How explaining "Capital at Risk" is like drawing blood

What does “Capital at Risk” mean to you?

This is a question I ask myself a lot as I write it in various messages we send to customers. I 100% agree with the sentiment behind it - in other words, it is important that the reader, who may not have the full context understands the message to:

“beware that this activity (whatever it might be) carries some risk.”

It occurred to me that we take some of these warnings more seriously than others, and I’m wondering how they could be improved.

The reason I bring this up is that I watched a video very recently that made sure I understood the risks of a certain activity, … but it was not investment.

“Possible side-effects”

How often do you read the list of possible side effects on any medicine you take? Even Paracetamol has to declare some potential side effects. Unless you know you are in an at-risk (health) category, you probably ignore it, and worrying about it unnecessarily and not taking the medicine might mean you have to suffer for longer or potentially get worse.

In fact, the video was in preparation to donate plasma (to help fight Covid-19 infections). The NHS video was required to notify all participants of potential side effects of this procedure, and they ran from:

  • a bruise and itching all the way to
  • an air embolism and haemolysis.

Now that sounds a bit scary!

I think most of us are aware that these risks are small, so we get on with taking our medicines, donating blood and accepting the need for surgery.

But when it comes to our money, do most of us understand that ‘Capital at Risk’ also covers a very range of potential outcomes, not just the worst ones, but that without taking some risk, we may also be suffering unnecessarily?

Will the Games Stop?

On the other hand, as I’ve been writing this, the world has been dealing with the outcome of many individuals completely ignoring all health warnings and piling into shares in GameStop. This is not investment, but trading, and the risks are even more extreme.

In medical terms, I guess one might say this is more akin to some narcotic, offering highs and plenty of risk, but they remain in demand however much one might warn against them.

The phrase ‘Capital is at Risk’ seems almost quaint in these circumstances.

Time will tell

I suspect the answer is that it takes time. It can take time to feel the benefits of a treatment, just like it can take time for an investment to bring returns.

I believe that more people need to start investing, but in small and limited ways, and to focus on the least risky options in order to get more experience. And that, if you consider investing, that you clearly decide on your Risk Appetite (something the Dozens app makes sure you do) before you commit your money.

If we are given a reason to learn enough about what ‘Capital at Risk’ means to us individually, to understand the range of risks that we might face (or not), we can make more informed decisions in future.

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The warning can mean 2 different things, depending on the instruments:

  1. some of your capital is at risk, and
  2. your entire capital is at risk, i.e. nothing left at the end

I suspect many people who haven’t had any investing experience and have read all the terrible news about it may think “Capital at Risk” means the entire capital is at risk.

Comparing to that, I actually more like the warning on the “exotic” products: “75% of retail investor accounts lose money when trading spread bets and CFDs with this provider.” If we could adopt that to the “Capital at Risk”, and make it more quantifiable and relevant to the specific instruments they are investing in, people may find it easier to understand. For example:

  • diversified funds:
    Capital at Risk. Your investments can […the rest of the warning]. If you had invested £10,000 in [name of the fund’s category] in [the year it peaked before a crash], you’d have only £[amount] left in [the year it hits the bottom].

  • single company shares:
    Capital at Risk. Your investments can […the rest of the warning]. If you had invested £10,000 in Lehman Brothers (the fourth largest investment bank in the U.S. at that time) shares in 2007, you’d have nothing left in 2009.

AFAIK display the warning like the examples above isn’t a breach of the FCA rule, and it gives the user more meaningful information than the plain “Capital at Risk”.

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The phrase really sums up the whole of finance, banking, prudential regulation, trading, investments and and and, plus a hefty chunk of economics.

The level at which you understand it probably correlates strongly to your level of financial education. I think the question is what level of understanding you are entitled to assume from (adult) customers. As an ethical institution - given the state of literacy and numeracy alone in the UK, I think you have to set the bar pretty low…

It’s not that consumers are ignorant, it’s that there’s zero exposure to most of the basic concepts right the way through education.

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Gemma Steel, who is Dozens’ and PI’s Director and General Counsel, has been writing a series of articles for a startup magazine, and they published the third instalment today which is directly related to this topic, so I thought I would share for your thoughts