In the world of investing, volatility is a norm. Markets rise and fall, and even the most seasoned investors can find themselves gripped by fear in the face of sharp declines. Many investors say they are comfortable with risk, until the market drops 30%. That’s when the real test begins. In the course of my near three-decade career, I have seen this with my own eyes.
In such moments, whether one stays invested or panics and sells often hinges on something far more personal than market data: their personal risk tolerance. Because the real danger is not market volatility. It’s the mismatch between how much risk a person thinks they can take and how much they can actually live with when things go south. When a portfolio’s risk level is misaligned with the investor’s profile, they are more likely to abandon it during market downturns, often locking in losses and derailing their long-term goals.
Determining an investor’s true risk profile is a very complex exercise and cannot be derived merely from a multiple-choice questionnaire. It is difficult to get it perfectly correct but doing it well will ensure that we build suitable portfolios for investors or ourselves.
The Purpose of Risk Profiling
Risk profiling is often misunderstood as a regulatory checkbox or a theoretical exercise. But in truth, it is one of the most critical components in wealth planning. Because after the initial discovery session, all of the investor’s ikigai goals, financial situation based on his assets, liabilities, income and expenses, etc., needs to be reduced to this – his risk appetite. And this is not about avoiding risk altogether, but about taking the right amount of risk, one that is appropriate, intentional, and aligned with the investor’s overall plan. Since developing our framework for assessing risk in 2004, we have had many sessions of intense debates over the years on how we can better assess our clients’ risk appetite and construct appropriate portfolios to match them.
The Three Pillars of Risk Assessment
When we assess an investor’s risk appetite, we must go beyond a superficial scoring system. True risk assessment involves deeply understanding three key dimensions: need, ability, and willingness to take risk. Each one matters, and together they form the basis for determining the appropriate asset allocation.
- Need to Take Risk
This is about the return the investor objectively needs to achieve each of their goals. For instance, if someone has already accumulated sufficient assets to meet their desired lifestyle, they may not need as high a return to reach their goal. Taking on more equity exposure (and thus more risk) than necessary exposes them to unnecessary stress and downside.
On the other hand, a younger investor with a long runway and ambitious goals may need to take more equity exposure (and thus more risk) to build wealth over time. But even then, the need must be balanced with their capacity and comfort with volatility.
- Ability to Take Risk
This refers to the objective financial capacity to absorb possible losses in the short term. Factors such as time horizon, income stability, liquidity needs, financial health, insurance coverage adequacy and buffer assets all influence an investor’s ability to endure short-term fluctuations without having to exit the market prematurely.
For example, a 35-year-old professional with a stable income, no dependents, and a long investment horizon may have a high ability to take risk even if emotionally they are more conservative. Conversely, a similar person with poor financial health, short time horizon and high liquidity needs will have a low ability to take risk, even if psychologically, they are prepared to take more risk.
- Willingness to Take Risk
This is the subjective, emotional side of risk tolerance. It reflects how comfortable the person is with market ups and downs. Are they able to sleep at night when markets are falling? How did they react during previous downturns? Do they check their portfolio obsessively or take a long-term view?
In our experience, this is often the hardest to assess. Many investors overestimate their tolerance when markets are calm, only to discover their true limits during turbulent periods. This is where skilled, contextual listening comes in. While risk questionnaires serve a purpose here, they are at best a starting point. Understanding an investor’s stories, fears, and financial history provides better insight than any form can. An investor’s investment knowledge also contributes to his willingness to take risk.
Furthermore, risk questionnaire is static, and answers given tend to be influenced by recent market experiences. An investor might score “aggressive” after a long bull market, only to panic when the next crash arrives.
Advisers must interpret these tools in the context of real-life conversations. A meaningful risk profile emerges from asking the right questions, listening deeply, and understanding the person behind the answers.
Life Happens Beyond the Initial Profile
Even the most skilled and thorough risk assessment isn’t permanent. Life changes, and so should the portfolio. A sudden job loss, the birth of a child, a health diagnosis, or the sale of a business can drastically shift an investor’s need, ability, or willingness to take risk. For example, a person might have a high risk tolerance in their 40s, but after a major life event, like the death of a spouse, that tolerance may understandably decline.
That’s why assessing risk tolerance should never be a one-time exercise. It must be reviewed regularly, not just as a compliance step but as part of a lifelong conversation in a relationship. A portfolio is not a product to be bought and forgotten, it is a reflection of a person’s evolving life. That means a wealth plan must be a living document that can be tweaked.
The goal of risk profiling must not be to tick a compliance checkbox. It is to ensure the investor’s portfolio is built in a way that supports their life, values, and goals, even in times of uncertainty. A portfolio must be one that they can stay invested in and get the returns they need.
This is where a trusted adviser makes the greatest difference, not in predicting the next market move, but in making a judgement call after knowing the person and then adjusting the plan as life unfolds.
Risk profiling, done right, is the quiet cornerstone of a sound investment plan. It is not a formality, but a relationship-building process that honours the complexity and uniqueness of every individual. This is why I do not believe that technology alone can replace good wealth advice.
A well-constructed investment portfolio isn’t just about chasing returns. It is about ensuring the investor can remain invested through thick and thin. To do that, we must start with the right understanding of risk and what it means to the individual, and how much of it they can and should take. This is a lifelong conversation.
The writer, Christopher Tan, is Chief Executive Officer of Providend Ltd, Southeast Asia’s first fee-only comprehensive wealth advisory firm and author of the book “Money Wisdom: Simple Truths for Financial Wellness“. He is also a Certified Ikigai Tribe Coach.
The edited version of this article was published in The Business Times on 21 July 2025.
For more related resources, check out:
1. The Heart of the Matter Is the Matter of the Heart
2. 8 Steps to Achieve the Highest Probability of Success in Money and Life
3. How Risky Is Your Personal Wealth Plan?
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