Risk Capacity VS Risk Tolerance

Investments come with, risk at every step. Your understanding of your risks in investments lies in two important concepts called Risk capacity and Risk tolerance. Some may think that both terms have the same meaning. But they do not.

One is qualitative and the other is quantitative. They both together makeup your risk profile.

They help you define how much risk you can take emotionally and how much you can handle financially. They are two sides of the same coin; they appear similar, but they are not synonymous, yet they are closely linked to each other

Risk Capacity: It’s all about your financial capabilities

Risk Capacity can be defined as how much risk an individual or a business can take without compromising their financial stability.

Risk Capacity is a quantitative term which measures the extent to which an individual or a business can handle a loss.

Whether they can afford the possible loss made by an investment or whether you can handle the gamble of loss and profits, all these explain a person’s risk capacity.

It does not involve any emotional factors; it is purely dependent on facts.

It gives you the details on what your boundaries at risk are: How high you can take risks irrespective of what you want.

Risk Tolerance: It’s all about how much you can handle

Risk tolerance can be defined as how much risk an individual or business is willing to take without any fear.

It is a qualitative term which measures the extent to which the individual or a business is comfortable taking or withstanding risks without any fear.

Risk tolerance varies for each person; some people can be more daring and ready for high risks that may benefit or make them suffer huge losses.

While some can be a bit cowardly and not even willing to take light risks, that has a higher possibility of profiting their business significantly

It is purely dependent on one’s emotions and can be easily influenced by various factors like:

• Age
• Income
• Family
• Personality
• Gender etc.,

Risk tolerance can be both good and bad, but we can use it to our own advantage in decision making when you take risks, if we have perfect insight into our risk profile and behavior.

A Balanced Risk Profile: Why it matters?

Risk Capacity, Risk Tolerance, Risk Appetite - Each term depicts a different aspect of how you handle your risks.

Having the three terms balanced is a very crucial part of your risk profile cause:

• If you have high tolerance but low capacity, it means though you are ready to take high risks, your finances don’t allow it. This can be a deadly blow when you actually take the risk but are left unguarded due to your limited finances.
• If you have high capacity but low tolerance, it means though your finances enable you to take high risks, your fear holds you back from doing so. This can make you lose good opportunities that can make your growth improve faster.
• If you have a risk appetite that is larger than both your risk tolerance and risk capacity, meaning, that it is mandatory for you to take the leap of faith for the growth of your business, but both your mentality as well as finance doesn’t allow it.

A need for Professional:

This is why, having a Professional help can make your risk profile managing easier and trouble-free.

Here, @SNC our professionals will help you maintain a balanced risk profile and guide you to make decisions that bring profits to you.