RESOURCES

How developed are your risk muscles?

risk-muscle-developed

 

Anyone is free to take risk. But just like how we need to build muscles for sports so that we maximize the benefits while protecting ourselves, we need risk-taking muscles too. Risk tends to get a bad rep because we focus on the negative outcome. It is like denouncing sports for the injuries it causes. In both risk and sports, we need to appreciate that the (to-be) risk taker is a protagonist. The protagonist plays an active role, not a passive one.

Why do we need to build muscles for risk-taking?

Our contradictions make us human. Innately, we are both risk-taking and risk-averse.

Our risk-taking tendencies have evolutionary origins. Since the beginning, our ancestors have been flexing their risk-taking muscles for survival. Primitive humans needed to venture out of the safety of their homes to hunt for food and/or socialise. With time, our ability to handle a myriad of decisions of risk grows more sophisticated as we continuously build our risk-taking muscle. Physiologically, risk is also associated with the pleasure-arousal domain of our brains too, which explains why we are inevitably drawn to risk [1].

Ironically, humans are also wired to be risk averse. In behavioural psychology, Prospect Theory describes how humans feel the pain of loss more acutely than the satisfaction of gain [2]. Thus we humans prefer to avoid risk so that we do not need to feel the pains of the loss.

Avoiding risks completely is however impractical. Risk taking isn’t just necessary for survival, it’s key to fulfilling our aspirations. For example, wealth accumulation enables us to reach our financial goals without which, we are susceptible to inflationary risk. Ultimately, the riskiest move is to not take any risks at all.

Paradoxically, our risk aversion is attributed to the same reason for our risk-taking tendencies: survival. Rather than being puppets of our survival mechanisms, we have the option to deliberate and strategize – the ability made possible with risk-taking muscles.

How to build those muscles for financial risks?

Well-developed risk-taking muscles enable us to assess if a financial risk is worth taking, prevent knee-jerk reactions and work out a strategy that prevents an uncontrollable downward spiral.

  1. Establish the floor

To build those muscles, we must have clarity over our risk limits. A direct and simple way is to establish our individual ‘floor’. For example, Mary’s floor would be the emergency and education funds put aside for her family and children respectively. Tom’s floor could be a percentage of his wealth that he is clear he cannot lose under all circumstances.

  1. Forecast your financial future

Having established the personal floor, we should have a reliable forecast of the uncontrollable risk events such as death, critical illness and market crashes, and their impact on our wealth (and floor). At 360F, our scenario simulation feature gives customers this transparency by stress testing their status quo financial state through some 10,000 scenarios that represent all conceivable personal and market risks specific to the individual’s profile. The output is a financial satisfaction score, also known as the HappiU, on a scale of 1 to 100. The lower the score, the more financially stressed the individual is expected to be in the future. The higher the score, the more likely the individual can fulfil his or her financial aspirations and yet able to maintain spending power or leave a legacy even during crises.

    3. Reduce uncertainties

Now that we have a clear view of not only our limits but also our likely hurdles, we can weed out the counterproductive risks by using insurance to transfer the risks away. While eliminating the effects of bad risks, we concurrently explore the healthy risks we need to take to achieve the financial aspirations. Traditionally, this requires time, deep advisory expertise and the luck of finding the right advisor.

To accelerate the building of the risk-taking muscles safely, we tap on intelligent technology. 360F’s solutioning engine which auto-customize solutioning suggestions that hedge the unwanted risks and introduce healthy risks as best reasonably possible. Such solutions are virtual bundles of insurance and investment plans, synergized together to give the individual the maximum improvement possible for his or her HappiU (financial satisfaction) score. The HappiU score reduces the uncertainty of taking risks as it factors in all possible outcomes as realistically as possible.

    4. Start small but progress with accountability

Starting the muscle building with small but incremental steps increases the chances of success. However this progression must be tracked and built with signals to steer us in the right direction. Again, technology comes into play. For example, 360F’s HappiU scoring system comes with insights-generation capability so that customers get self-explanatory pointers that they can apply immediately to improve their score.

Risk-taking in teamwork

Lastly, risk-taking is not a lonely activity. Our ancestors foraged for food as a team in the past as they stood a better chance with larger numbers and herein lies the importance of a financial advisor. Having a third-party to unmask the blind spots and hear the unsaid helps us to take better calculated risks and hedge uncontrollable risks. This enables one to build stronger risk-taking muscles and ultimately, fulfil their aspirations with a peace of mind.

 

Discuss more?

Drop us an eMail here: clarie.kwa@360f.com

 

Notes

[1] https://www.psychologytoday.com/sg/articles/199411/risk

[2] Kahneman, D. & Tversky, A. (1979). Prospect theory: An analysis of decision under risk by Daniel Kahneman and Amos Tversky. Econometrica. 47(2).

 

360