Risk-Profiling: Understanding Your Risk Tolerance

Every unit trust investor has different tolerance levels towards investment risk and this may
change over time depending on the individuals age and financial circumstances. The amount
of risk an investor is willing and able to accept is known as his/her risk profile.

Before an investment portfolio can be constructed, it is important for the unit trust investor to
first understand and identify his/her risk profile. This will help to determine the asset
allocation (among equities, fixed income and money market securities) that is appropriate for
the investors specific needs and risk acceptance levels.

The most commonly-used risk profiling tool1 is a formal questionnaire that requires a unit
trust investor to answer a series of questions regarding his/her age, education level, financial
position, investment experience, investment objective and risk tolerance, among others.
Based on the information provided, an assessment result will be generated specifying the risk
level (ranging from very low to very high) as well as the types of unit trust funds (e.g. equity
funds, bond funds, money market funds etc.) that suit the individuals risk profile.

Key Factors That Affect an Investors Risk Profile

i) Age and Income
Age and income levels are among the most important factors to consider when determining
ones risk profile. Young working adults with stable income have a longer investment
horizon and are in a better position to ride out the ups and downs of equity markets. As young
investors can stay invested for a longer period, they generally have enough time to recover
from an unexpected market downturn. In comparison, retirees who depend on pension money
as their source of income may have a limited investment horizon to ride out market volatility.

ii) Risk Tolerance

Risk tolerance is the level of risk which investors feel comfortable taking and more
importantly, can afford to take. A key question that investors must ask themselves before
investing is how they might respond to an unexpected fall in the value of their investments.
For investors who are not comfortable with the thought of making short-term market losses, a
majority of their portfolios should be allocated to fixed income / bond funds to minimise their
exposure to a major pullback in equity markets. Conversely, investors who are willing and
able to withstand substantial market losses in pursuit of high capital growth may invest in
higher-risk instruments that suit their risk profiles.

iii) Investment Objective

An investors investment objective is mostly influenced by his/her age, risk tolerance,
financial priorities and return expectations. For instance, the investment goal of a young
investor who is several decades away from retirement will be different from that of a retiree.
Younger investors may seek capital growth as they are able to tolerate some fluctuations in
the value of their investments in order to achieve potentially higher returns in the long run.
However, investors in retirement may prefer capital preservation and regular income more
than capital growth.

1
For Public Mutual, the risk profiling tool is known as the Suitability Assessment form.
 Risk Profile Categories
Generally, the risk profiles of unit trust investors can be divided into five categories (Table 1).
Table 1: Risk Profile Categories
Risk
Description Types of Funds
Level
1 Very low Investment objective: To preserve capital Money market
Investors characteristics: funds
Main priority is to safeguard investment capital
Prepared to accept very minimal risk of capital loss,
even if it means minimal and very low returns
Investment horizon: 1 to 2 years
2 Low to Investment objective: To achieve income / returns that are Bond funds /
moderate slightly better than bank deposit rates Fixed income
Investors characteristics: funds
Primary goal remains capital protection
Can tolerate the risk of small capital losses in order
to achieve returns that are potentially higher than
banks fixed deposit rates
Require fairly stable income growth over the medium
term
Investment horizon: More than 3 years
3 Moderate Investment objective: To achieve moderate capital growth Domestic
to high Investors characteristics: balanced funds /
Understand that they have to take investment risk to Mixed asset
meet long-term goals conservative
Can tolerate the risk of moderate capital losses in funds
order to achieve moderate returns over the long term
Do not require access to the funds income in the
short to medium term
Investment horizon: More than 5 years
4 High Investment objective: To achieve high capital growth Balanced funds /
Investors key characteristics: Mixed asset
Understand the nature of long-term risk-return trade- growth funds /
off Domestic equity
Can tolerate the risk of high capital losses in order to funds
pursue high returns over the long term
Do not require access to the funds income in the
short to medium term
Investment horizon: 5 to 10 years
5 Very Investment objective: To optimise capital growth Tactical funds /
high Investors characteristics: Small cap funds /
Can tolerate the risk of very high capital losses over Foreign equity
the long term in order to pursue the potential for very funds
high returns over the long term
Do not require access to the funds income in the
medium to long term
Investment horizon: More than 10 years
Importance of Risk Profiling Before Investing
Unit trust investors who do not perform proper risk profiling prior to investing may end up
selecting investment products that do not match their needs, resulting in them taking too
much or too little risk in their investments.

For example, a unit trust investor nearing retirement may wish to achieve high capital growth
in his investments because he perceives himself to be having an aggressive risk profile. The
investor may opt to invest in high-growth equity funds without evaluating his risk tolerance
and near-term retirement needs. In the event of a decline in equity markets, this investor may
not be able to endure the potential losses in his investments.

In this situation, it may be more suitable for the investor to allocate a higher proportion of his
portfolio to fixed income / bond funds, which are generally less volatile than equity funds and
able to provide a regular income stream to meet his retirement needs.

Thus, it is important for unit trust investors to undergo a proper and objective risk evaluation
process to ascertain their actual risk tolerance levels before making any investment decisions.

Investors are also advised to review their investment portfolios regularly, especially when
their investment needs and / or financial circumstances change. A revisit of their risk profiles
is essential to ensure that their portfolios are adjusted in line with changes in their financial
needs and situations.

This material is prepared solely for educational and awareness purposes and should not be
construed as an offer or a solicitation of an offer to purchase or subscribe to products offered
by Public Mutual. No representation or warranty is made by Public Mutual, nor is there
acceptance of any responsibility or liability as to the accuracy, completeness or correctness
of the information contained herein.