Are Younger Investors Really More Risk Tolerant?
Millennials and Gen Z adults now make up close to one third of the working force locally, making them collectively, the largest demographic in the workforce as of 2020. As the number of young working adults with disposal income grow, they would generally look to do some form of investments. Unsurprisingly, in today’s climate, I have found that younger investors are taking more active roles in higher-risk investments. However, it is my opinion that this is not so much because they have a higher risk tolerance, rather they are highly growth driven. Here is why.
Why are Gen Z and Millennials drawn to higher-risk investments?
There are a couple of reasons why higher-risk investments may appeal to younger working adults from the onset. The key motivation in my point of view stems from the potential to accelerate plans and life goals. Millennials and Gen Z adults who have only recently joined the work force may not have as much disposable income and therefore have limited resources to begin with. By adopting a higher-risk, more aggressive position, they are able to leverage on the resources they have access to in an effort to achieve an arbitrary financial milestone.
For many, a strong motivational factor could be the potential opportunity cost of advancing towards their financial milestones outweigh the risk of losing that initial principle. The utility benefits provided by a substantial gain is greater for individuals with less disposable income than that of those with more. In the book Mishaving: The making of behavioral economics, Richard H. Thaler provides an easy-to-understand example.
“As wealth grows, the impact of a given increment of wealth, say $100,000 falls. To a peasant a $100,000 windfall would be lifechanging. To Bill Gates, it would go undetected.”
– Richard H. Thaler, Misbehaving: The making of behavioral economics.
The impact and opportunity provided by this theoretically $100,000 is disproportionate for both parties in the example. The peasant here, would gain access to more goods, services and opportunities as a result of this change to his potential spending power. In stark contrast, the surplus of another $100,000 would provide Bill Gates with little to no additional utility.
Longer time horizon and security
Young working adults have a longer time horizon before retirement. This is a privilege not afforded to those with a shorter time horizon. Additionally, it is becoming increasingly common for millennials to continue living with their parents as opposed to moving out before their thirties. This in turn, potentially frees them from certain liabilities like mortgage repayment and the costs associated with homeownership. Knowing their necessities are covered may also play a part in influencing one’s risk-tolerance.
Waiting on a fixed income plan for any number of years can seem like a very long time, especially for a generation that grew up with the luxury of instant gratification. Instant messaging, payments and connectivity has influenced our perception of time. In some sense, our generation is, to a certain degree, more financially savvy. The ease of access to information and abundance of research material available online has made it substantially easier to find and learn just about anything.
Fear of Missing out
Social media and online communities play a large role in the lives of millennials and Gen Z adults. One of the reasons we use social media is to stay connected to our peers, however this looking glass into the lives of others is also perhaps another reason Millennials are inclined to take on high risks. Based on a study, 46% of Millennials are worried they are not able to keep up with their peers. Seeing our peers gain access to certain luxuries and services may influence how we feel about our current financial position.
What should they be concerned about?
Millennials and young working adults may want to consider the following factors when building a high-risk portfolio.
A key benefit of discretionary investment management is the lower time commitment on the part of the investor. This allows the investor to participate in the markets without committing too much time into their investment portfolio. This lowered time and effort commitment makes investing a lot more sustainable, especially for busy professionals who may not have the time to actively manage their own portfolios.
Each individual country goes through their own market cycles and these cycles are often in different stages. Increasing your exposure to multiple regions serves two main benefits. You are exposed to the opportunities in regions you have limited access to whilst simultaneously protecting yourself from the potential of localized downsides in any one market. This adds a layer of stability to your investments in especially uncertain times.
Asset Class Diversification
Mutual funds like the ones offered by Fundsmith and Baillie Gifford have components in various asset classes like bonds and fixed income assets. Much like geographical diversification, you have less exposure to downturns in any one particular asset class.
The perils of taking too much risk are well documented and understood. However, an important risk factor commonly overlooked by younger investors is their inability to recognize the current stage of the market cycle they are in. This is largely because younger investors may not have the experience and point of reference to identify or interpret micro and macro trends. Taking on higher risk investments that require timing the market is reliant on too many unknown variables.
That is not to say one should not invest in higher risk asset classes. There is a case to be made for chasing the high gains. There are strategies you can employ to help manage your portfolio’s exposure to risks, shielding you from the downside whilst still exposing you to the potential of sizeable gains. If this is something you find difficult to undertake alone, speak to a financial consultant to learn more.
A question of Sustainability
However, if you do want to build a high-risk portfolio, consider carefully if are you physically able to maintain your own portfolio, work-life balance, and the various other responsibilities. Consider the possibility that your risk profile, commitments and requirements may also change through the years. In that regard, it may be worth the time to look for a financial consultant to better understand what it is they can offer you. Ultimately, there is no right or wrong way to invest, instead focus on identifying the means of achieving your financial goals that suit not just your risk profile but consider your lifestyle. I would urge millennials and young working adults to be prudent and take the time to understand not just the risks, but also the level of commitment required. If you are unable to handle this alone, you may want to speak to your financial consultant.
A financial consultant offers a variety of services associated with wealth management, covering a large spectrum of services, from wealth generation, wealth protection, to wealth distribution. Holistic financial planning requires a certain level of objectivity, because of this, the process may be a daunting endeavor to approach alone. It may be prudent to seek professional advice.
JW ADVISORY GROUP
Jarrod Wong has built an impressive network of clients despite his age. The charismatic young consultant exudes enthusiasm and candour and is often attributed with qualities and knowledge beyond his years.
Drawn by the rapidly shifting finance landscape, the ambitious young consultant makes it a point to stay on the bleeding edge in order to keep his clients ahead of the curve.
Disclaimer: The information provided is for general information and does not constitute as financial advice. No prospective investor should assume that any information presented serves as a receipt of, or a substitute for personalized individual advice from a financial adviser. Investors should seek relevant professional advice from an IPP FAR before making any investment decision.
- Source: Report: Labour Force in Singapore 2020, Ministry of Manpower, 28 January 2021 (https://stats.mom.gov.sg/iMAS_PdfLibrary/mrsd_2020LabourForce_survey_findings.pdf)
- Source: OCBC Financial Wellness Index 2020: Millennials (https://www.ocbc.com/iwov-resources/sg/ocbc/gbc/pdf/simplyspoton/millennials-insights.pdf)