What\u2019s your risk tolerance? How do you identify it? Both are important questions that I doubt investors spend a ton of time thinking about at first. They\u2019re also abstract questions thanks to all the convoluted definitions of risk. During an interview, Daniel Kahneman was asked his thoughts about identifying risk tolerance. He suggested a better way to frame the question: what\u2019s your loss tolerance? How much loss can you endure before hitting the breakpoint where emotions push you to change your portfolio? By reframing it, Kahneman forces you to think in terms of Rupees, not percentages. That may not seem like a big difference, but emotions trigger in Rupees terms. Lost Rupees can be quickly equated to missed goals and dreams \u2014 less money to spend, a canceled vacation, a postponed retirement \u2014 that make you nauseous in ways that a percentage won\u2019t.<\/p>\n\n\n\n
Kahneman went on to explain its importance in minimizing regret and how\nto fit it into portfolio construction. <\/p>\n\n\n\n
The main question that he found useful to ask\nwhen someone is very wealthy is how much loss is the individual willing to\ntolerate? That is, what fraction of their wealth are they actually willing to\nlose? It turns out that fraction is usually not very large. That\u2019s a very\nimportant parameter. How much do they really want to protect as much as\npossible, and how much are they willing to consider losing? That varies a lot\namong individuals. By and large, the very wealthy mostly want to protect their\nwealth, and they\u2019re willing to play with a small fraction of it. That is the\nfraction they are prepared to lose, but it\u2019s not a large fraction. So they\u2019re\nloss averse, not risk as such. <\/p>\n\n\n\n
For the individual who is very concerned about losses, he thinks stop-loss order is certainly a good approach. That\u2019s the major question you want to ask the investor. How much are willing to lose? Then you have to take steps so that they won\u2019t lose more than they are willing to lose. That\u2019s in effect a stop-loss policy.<\/p>\n\n\n\n
Daniel Kahneman\u00a0is an\u00a0Israeli-American<\/a>\u00a0psychologist<\/a>\u00a0and\u00a0economist<\/a>. His notable work is in area of the\u00a0psychology<\/a>\u00a0of\u00a0judgment<\/a>\u00a0and\u00a0decision-making<\/a>, as well as\u00a0behavioral economics<\/a>. He was awarded the 2002\u00a0Nobel Memorial Prize in Economic Sciences<\/a>.<\/em><\/p>\n","protected":false},"excerpt":{"rendered":" What\u2019s your risk tolerance? How do you identify it? Both are important questions that I doubt investors spend a ton of time thinking about at first. They\u2019re also abstract questions thanks to all the convoluted definitions of risk. During an interview, Daniel Kahneman was asked his thoughts about identifying risk tolerance. He suggested a better […]<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":[],"categories":[1],"tags":[],"_links":{"self":[{"href":"https:\/\/www.assetmultiplier.co.in\/blog\/wp-json\/wp\/v2\/posts\/122"}],"collection":[{"href":"https:\/\/www.assetmultiplier.co.in\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.assetmultiplier.co.in\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.assetmultiplier.co.in\/blog\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/www.assetmultiplier.co.in\/blog\/wp-json\/wp\/v2\/comments?post=122"}],"version-history":[{"count":1,"href":"https:\/\/www.assetmultiplier.co.in\/blog\/wp-json\/wp\/v2\/posts\/122\/revisions"}],"predecessor-version":[{"id":123,"href":"https:\/\/www.assetmultiplier.co.in\/blog\/wp-json\/wp\/v2\/posts\/122\/revisions\/123"}],"wp:attachment":[{"href":"https:\/\/www.assetmultiplier.co.in\/blog\/wp-json\/wp\/v2\/media?parent=122"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.assetmultiplier.co.in\/blog\/wp-json\/wp\/v2\/categories?post=122"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.assetmultiplier.co.in\/blog\/wp-json\/wp\/v2\/tags?post=122"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}