The financial market crash of 2020 was not just an economic event. It was a risk-enlightenment call. The important question is: did we gain wisdom from it, or did it leave us more confused and paranoid than ever? Multiple studies have been conducted to study the effects of the pandemic on investment behaviour since it became apparent that market behaviour has been influenced in some way. The experiences and lessons learned from this event are expected to reflect its results in the future. It has been a while since the pandemic occurred, but some sectors are still recovering. The financial context differed from country to country, but the main topic of discussion for this article is the risk tolerance of investors in India, with the pandemic as the context.

Before the pandemic, the market could be understood as a bull run where investors had a larger risk appetite. Investors were confident with their decisions, sometimes overconfident due to the optimism surrounding the market and other investment fields. The stock market had been on a steady rise for some time. This gave the investors the ability to invest riskily for maximum returns. Due to the prolonged duration of this, the investors took this trend for granted, forgetting to put in place a safety net. This was assessed by analysing asset allocation strategies. Investors analysed the sectors that are likely to result in high returns and made decisions accordingly, for example, technology and infrastructure (Dalmia & Faridi, 2019).

When discussing risk appetite, it is important to consider other factors such as age, income, knowledge, experience, and need. According to research, younger investors tend to be more aggressive than older investors due to their increased ability to experiment and handle losses (Guiso et al., 2008). They are usually more willing to invest in high-risk portfolios because they have less pressure to save for responsibilities such as children and loans. Regardless, it is important to consider that this varied for every investor, even in the pre-pandemic era. Individual risk tolerance is an important variable that plays a role in investment decisions.

The story does not end here. Once the pandemic hit us, we saw a curveball in investment behaviour, which made research interesting and gave scope for analysing how such a big event affects investor sentiments and their decisions overall (Hens & Benli, 2021). As soon as it hit us, there was a drastic shift towards risk aversion, as one would expect, but this pattern kept changing, taking us back to the point of high volatility in the market and prices.

As the lockdown was announced, investors entered the realm of uncertainty. In the rush of everything, investors opted for stability by pulling out their money from major investments, like infrastructure, as construction activities stopped. At the same time, stocks or assets perceived as safe experienced a surge. However, this behaviour is not surprising, as the most viable and safe option rises on the market in the face of uncertainty and survival (Amosh & A. Khatib, 2023).

Talking about the toll it took on risk tolerance, it was a two-way street, in the sense that while some avoided risky portfolios, others saw it as an opportunity for long-term gains. Seeing how the market was behaving, many, instead of fighting for the lost money, chose to focus on the potential sectors that would benefit from the pandemic. As a result, they invested keeping in mind the long-term goals, reducing their dissonance over the losses they were making (Sardoddi, 2021). This behaviour or thinking can be attributed to the human instinct to survive in the face of adversity. The profits from these investments after the lockdown provided them with the right conditioning to seek riskier portfolios while also maintaining a safety net.

This is not to say that the investors perpetually moved with an optimistic outlook. In the initial stages of the pandemic and the worldwide lockdown, risk tolerance took a big hit, which many struggled to recover from. Downsizing in companies and salary cut-offs played a big role in restricting the available capital for investments. This was more painful at the time, as no one had time to plan a backup and keep their assets safe. The unexpected nature of the pandemic caused many people to lose hope and struggle to maintain a decent standard of living, which hindered their ability to pursue other investment interests and activities, affecting their risk appetite and capacity.

However, as we are writing this in the context of India, it is important to address and applaud the swift recovery in the markets once the lockdowns were lifted (Thangam, 2023). Risk tolerance is a trait that can be made adaptable to its circumstances. Positive developments like vaccine development instilled faith back in investors in time for them to make the most of the market. The speedy nature of a return to normalcy in specific sectors allowed investors to opt for riskier options. This, however, kept changing with the tide of the pandemic over the three major years it lasted. In a sense, risk tolerance was dancing with uncertainty that picked up pace according to the beat of the pandemic.

In a gist, if a comparison were to be made between pre- and post-pandemic risk tolerance, the pre-pandemic era could be understood as a time with high optimism and herd behavior. The post-pandemic era saw a rise in risk aversion for a brief period, followed by increased risk-taking behaviour as compared to the pre-pandemic era. It is also important to note that there was an observed difference in the way different demographics reacted. While the younger population moved forward with a long-term view and invested riskily, the older population moved towards a more conservative approach (“How financial planning, risk profile changes with age? Mrin Agarwal explains,” 2023).

The pandemic most definitely had a lasting impact on investors’ understanding of risk tolerance. It made them aware of having the right balance between maintaining cautiousness and experimenting. It reminded them of the importance of diversifying one’s portfolio to maximise profit while also having a safety net. The pandemic greatly shifted risk-taking behaviour but this awareness and experience will shape investment decisions and behaviors in the future. Current and future investors need to look back at this and ask themselves which side of the story they would like to be a part of - the one with a cautious approach in case of adversity or a risk-seeking approach for long-term gains.

References:

• Amosh, H. A., & A. Khatib, S. F. (2023). ESG performance in the time of the COVID-19 pandemic: cross-country evidence. Environmental Science and Pollution Research International, 30(14), 39978-39993. https://doi.org/10.1007/s11356-022-25050-w
• Dalmia, N., & Faridi, A. (2019, October 23). 2019 is like 2001-2002, before the bull run of 2003: Manish Chokhani, Enam Holdings. The Economic Times. https://economictimes.indiatimes.com/markets/expert-view/2019-is-like-2001-2002-before-the-start-of-the-bull-run-in-2003-manish-chokhani-enam-holdings/articleshow/717200 04.cms?fro m=mdr
• Grable, J. E. (2017). Financial risk tolerance: A psychometric review. CFA Institute Research Foundation.
• Guiso, L., Sapienza, P., & Zingales, L. (2008). Long-term perspectives in financial decisions. Journal of Pension Economics & Finance, 27(4), 623-658.
• Hens, T., & Benli, V. F. (2021). Behavioural finance in the era of COVID-19. Pressacademia, 14(1), 106–107. https://doi.org/10.17261/pressacademia.2021.1496
• How do financial planning and risk profiles change with age? Mrin Agarwal explains. (2023, October 20). The Economic Times. https://economictimes.indiatimes.com/markets/expert-view/how-financial-planning-risk-profile-changes-with-age-mrin-agarwal-explains/articleshow/104574331 .cms?from=mdr
• Sardoddi, A. S. (2021, May 23). The sectors that will boom post-COVID era. Times of India Blog. https://timesofindia .indiatimes.com/readersblog/the-macro-musing/the-sectors-which-will-boom-post-covid-era-32443/
• Thangam, D. (2023, May 27). The resilience and rebound of the Indian economy: A closer look at recent performance. Times of India Blog. https://timesofi ndia.indiati mes.com/readersblog/sustainablebusiness/the-resilience-and-rebound-of-the-indian-economy-a-closer-look-at-recent-performance-54278/