Forum for Science, Industry and Business

Sponsored by:     3M 
Search our Site:

 

New measure helps determine how much risk investors can tolerate

26.01.2005


An Ohio State University researcher has helped develop a new measure that he says is a better way to calculate how much risk people are willing to take in their investments.



The issue of measuring risk tolerance will become more important than ever under President Bush’s proposal to allow Americans to invest some of their Social Security taxes in stocks and bonds.

Measuring risk tolerance will also be important to baby boomers retiring in the next decade, some of whom will spend 30 years or more in retirement and will have to decide how to allocate investment portfolios. “Financial planners agree that measuring risk tolerance in their clients is important, but there has been no generally accepted way to do that,” said Sherman Hanna, co-author of the new measure and professor of consumer sciences at Ohio State. “A lot of the measures that are used are based on intuition and are not backed by solid research.”


In addition, many of the currently used measures ask questions that are so complex that it is doubtful people fully understand them, Hanna said. The result is that many surveys measuring risk tolerance among investors come up with findings that don’t seem plausible, he said. For example, one widely quoted survey found that nearly one-fourth of respondents aged 51 to 61 – nearing retirement age and presumably interested in protecting their investments – had very high risk tolerance, suggesting that they would be willing to take great risks with their portfolios.

The new measure, and a study testing it, are published in the current issue of the journal Financial Counseling and Planning. Hanna said the new measure responds to the shortcomings in other surveys in several ways. It uses a series of questions which, unlike most other measures, are based on economic theory about risk aversion as it relates to optimal investment portfolios.

The questions give respondents hypothetical scenarios in which they have to choose between pensions that offer varying amounts of risk. For example, one question asks respondents to choose between two pensions: One will provide a pension income equal to pre-retirement income. The other has a 50-percent chance it will double pre-retirement income and a 50-percent chance that income will be 20 percent less than pre-retirement income.

Questions like this can be difficult to understand for some people as they try to keep all the numbers in their heads, Hanna said. So the new survey presents these options using bar charts to graphically show potential increases or decreases in investment value resulting from investment decisions. “Using illustrations increases the chance that a person will understand the hypothetical choices and give a response better related to his or her true level of risk tolerance,” he said.

The researchers tested the new measure with a sample of 152 Ohio State students. The results seem more reasonable than other surveys, Hanna said. Most respondents had risk-tolerance levels consistent with an all-stock retirement portfolio until middle age, then stock allocations decreasing to about 40 percent by retirement. Compared to previous surveys, this is more in line with what most financial planners would recommend for young investors. “I believe showing options with illustrations makes it easier to understand the choice you’re making, so the results are better,” he said.

In order to further test the validity of the new measure, the researchers also asked the student respondents a risk-tolerance question that has been used each year in the national Survey of Consumer Finances (SCF) sponsored by the Federal Reserve Board.

The results showed a strong correlation between the students’ answers on the new measure and on the SCF risk aversion question.

“While we believe our new measure does a better job than the SCF question at measuring risk tolerance, it was reassuring that there was some correlation between the results of the two measures,” Hanna said.

The survey needs to be repeated with a larger, more diverse sample in order to validate it with people of all ages, he said. Anyone can take the survey on the web at: http://hec.osu.edu/people/shanna/rts/

“People need to understand their level of risk tolerance in order to make the proper investment decisions,” Hanna said. “We need to find the best possible measures in order to help people make their decisions.”

Sherman Hanna | EurekAlert!
Further information:
http://www.osu.edu

More articles from Business and Finance:

nachricht How Strong Brands Translate into Money
15.11.2016 | Kühne Logistics University - Wissenschaftliche Hochschule für Logistik und Unternehmensführung

nachricht Demographic change depresses tax revenues
04.11.2016 | Fraunhofer-Institut für Angewandte Informationstechnik FIT

All articles from Business and Finance >>>

The most recent press releases about innovation >>>

Die letzten 5 Focus-News des innovations-reports im Überblick:

Im Focus: Designing Architecture with Solar Building Envelopes

Among the general public, solar thermal energy is currently associated with dark blue, rectangular collectors on building roofs. Technologies are needed for aesthetically high quality architecture which offer the architect more room for manoeuvre when it comes to low- and plus-energy buildings. With the “ArKol” project, researchers at Fraunhofer ISE together with partners are currently developing two façade collectors for solar thermal energy generation, which permit a high degree of design flexibility: a strip collector for opaque façade sections and a solar thermal blind for transparent sections. The current state of the two developments will be presented at the BAU 2017 trade fair.

As part of the “ArKol – development of architecturally highly integrated façade collectors with heat pipes” project, Fraunhofer ISE together with its partners...

Im Focus: How to inflate a hardened concrete shell with a weight of 80 t

At TU Wien, an alternative for resource intensive formwork for the construction of concrete domes was developed. It is now used in a test dome for the Austrian Federal Railways Infrastructure (ÖBB Infrastruktur).

Concrete shells are efficient structures, but not very resource efficient. The formwork for the construction of concrete domes alone requires a high amount of...

Im Focus: Bacterial Pac Man molecule snaps at sugar

Many pathogens use certain sugar compounds from their host to help conceal themselves against the immune system. Scientists at the University of Bonn have now, in cooperation with researchers at the University of York in the United Kingdom, analyzed the dynamics of a bacterial molecule that is involved in this process. They demonstrate that the protein grabs onto the sugar molecule with a Pac Man-like chewing motion and holds it until it can be used. Their results could help design therapeutics that could make the protein poorer at grabbing and holding and hence compromise the pathogen in the host. The study has now been published in “Biophysical Journal”.

The cells of the mouth, nose and intestinal mucosa produce large quantities of a chemical called sialic acid. Many bacteria possess a special transport system...

Im Focus: Newly proposed reference datasets improve weather satellite data quality

UMD, NOAA collaboration demonstrates suitability of in-orbit datasets for weather satellite calibration

"Traffic and weather, together on the hour!" blasts your local radio station, while your smartphone knows the weather halfway across the world. A network of...

Im Focus: Repairing defects in fiber-reinforced plastics more efficiently

Fiber-reinforced plastics (FRP) are frequently used in the aeronautic and automobile industry. However, the repair of workpieces made of these composite materials is often less profitable than exchanging the part. In order to increase the lifetime of FRP parts and to make them more eco-efficient, the Laser Zentrum Hannover e.V. (LZH) and the Apodius GmbH want to combine a new measuring device for fiber layer orientation with an innovative laser-based repair process.

Defects in FRP pieces may be production or operation-related. Whether or not repair is cost-effective depends on the geometry of the defective area, the tools...

All Focus news of the innovation-report >>>

Anzeige

Anzeige

Event News

12V, 48V, high-voltage – trends in E/E automotive architecture

10.01.2017 | Event News

2nd Conference on Non-Textual Information on 10 and 11 May 2017 in Hannover

09.01.2017 | Event News

Nothing will happen without batteries making it happen!

05.01.2017 | Event News

 
Latest News

Multiregional brain on a chip

16.01.2017 | Power and Electrical Engineering

New technology enables 5-D imaging in live animals, humans

16.01.2017 | Information Technology

Researchers develop environmentally friendly soy air filter

16.01.2017 | Power and Electrical Engineering

VideoLinks
B2B-VideoLinks
More VideoLinks >>>