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NISM Certifications · NISM-Series-X-A: Investment Adviser (Level 1) · Portfolio Construction Process

Rohit Menon, 35, has a stable government job, no dependants and a long horizon, and he has said he can tolerate large short-term losses. A Level 1 adviser notes that his risk tolerance is high. Which statement correctly describes how the adviser should treat this when setting risk for the portfolio?

The adviser should assess both willingness and ability to take risk and, where they differ, rely on the lower one. Willingness reflects attitude, while ability reflects financial capacity. Using only one could produce an unsuitable portfolio, so the more conservative of the two sets the risk level.

  1. AUse only his willingness to take risk, since ability is irrelevant
  2. BConsider both willingness and ability to take risk, and base the portfolio on the lower of the two if they differCorrect
  3. CUse only his ability to take risk, ignoring his stated attitude
  4. DAlways choose the highest-risk allocation available

Explanation

Risk tolerance has two parts: willingness (psychological) and ability (financial capacity). Where they conflict, the more conservative one should govern. Ignoring either part could lead to an unsuitable portfolio.

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