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This is a separate page of the R section of the Glossary
Behavioral finance FAQ / Glossary (Risk attitude)
Dates of related message(s) in the
Behavioral-Finance group (*):
Year/month, d: developed / discussed, i: incidental
08/ 11i + see attitude, risk, risk aversion,
risk tolerance, style of investing, profiling
(of investors), risk premium, (expected) utility
Safety first? Or ready for the thrill?
Definition: an
investor's risk attitude, (or risk preference / risk profile),
is its degree of risk aversion (or, conversely, risk tolerance) when making decisions.There is a gradation
in this risk-taking attitude
1)
Risk averse
Risk neutral (risk tolerant)
Risk seeker (risk taker).
(see below the related articles).
Those attitudes can be found in all risk situations, which includes of course those of
financial risk.
Different taste buds for different risk soups.
The degree of financial risk appetite / acceptance varies:
Between
individuals (everyone has its own risk profile)
Various questionnaires and psychological tests have been devised
and are supposed to give an idea of the risk profile of an individual
or a population.Also there is some relation with the level of dopamine in the brain
which incites to take decisions, actions, risks.
Please, come to the lab. ;-)
social segments:
genders, types of occupations, groups, countries.
activities:
A person can be a risk seeker in sports and risk averse in managing
his money.
Usually people take more risk in those that involve
competition.
Obviously, also the higher the expected reward, the higher the accepted
risk.But there is no pure proportionality between those two values,
because of various phenomena seen in this (obviously precious and
helpful ;-)) glossary:Expected utility, risk premium, loss aversion, the prospect theory,
and many other cognitive and emotional traits.
time: the risk attitude can be
unstable.
Periods of euphoria's or gloom tend to alternate, not only for individuals
but also for collective attitudes.
00/6i,12i - 01/8i - 02/1i,9i,12i - 03/3i,4i
- 04/2i,5i - 07/5i,8i - 09/1d + see risk
attitude, risk premium, fear, loss aversionCarrot and stick.
In average, people are risk averse.
Usually they are not too ready to take risks unless given extra
incentives,
...which range from carrot to stick.
When it is related to economic / financial risk, it means that they will take a risk
only in exchange for some compensation in good money.More precisely, if they accept to invest in an asset on which they fear
a sizeable money loss if things turn bad:
their fear.(*) what is called an expected return (see expectancy) is a mathematical
projection that already
gains and losses. But the risk averse player asks for more than that.
(**) This is plain math also:
=> the lower is the price (P) paid for an asset that gives an income (I),
=> the higher is the return (R = I/P) for its holder
see risk premium, utility.
Risk taker today, risk averse tomorrow....
Although most investors most of the time are risk averse,
the degree of risk aversion is an individual trait that differs from one investor to another.
the less wealth and income an
investor has, the more he is supposed to avoid risk in his decisions,This is because a loss would be fatal for somebody without financial reserve...
become a bias.It has emotional components that can
change from one period to another (preference reversal).The individual level of risk aversion, and its average level for all
investors, are unstable.See optimism, risk attitude...
chaotic periods, people realize that there is not just a "risk",
which is theoretically measurable via probabilities, but in fact pure uncertainty(see that word).
When that uncertainty gets widely perceived, market volatility usually rises
and prices tumble, as people are more uncertainty averse than risk adverse.
When the bet failed.
Risk aversion should not be confused with
loss aversion (see that phrase),
although academics tend now to think that risk aversion is just a specific case of
loss aversion.
The "prospect theory" (*) privileges loss aversion as the broader (and less rational,
as not fully related to risk) concept to understand the human decision process when
facing risky situations.(*) It states (see the related article) that people attribute to the same amount
of money, more value when they lose it than when they gain it.Actually, when the market price is under what is called their reference price
(seeanchoring), people are usually more loss adverse than risk adverse.
They prefer the risk to go on betting on the horse than to accept to limit the damages
to what this cumbersome pet already made them lose.
See in the general "Aversion" article the relations
between risk aversion, prospect theory, loss aversion,
regret aversion, disposition effect...
greed is strong,
