B
y Vasyl Soloshchuk, CEO and Co-Owner at INSART
Portfolio management is the process of making decisions about investments so that the investor’s goals can be achieved. The process includes the following procedures:
- Enable an investor to fill out a questionnaire.
- Determine investor profile.
- Build investment strategy.
- Offer asset allocation based on market data and gathered information about the investor.
- Provide ongoing performance monitoring, rebalancing, portfolio review, and adjustment.
Below, you will find a detailed analysis of these steps, some recommendations concerning related issues, and examples of implementations by existing digital financial advisors.
Questionnaires and Investor Profiling
Enabling an investor to fill out a questionnaire is the first essential step that allows the financial advisor (human or digital) to get to know the investor. The more information the system receives, the more accurate the investor profile it will build and the more relevant the investment strategy it will develop.
When answering the questionnaire, the investor shares information about the following:
- Their financial circumstances, goals, and time horizon*;
- Their risk tolerance** and investment experience;
- Their investment preferences.
To obtain accurate answers, the questions should not be highly specialized. For example, inexperienced investors not familiar with financial terminology are unlikely to be able to give useful answers to questions such as “How much volatility are you willing to take for ‘X’ return?” because they will not understand what this means for long-term investments, and will assess the possible risk incorrectly.
To identify suitable questions for such investors, the following techniques may be used:
- Provide examples so that the investor can better perceive the real situation.
Vanguard uses the crisis of 2008 to help investors understand or remember the facts:
- Visualize possible results to help the investor see the possible, most dramatic, and best alternatives.
E-Trade uses line graphs:
Wealth Management LLC offers bar charts:
Charles Schwab provides tables:
- Use details and explanations so that the investor can clearly understand the exact meaning of each choice.
Merrill Edge explains the meaning of certain terms and offers detailed explanations:
E-Trade offers additional clarifications to ensure the investor does not overlook important facts:
Betterment
asks clients to fill in just three fields (age, annual income, retired or not) and choose from predefined goals, the questionnaire of Wealth Management LLC contains 18 questions to analyze investment objectives, income needs, time horizon, and risk tolerance.B2B financial platforms such as AdvisorEngine enable investment advisors to create custom questionnaires.
A comprehensive questionnaire allows the system to obtain a detailed investor profile and deposit all information about the investor in a database. Parameters in the profile are then rated to define the investor’s risk profile. There is no universal categorization of risk profiles; usually they are divided into several categories, from conservative investors,
who seek stable growth of their capital value with low risks, to aggressive investors,
who are prepared to expose their investments to greater risks in order to maximize capital growth.For more information about building an investor profile, read the “Risk Profiling” chapter.
Investment Strategy
Once the investor’s profile is ready, an investment strategy may be built. This is based on the investor’s financial goals, time horizon, and risk tolerance, and may vary significantly for different investors, or even for different investor objectives.
The investment strategy does not offer exact examples of asset allocation, but includes recommendations on asset class selections suitable for the investor. The suggested mix of asset classes*** typically includes stocks, bonds, and cash; commodities and real estate are seldom suggested by digital financial advisors.