Perceived Risk: Definition, How it Works, Types, and Examples

Perceived Risk refers to the set of uncertainties that a consumer feels after buying goods or services. Perceived Risk is generally associated with products having higher prices like luxury cars, bags, laptops, etc. Consumers generally do deep research before buying expensive goods by asking friends and experts, to avoid any kind of issues after buying the product.

The consumer tries to avoid this risk by purchasing leading brands in the market instead of newer and non-popular brands. There are actually six different kinds of perceived risks that are observed in consumers: Functional, Social, Financial, Physical, Time, and Psychological Risk. 

Perceived Risk is very common in consumers while buying products in the markets, but Perceived Risk makes it difficult for new brands to enter the market. Manufacturers and marketers make every effort to lessen these risks in the consumer’s mind by offering guarantees and assurances, securing the support of reputable organizations, and enlisting well-known and reputable celebrities to serve as brand ambassadors for the brand. 

Perceived Risk is affected by a variety of elements such as individual ideas, experiences, and emotions. The degree of control an individual has over the circumstance, the potential negative effects, and the likelihood that the risk will occur also have a major impact on how consumers perceive risk. External influences including media or social standards, also affect how risk is perceived.

This risk is generally associated with a product, like a teenager perceiving a high social risk when deciding whether to wear a certain outfit to school due to the fear of being judged by their peers. Perceived risk is also associated with services like a person experiencing a high physical risk when deciding whether to participate in extreme sports like bungee jumping or skydiving.

What does Perceived Risk mean?

Perceived risk refers to an individual’s subjective perception of the potential negative consequences or losses that results from buying a particular good or service. The Perceived Risk operates on the principle that individuals tend to do things that are less riskier and guarantee a certain outcome. The person for example avoids activities like rock climbing if he perceives that there is a high risk of injury from rock climbing. 

The term “Perceived risk” was first introduced in the 1960s when market researchers were examining how consumers are taking decisions in case of uncertain outcomes. A framework for comprehending the many types of a perceived risk that customers encounter when making purchasing decisions was put forth in a major paper by Jacob Jacoby and Robert Kaplan in 1967 titled “The Components of Perceived Risk.” 

There have been numerous studies and research about the concept of perceived risk since then. The concept of perceived risk today continues to be a crucial field of research, as it sheds light on how people decide and how organizations might provide goods and services that answer customer concerns and lower perceived risk.

Perceived risk is both advantageous and disadvantageous for both customers and businesses depending on the situation. 

Perceived risk is advantageous for customers since it promotes research before buying any product, supports educated decision-making, and steers them clear of items or services that are hazardous or subpar. 

Perceived risk is advantageous for manufacturers as well because it gives manufacturers information about consumer behavior and preferences. Manufacturers create goods and services that answer consumer concerns by knowing the different types of perceived risks that consumers experience. This lowers the barriers to purchase and boosts consumer confidence and pleasure. Increased pleasure and brand or product loyalty also results from this.

Perceived Risk is also disadvantageous for both consumers and manufacturers. Excessive thinking about the risks involved in buying goods or services leads to hesitation, indecision, and avoidance of certain products or services, which results in lost sales and revenue for manufacturers. High levels of perceived risk lead to missed opportunities, decreased satisfaction, and lower quality of life in the case of consumers. 

It is recommended to give proper attention to perceived risk so that consumers benefit as much as possible from their purchase, but it should be taken care that high levels of perceived risk act as a significant barrier to purchase or satisfaction. 

How Does Perceived Risk Function?

The Perceived Risk functions on the principle that consumers prefer products or services that are less riskier and guarantee a certain level of certainty and assurance. Consumers prefer low-risk actions to avoid negative outcomes and maximize the chances of positive outcomes. 

It is important to study perceived risk because it has the power to affect consumer behavior. The consumer is less likely to take part in a specific activity or buy a particular good if they believe there is a significant amount of risk involved. A newly launched car model for example will have numerous problems in the future, whereas an older version will have less risk associated with it because it has already been tested in the market by the other consumers.  The Perceived risk helps manufacturers to understand consumers’ approach to buying products.

