by The way economists typically measure risk preferences is the ratio between someone’s pain from losing money and their pleasure from gaining it. If someone really hates losing money and doesn’t really care that much about gaining more of it, clearly they will be loath to risk any losses.
More formally, for economists, measuring risk preferences entails estimating a utility of wealth function that describes how happy an individual is with each level of wealth. This function can then be used to calculate how happy or sad the individual would be about moving from one wealth position to another. How risk averse a person is can be described by how concave the function is in other words how much the subjective value of each additional dollar declines as wealth increases.. this in turn determines at any given wealth level, how much more valuable a dollar lost is relative to a dollar gained.
We discover this by offering the individual a choice between taking some gamble or getting some other amount for sure and observing whether he chooses the gamble or the sure thing.
At BH Wealth we use a tool1 which is extremely simple and specific. It’s choices are binary, using numbers that are familiar to investors. This allows precise estimation of indifference points and minimizes the risk that an investor will make mistakes while taking the questionnaire.
Want to see if you are Country or Rock? Take our questionnaire and see for your self.
Just click on home and scroll to the bottom of the page and click on the “What Your Risk Number? button.