Our Equity Ratio
Part 2 of 2-Part Series
I know, you’re probably now wondering what is the difference between equity investments and fixed income investments and you should be! A fixed income investment means you receive interest or dividend payments at regular set intervals of time until the stipulated date known as the maturity date. When you reach this date, your principal investment is repaid in full and your profits are the dividends. This kind of investment is considered much lower risk because payments of a fixed income investment are known in advance and not reliant on profit or performance of a company. Alternatively, an equity investment does not pay out any cash flow to you as the investor until you sell your equity (shares) or the company is liquidated. It is higher risk being fully reliant on a company’s performance and share price, however the potential for much higher returns based is what equity investment is all about.
In our formula, the ER is actually flipped, and the lower the number, the lower your risk. This is because the purpose of the equity ratio in personal wealth management is to gauge exposure to volatility risk at your age and lifestyle. The fixed income and alternative (eg. real estate) investments which are a part of your total investments are less volatile than the equity investments. With total investments at the bottom of our formula, or divisor, the bigger that number, the smaller the ER will be. If you compare to the numbers at the beginning of the article, it is better to have a ER of less than 0.5 or 50% because you are less at risk or less volatile.
It’s not necessarily a bad thing to have a higher ER or more volatile investment strategy because it’s dependent on your total assets. For example, if you have a large amount of cash assets, you may be able to absorb large losses and this is why we take everything into consideration when managing your wealth. Your equity ratio would be broken down even further with a breakdown of all your investment holdings and detailed investment plan table which would include monthly fixed investment deposits and equity investment risks. There are a number of other metrics and ratios which are closely related to the Equity Ratio which are used in similar detail and these all factor into your wealth management. You don’t necessarily need to know every little aspect of the management process, but this basic knowledge and understanding will only help you in your future financial decisions.