This concept is also observed in the case of investment markets, where individuals usually prefer low-risk options like mutual funds and bonds instead of more volatile securities like cryptocurrencies and stocks because of a higher degree of safety and certainty in case of low-risk options.

The purpose of Perceived Risk is to guide consumers in making decisions and keeping them out of potentially dangerous products or services. Individuals take action to reduce or completely eliminate risks by evaluating the potential hazards connected to a specific activity or product.

Perceived Risk has wide applications in today’s world. In the healthcare industry for example, perceived risk should be used to motivate people to adopt healthy and avoid risky behaviors. This should be similarly used in the marketing industry, where marketing campaigns should be created to understand the consumers’ perceptions of risk, which will help companies develop strategies to address those risks and concerns and increase sales.

The complete principle of perceived risk sheds light on the importance of understanding the risk appetite of consumers and how negative uncertainties about a product will influence their behavior. It is crucial for individuals to make more informed decisions that align with their personal values and goals by evaluating these risks.

What are the different types of Perceived Risk?

Perceived risk is categorized into five forms based on the potential harm or damage that a consumer feels when making a purchasing decision. Marketers and businesses must have a thorough understanding of types of perceived risk, in order to address the worries of their potential customers and develop successful marketing strategies.

Following is a detailed description of the five major forms of Perceived Risks:

1. Time

This kind of risk pertains to the probable time commitment necessary for a good or service to work or for the customer to get the results they want. Consumers perceive time risk when they are worried about the time and effort needed to utilize or maintain a product or service. A customer will perceive a time risk when choosing a new exercise program or a product that needs routine maintenance.

2. Social

This kind of risk relates to the possible social repercussions connected to a purchasing choice. Consumers feel social risk when buyers are worried about how their purchase will be seen by others or if it would affect their social standing. A buyer senses social risk while thinking about a new fashion style that will be considered undesirable or outmoded.

3. Physical 

This kind of risk relates to the possible harm that a product brings about to the health or safety of the consumer. Consumers perceive a physical risk when they are worried about the safety of a product, such as a new prescription or a child’s toy.

4. Financial

This kind of risk is connected to the potential monetary loss brought on by a purchase. Consumers perceive a financial risk when they are worried about the price of a product or the possibility of unintended fees or levies. A consumer for example will perceive financial risk when considering a high-priced luxury item or an investment opportunity.

5. Functional 

This kind of risk is associated with how well the good or service works. Consumers will experience functional risk when customers are unsure if the product will satisfy their demands or function as promised. A consumer for example perceives functional risk when purchasing a new laptop if they are unsure if it will have the processing power or storage capacity they require.

The term “perceived risk” refers to a broad category of risks that affects customers’ purchase decisions. Businesses should create efficient marketing strategies to meet consumer issues and create lasting customer relationships by understanding these sorts of risks.

What are the examples of Perceived Risk?

Perceived risk is very common among consumers of every kind and this varies greatly depending on the individual’s personality, experiences, and choices. The most common example of perceived risk is observed in the case of costly products or services like holiday trips, luxury cars and televisions. 

The biggest example of perceived risk in the luxury market is the product’s genuineness. Customers are worried about buying fake or counterfeit luxury products especially when purchasing from independent merchants or newly started online marketplaces. There is a perception in the consumer’s mind that they will be in danger of spending money on counterfeit luxury product items or of having their name associated with fake goods. The perceived risk in the case of luxury goods is higher because of the higher emotional and social value attached to it. 

The purchase of services is also linked with perceived risk. A consumer for instance worries about receiving subpar care while selecting a new dentist or doctor. This is because of uncertainties about the practitioner’s level of expertise, experience, and qualifications.

Another example of perceived risk is related to the safety of a product or service. A customer anticipates an increased level of risk related to a car model that has been newly launched, as opposed to a well-established model with a proven safety record when purchasing a car. This is because there are suspicions about the safety standards, reliability, and durability of the new car model.

