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

Mr. Raghav Menon, aged 58, plans to retire at 60 and has a corpus that must fund his living expenses. He describes himself as 'aggressive' in a questionnaire and scores high on risk tolerance. His capacity for risk is low because of a short horizon and no other income. For asset allocation, what should the adviser primarily do?

The adviser should set risk on the lower of tolerance and capacity, which here is his low capacity, and explain the reasoning to the client. A short horizon and no other income mean losses could threaten essential expenses, so his aggressive self-description should not drive the allocation.

  1. ABase the allocation on his high tolerance because the client's own view prevails
  2. BAverage the two and ignore the reason for the difference
  3. CBase the allocation on the lower of the two, i.e. his low capacity, and explain whyCorrect
  4. DRecommend only equity since his horizon till death is long

Explanation

When tolerance exceeds capacity, the prudent approach is to size risk to the lower measure, here capacity, because losses could jeopardise essential retirement spending. The adviser should document and explain this to the client. Following tolerance alone ignores suitability, and averaging has no principled basis.

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