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NISM Certifications · NISM-Series-X-B: Investment Adviser (Level 2) · Risk Profiling for Investors

Mr. Iyer, 58, has a very high risk tolerance score on a questionnaire, but he has only Rs 40 lakh in savings, retires in two years, and depends entirely on this corpus for living expenses. How should the adviser set the risk profile used for asset allocation?

The adviser should base the profile on the lower of risk tolerance and risk capacity. Mr. Iyer's short horizon, limited corpus and full dependence on it mean his capacity is low, so his high willingness to take risk should not drive the allocation.

  1. AUse the high tolerance score, because the client's own preference prevails
  2. BAverage the tolerance and capacity scores to get a moderate profile
  3. CUse the lower of tolerance and capacity, so the profile is constrained by his limited capacityCorrect
  4. DIgnore both and allocate fully to equity to build the corpus faster

Explanation

When tolerance exceeds capacity, prudent practice is to base the allocation on the lower of the two. Mr. Iyer cannot afford large losses with a short horizon and full dependence on the corpus. Averaging would still expose him to more risk than his capacity supports.

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