Brands need to build credibility and trust with their end users to avoid higher levels of perceived risk among consumers. This should be accomplished by giving the consumers a clear understanding of the product’s authenticity, quality, and value proposition by providing authenticity certifications. Brands should also use social platforms to reduce consumer fears, such as celebrity endorsements or showing customer feedback.

What are the benefits of Perceived Risk?

The perceived risk seems like a bad idea as it causes anxiety and avoidance, but still, there are a number of potential advantages, following are the four major advantages of Perceived Risk:

• Improved decision-making: Perceived risk helps consumers to make more well-informed and accurate decisions by encouraging them to carefully consider the various risks associated with particular goods or services. This leads to better outcomes and a greater sense of confidence in one’s choices.

• Enhanced safety: People are more willing to take precautions to protect themselves and others when they perceive a higher level of danger connected with a specific action or scenario. This results in more security and fewer mishaps or injuries.

• Enhanced trust: Perceived danger also contributes to greater trust between people and institutions. People are more inclined to trust an organization and have faith in its ability to keep its commitments if they believe it is taking action to protect its interests and mitigate potential hazards.

• Loyal Customers: The fears associated with using a new product restrict people from leaving their old trusted brand, this helps manufacturers to build a genuine and retaining customer base. It is therefore very much crucial for manufacturers to understand Perceived Risk.

Though the perceived risk is sometimes linked to unfavorable outcomes, there are a number of potential advantages that should not be disregarded like safety, building loyal customers, improving innovation and research, etc. 

What are the disadvantages of Perceived Risk?

Customers should take perceived risk into account when making decisions, but perceived risk also has a number of detrimental effects on firms and the market as a whole. Following are the four major disadvantages of Perceived Risk:

• Decision Paralysis: Perceived risk is a major cause of anxiety among consumers. The consumers ultimately become so afraid of choosing incorrectly that they are unable to make any decisions at all. This results in dropped sales and a huge loss to manufacturers.

• Brand Image: Consumer perception of high levels of risk linked with a particular brand or product has a negative effect on the brand’s image and makes it harder to draw in and retain customers.

• Cost increases: Businesses that experience higher levels of perceived risk finds that they need to spend more money on marketing or product testing to allay customer complaints.

• Reduced readiness to try new products: Consumers become less likely to try new goods or services if they perceive a high amount of risk, especially when they are unfamiliar with the brand. This hinders innovation and makes it even more challenging for new companies to enter in the competitive markets.

Perceived risk is helpful in informing purchasing decisions, but still, there are potential disadvantages associated with this concept like avoidance, anxiety, and misguided purchasing decisions which leads to huge losses for both consumers and supplies of the products.

How to Overcome Perceived Risk?

It is critical to reducing perceived risk because excessive levels of perceived risk deter customers from making purchases and making it difficult for businesses to draw and keep customers. Following are the top three tactics companies should employ to reduce perceived risk:

• Give Accurate Information: Giving accurate and thorough information about the product or service is one of the best strategies to reduce perceived risk. Information on the product’s effectiveness, dependability, and safety, as well as any possible risks or side effects, helps consumers to understand more about the product and remove unnecessary doubts from their mind.

• Offer Guarantees or Warranties: Giving customers the certainty that they are allowed to return or replace the goods in case it doesn’t live up to their expectations will help reduce perceived risk.

• Offer Competitive Pricing: Competitive pricing will help reduce perceived risk by giving customers the confidence that they are getting a fair bargain.

• Addressing Issues: Addressing customer issues and feedback will show customers that manufacturers care about their safety and the quality of your products. This will help them gain their trust and credibility.

Giving customers the knowledge and assurance they require to make an informed purchase decision is the key to overcoming perceived risk. Businesses should reduce perceived risk and develop trust and credibility with their customers by addressing consumer concerns and offering clear and accurate information about the goods or services.

What is Consumers’ Buying Behavior?

Consumers’ Buying Behavior is highly influenced by Perceived Risk. Consumers postpone or refuse to make a purchase if they regard a product or service to be very risky. A consumer for instance will be reluctant to buy a new or unfamiliar product because of perceived dangers like possible health concerns or monetary losses.

