An investor has low risk capacity when their liabilities are greater than their non-investible assets (properties, vehicles, valuable collectibles) and/or their expenditures exceed their incomes. Therefore, someone who has substantial debts and is decumulating will have low risk capacity.
As a client’s investible assets (cash, investment and pensions accounts) increase, they will be less reliant on these assets to make up the shortfalls in their future cashflows or debts, and so their suitable risk level will be more in line with their risk tolerance. This can give the appearance that a wealthier client has lower risk capacity than a client who is less wealthy.
The Oxford Risk methodology calculates risk capacity for the entirety of the client’s investible assets. If you are not sure why your client has been given a low risk capacity score, you might want to review the following.
The client’s income/expenditure frequency and start/end dates.
If the client’s expenditure is set as monthly where it should be annually, the client will have a much higher expenditure than income, which will bring down their risk capacity score. Ensure that amounts and frequencies for incomes and expenditures are accurate.
Clients who are decumulating wealth will have a lower risk capacity than clients who are accumulating. If a client has income that ends in the near future while their expenditure continues indefinitely at the same level, this will also decrease their risk capacity score. If the client intends to reduce expenditure post-retirement, ensure this is also reflected.
The client’s income and non-investible assets have been captured fully.
Risk capacity is calculated using the net future cashflows, so entering accurate income is important. You don’t need to capture every detail, but make sure that the most important incomes are properly estimated and have sensible start and end dates. If the client has non-investible assets, include the most important ones.