What is a Risk Lover
A risk lover is an investor who is willing to take on additional risk for an investment that has a relatively low additional expected return in exchange for that risk. Risk lovers will seek out extremely risky investments that are prone to a return distribution with excess kurtosis. Excess kurtosis in a return distribution means there is a frequent instance of high standard deviation outcomes with the investment returns. The investment is prone to very low or very high returns.
BREAKING DOWN Risk Lover
A risk lover contrasts the typical investor mentality — risk aversion. Risk averse investors tend to take on increased risks only if they are warranted by the potential for higher returns. A risk loving investor does not need to see a pattern of high returns which compensate for the extra risk in order to take on a risky investment.
There is always a risk/return tradeoff in investing. Lower returns are usually associated with lower risk investments. Higher potential returns are associated with investments of higher risk, as most investors expect to be compensated for taking on additional risk. Risk lovers, however, go against this principle: they acquire investments of higher risk with a lower expected return. This can be very challenging for financial advisors to deal with. It might be advisable to deal with the cognitive or emotional error before engaging with the client. Many emotional or cognitive biases might manifest as a risk lover. It is best to identify and mitigate the bias.