returns that are expected.
In order to determine the investment horizon, investors need to understand if it is investing for the short-term, medium-term, or long-term. Certain investment strategies are a suitable solution for the short-term but they are inefficient for the long term. Let us consider a situation where the investor will need some of the money in 1 or 2 years. In this case, risk should be avoided, and perhaps an investment in treasuries should be the best option. However, over the medium and long-term investing in treasuries will not guarantee an adequate return.
Therefore, it is of the utmost importance that an investor considers these factors when crafting the best investment approach for an individual
The risk profile also plays an important role when determining an investor’s profile. In fact, this is perhaps one of the most defining characteristics for an investor. Some investors will handle volatility, and the value of their portfolio collapses overnight. Others cannot stand this, and for that reason, the investment strategy needs to be adapted.
Risk tolerance is based on an investor’s ability to deal with the consequences of inherent risk. Its ability to deal with price fluctuations and portfolio volatility will then affect the investment strategy. Affecting the assets he invests in.
Risk capacity focuses on the risks an investor can take based on his personal and financial circumstances. This is another component of defining the risk profile.
It should also be considered risk required, which is related to the amount of risk an investor needs to take to achieve his desired returns. This means that in order to achieve the initially established financial goals, a certain amount of risk must be taken. Therefore, it needs to be considered in order to choose the most appropriate investment strategy.
These risk factors should be considered. Ideally, an investor should have a strategy that encompasses all of them. Making sure that his investments will reach his financial goals, without exposing him to risks that he can’t take based on his circumstances and his ability to tolerate risk.
This is also another often-overlooked factor that should also be considered. The level of knowledge an investor has about the markets. Its understanding of different investment vehicles should also be considered - to implement the right investment strategy. Make sure that the investments made on behalf of the investor are appropriate for his level of knowledge and expertise about the market.
Some individuals are not aware of all the financial products available, and some are on the opposite spectrum and are experts in that field. Adapting an investment strategy based on the investor’s profile and knowledge is also something to consider.
Investment strategy based on the investor’s profile
Once the investor profile has been asserted, there are three major categories on which it could fall upon.
An aggressive investor will often have extensive knowledge about the market, and the different financial products at its disposal. These individuals also have a longer investment horizon, and high tolerance, and capacity towards risk.
Therefore, they will invest in far riskier products, and take on more risks than more conservative investors. Aggressive investors will also have a higher expected return, and they will expose themselves to certain risks in order to achieve their financial goals. Aggressive investors' aim is to accumulate capital at any cost.
Moderate investors are among the most common types of investors. These are individuals that are looking to achieve their financial goals while taking some risk. Combining some knowledge they have of securities and markets, with a medium risk profile. They are also usually able to take some risks but will avoid exposing their portfolios to highly volatile financial instruments.
Moderate investors also have a medium-term investment horizon. These types of investors are often looking to preserve and also accumulate capital. Therefore, they will take some risks, but they will not expose all of their portfolio to investments with a higher risk.
Conservative investors are extremely risk-averse. These types of investors will often focus solely on the preservation of capital. This means that they are not willing to risk their capital in search of higher returns. Conservative investors also have a shorter investment horizon, therefore they do not want to put their capital at risk.
Conservative investors are extremely cautious with their capital and how they will use it. They also are individuals approaching retirement age, or already retired. They will jeopardize their current lifestyle in order to chase higher returns.
Investor Profile Questionnaire
In order to determine your investor profile, a set of questions is often used. These questions are helpful in determining the factors that affect an investor’s profile. Here is an example of an investor profile questionnaire.
Personal and financial information
- What is your age?
❑ 30 and under
❑ 31 to 40
❑ 41 to 50
❑ 51 to 65
❑ Over 65
- What is your annual household income?
❑ Less than $50,000
❑ $50,000 to $100,000
❑ $100,000 to $150,000
❑ $150,000 to $200,000
❑ Over $200,000
- How would you classify your financial situation?
❑ Significant debt without savings
❑ Little savings and a fair amount of debt
❑ Some savings and some debts
❑ Save regularly and have paid off most debts
❑ Few debts and financially secure
Investment objectives and risk profile
- What is your primary investment aim?
❑ Preserve capital
❑ Generate maximum income with modest asset growth
❑ Achieve moderate growth and income
❑ Achieve strong asset growth with modest income
❑ Reach maximum asset growth
- How long are you planning to invest before withdrawing all or a portion of your capital?
❑ 0 – 5 years
❑ 6 – 10 years
❑ 11 – 15 years
❑ 16 – 20 years
❑ 21 – 25 years
❑ 25 years or more
- Given your financial objectives, how much risk (volatility) are you willing to assume to reach your portfolio’s expected return?
❑ Low volatility, since you require positive returns each year
❑ Low to medium volatility. Such as negative returns in 1 of every 8 years
❑ Medium volatility. Such as negative returns in 1 of every 6 years
❑ Medium to high volatility. Such as negative returns in 1 of every 5 years
❑ High volatility. Such as negative returns in 1 of every 4 years
- How much of a temporary decrease in your investment portfolio could you tolerate over a one-year period?
❑ -15% or more
Investment knowledge and experience
- How would you describe your knowledge of investment?
❑ Very limited knowledge
❑ Basic knowledge and minimal experience
❑ Excellent knowledge and some investment experience
❑ Expert knowledge and experience
❑ Advanced knowledge and extensive experience
- What do you estimate the long-term average annual return on your investment portfolio to be, before taxes but after inflation?
❑ 0% to 2%
❑ 1% to 3%
❑ 4% to 7%
❑ 5% to 9%
❑ Over 9%
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