Risk Tolerance: Willingness Trumps Ability Except for..

Wealthy Independent? Is this from prior years? I thought willingness always trumps ability?

My understanding was you go with that’s most conservative

Most conservative, unless the investor does not fully recognize his willingness (saying one thing, but doing another), or the client is experienced in finance, in which case, you might take the average.

My understanding was also that you go with the most conservative of the two. I have seen and heard that said many times in theSchweser videos and I’m sure the curriculum stats it multiple times…

Principle is that willingness leads all the way through.

The difference I see for a a wealthy independent is that despite he is ahead with age he can still be significantly exposed with stocks cause

he has no liquidity requirements and still a long term life expectancy.

Haha this is a pretty big thing for us all to be disagreeing about so close to the exam…more evidence of why I’m hating level 3!!

Willingness trumps ability IF the client has good financial knowledge, and you the adviser make it clear that his risk objectives surpasses his ability to handle risk.

WIth regards to the post above, there is no right or wrong answer as long as it’s properly justified. You could take the average, the most conservative, or even the willingness evaluation, as long as the question provides evidence, you write it down, and you explain why you chose that approach.

Well I am going to stick with the most conservative of the two…I have seen that metnioned repeatedly throughout several providers materials and it makes the most sense to me.

I’m afraid shortcuts can jeporadize your answers.

For example, a client that has inherited $x, has a lot of debt to pay, and has a wife who may need an expensive medical treatment soon due to a serious illness.

The client has expressed the need to make a lot of money in order to cover any urgent expenses, pay off his mounting debt, and grow capital in real terms to leave inheritance to his children.

Now the client obviously has a low tolerance for risk (urgency of goals, liquidity constratints), but expressed a high willingness to take risk. The financial adviser needs to educate the client on the basics of risks and return, clearly outline the unrealistic objectives, and reconcile any differences between his ability and willingness to take risks.

This is a much better answer than simply being conservative and failing to cover his debt obligations with returns, keeping a big cash drag margin, and barely hedging agianst inflation. Now that the investor is more aware about the conflict in his return and risk objectives, you can either re-write the objectives to more realistic targets, or simply let the investor write a disclosure agreement about the risks involved for meeting the original returrn objectives. Setting his risk objective as low tolerance would not only be inconsistent with return objectives, but unalligned with the client’s requests.

I’m yet to see a model CFAI answer that delves that deep…

yes maybe there is … but you need to again do a risk return analysis in terms of time on the question, getting full points on that one question and because you spent more than the allocated time here - the fact that you could run out of time elsewhere.

you need to be in a state of mind to write the minimally perfect answer in the time allocated - and look to revise / edit your answer if you had time later…

that boils down to the essence of level III…

I need to see it in cfai before I change from most conservative.

low willingness, high abilitity. unable to reach goals -> educate the client & go with higher.

low willingness, high abilitity. goals met -> adapt portfolio to biases, go with lower.

Yes I can see how this definitely makes sense once you add in the “goals not met” caveat.

Where is this in reading? If the client can not make goals and is unwilling. Then educating client so that he is more willing makes sense. However if after education the client is unwilling to either adjust risk tolerance or goals, I would be cautious.

middle of page 83

definitely the more conservative of the two. if the client is willing to take risk hihger than his ability, he needs to be educated about his ability. If the client could take more risk but would not like to do so, then you should respect his willingness.