Tuesday, July 25, 2006

Use free tool to match portfolio with your risk tolerance

Use free tool to match portfolio with your risk tolerance
Copyright by The Chicago Tribune
Janet Kidd Stewart
Published July 23, 2006

William Goff is no stranger to choppy financial markets.

The 51-year-old private investor, a former Treasury bond trader, has the 1987 stock market crash and the bursting of the Internet bubble in 2000 under his belt, as well as many years of positive returns.

And yet despite that experience--or perhaps because of it--the Cleveland-area man recently discovered a mismatch between his actual portfolio and his professed risk tolerance. If 50 really is the new 30, he figures, he needs to devote significant chunks of his investments to higher-risk asset classes.

Intuitively, Goff knew he had a significant portion of his long-term investments in the stocks of companies with large market capitalizations, but it didn't really hit home until he ran a diagnostic tool on his portfolio.

"I had a lot of large-caps, and was light on international. I was at 9 percent international, and I would like to be at about 20 percent," he said. "When you actually put numbers to it, it looks a lot different."

With the current market conditions, many investors are reassessing their risk tolerance. New tools are available to help them determine how their portfolio stacks up against their true attitudes, even as many advisers are urging them not to overreact to the downturn in stocks.

Goff's discount broker, E-Trade Financial Corp., recently added Web site tools licensed from RiskMetrics Group (www.riskmetrics.com) that assign a volatility measure to client portfolios. The tools are free on the RiskMetrics site, but companies like E-Trade incorporate them so clients can automatically download their portfolio data without having to key in each investment.

Some firms believe the quantitative risk measures are doing more for investors than lengthy questionnaires designed to determine an investor's risk tolerance.

Recently, Northern Trust bought a suite of RiskMetrics tools for advisers to wealthy clients. The tools, expected to be available to clients beginning in October, will offer higher quantitative firepower for determining risk, said John Skjervem, chief investment officer for the bank's Personal Financial Services Group.

"I used to spend hours in conference rooms talking with clients about standard deviation and risk versus return," Skjervem said. "They would nod their heads, but it was very conceptual."

Now, using computer simulation models, the tools can project various scenarios for a given portfolio in actual dollar amounts. "It's much more tangible. Clients get religion about risk," he said.

Officials at E-Trade ran their model asset allocation portfolios through the RiskMetrics tool to determine some benchmark risk numbers to which investors could compare their own retirement portfolios. The lower the number means less risk.

Here's what they found:

- The company's "preservation of principal" portfolio--essentially for people already well into retirement with very little risk tolerance--scored a RiskGrade of 11.

- A balanced allocation of 60 percent stocks and 40 percent bonds and cash scored a grade of 27.

- A growth portfolio of 90 percent stocks scored 41.

- And an aggressive growth portfolio of all stocks--designed for younger investors with a long time until retirement--scored a 45.

If you're not an E-Trade customer you can go to the RiskMetrics Web site and see how your own portfolio compares.

The biggest advantage to the tools lies in making sure investors' portfolios match up to their true appetite for risk, which still involves some amount of emotional gut check, said Northern's Skjervem.

It's inevitable that some investors will change their risk tune when financial markets plunge. What he tries to do in those cases is get investors to understand that pulling back--or pulling out of stocks in a downturn--comes with its own risk of not participating in the eventual upswing


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