In 2009, when Mark Friedenthal went scouting around the marketplace for the right kind of financial planning software for his new firm, Friedenthal Financial, he just could not find a product that he deemed good enough to properly assess his clients' risk tolerance levels.
Most advisors, he learned, appeared to be using a simple, one-dimensional method — in essence, a personality test — to gauge how much risk their clients could stomach. However, risk tolerance is a much more complex and deeply nuanced concept, Friedenthal knew. It is a reflection of individual personalities, and changes over time, with age and with the vagaries of the financial markets. In his view, it is also dependent on something very concrete: cash flow.
Friedenthal, a mathematician by background, saw no other way forward than to build his own proprietary model for assessing risk tolerance in a way that not only measures a client's willingness to take on risk, but also their ability to take on that risk, based on their cash flows.
What began as a simple, in-house excel spreadsheet grew over the years into Tolerisk, a robust tool for financial risk assessment grounded in science and mathematics that is used by close to 80 small financial advisory firms.
"Tolerisk gives advisors what they need to properly answer client questions like 'What should I do now?' and 'How much risk should I take on?'" Friedenthal said.
How It Works
The model is built on the premise that it is impossible to properly assess a client's risk tolerance without analyzing both their willingness and their ability to take on risk, he said. The latter is a function of the anticipated cash flows in and out of their portfolios over time. The product generates a range of numerical stock and bond benchmarks that are clear, measurable and actionable to both advisor and client. By bringing both willingness and ability together, Tolerisk presents a full picture to the advisor of their clients' risk tolerance, Friedenthal said.
Tolerisk also alerts financial advisors to the most important variables driving a particular client's risk tolerance – something that's important for clients to be aware of, too, so they can better understand the factors that are shaping their behavior and are guiding them in their risk tolerance behavior.
