Usually, you are asked 15-20 questions like the one above to help determine your risk tolerance. From there, they create an asset allocation plan or an "investment pie" to determine where your money should be invested and how risky it can be. You probably aren't aware how important those questions can be. According to an independent Morningstar report, this one quiz determines where 90% of your investment return in your lifetime will come from. This is a pretty serious decision that most people see as a pop quiz making up part of your initial interview.
While this is important in the basis of modern portfolio theory and has created a lot of marketing material for the financial industry, the models often fail to display the true level of risk from these allocations and provide a false sense of security.
The idea that your risk tolerance can be measure by a questionnaire is at least debatable and it cannot and should not be used as the primary factor to expose you to risk in the biggest decision you have to make for your portfolio. Unfortunately the industry uses everyday and we have retirees that have lost 30% of their money justified by a 15 question pop quiz.
To hear the Smart Money Radio Show segment focused on this topic, Please Click Here! (about 7 minutes long)
To hear the full Smart Money Radio Show where Bruce discusses this topic and more, Please Click Here! (about 25 minutes long)