Low levels of perceived risk on the other hand influence customers to buy. This is because they have increased faith that the good or service will satisfy their requirements and preferences without causing any harm.

Businesses should employ a variety of tactics to lower perceived risk and entice customers to buy. They should give comprehensive details about the good or service, including its characteristics, advantages, and potential drawbacks. They should provide warranties or guarantees that assure customers that they are allowed to swap or return the item if they’re unsatisfied.

What effect does Perceived Risk have on Consumers’ Buying Behavior?

Perceived risk makes consumers cautious and careful in their purchase decisions. High perceived risk makes consumers tend to gather more information and evaluate alternatives more carefully before making a choice. This is because they want to minimize the possibility of making a wrong purchase decision. It leads consumers to choose established and reputable brands. When the perceived risk is high, consumers tend to prefer well-known brands that they trust, over lesser-known brands. This is because established brands are perceived as less risky. It results in post-purchase anxiety. 

High perceived risk can make consumers worry about their purchase decision even after buying the product. They keep wondering if they made the right choice and if the product will perform as expected. It inhibits the adoption of new products. High perceived risk makes consumers reluctant to buy new innovative products, especially from new or unknown brands. They prefer to stick with familiar products so they can avoid the risk of trying something new that may not meet their expectations. It affects customer satisfaction and loyalty. High perceived risk can reduce customer satisfaction with the purchase because of the worry and anxiety involved. And due to this worry, customers may be less loyal to the brands associated with a high-risk purchase. They can easily switch when a better option comes around.

How can we perceive Risk?

The subjective evaluation of the degree of risk connected to a specific good, service, or circumstance is known as perceived risk and the following are three major methods by which we can assess and identify risk:

Personal experiences: Personal experiences and encounters with similar products or services generally have a huge impact on the individual’s ability to assess risk assessment. A person for instance having a negative experience with a particular product will always perceive it as more risky and will become cautious next time.

Information sources: A variety of information, including social media, print media marketing, and word of mouth, influence how one can perceive risk. The perception of danger increases as a result of media coverage of product recalls or safety issues.

Education: Our level of information and education about a certain service or product also affects how risky we perceive it to be. An individual makes better decisions if he has greater information about the dangers posed by a service or product.

It’s crucial to remember that perceived risk might not necessarily correspond to actual risk. It is crucial to take into account both actual and perceived risk while making choices concerning risk management and behavior.

Is Risk Perception the same as Perceived Risk?

No, the concept of Risk Perception and  Perceived Risk are not the same but they are slightly related.

Risk Perception is about the overall evaluation of the process through which people understand and process information about the possible dangers connected to a specific circumstance, course of action, or decision. Risk Perception is a product of cognitive and emotional processes and is influenced by a variety of things, including societal standards, the need for activity, and individual choices.

Perceived risk on the other hand is a specific subset of the risk perception. Perceived risk refers to the degree of uncertainty or concern that an individual associates with a particular product, or service, it talks about an individual’s risk in the perspective of a consumer. Perceived risk is influenced by the individual’s risk perception, but it is not synonymous with it. 

The perceived risk in simpler words is a part of risk perceived which is only associated with individuals buying certain products or services, whereas risk perceived is a general concept that is associated with all the other kinds of situations.

Can you apply Perceived Risk in Trading?

Yes, the concept of Perceived Risk can be applied in the trading and investment market. The Perceived Risk plays a crucial role in traders’ minds

 while taking decisions in the financial market, and because of this it ultimately affects the outcomes of a trade. Investors for example generally avoid riskier stocks or securities because of the higher risks of losing capital associated with them. 

People for instance generally prefer less risky investment options like mutual funds, bonds and avoid riskier options like cryptocurrencies and stocks because of perceived risk, because investment options like mutual funds are often managed by experts who invest in a varied portfolio of equities and bonds. This diversification spreads out the risk and lowers the likelihood of losing money on a single investment. Investor confidence in mutual funds and bonds is further increased by the fact that they are governed by governmental agencies and are subject to certain investment criteria.

What is the difference between Perceived Risk and Actual Risk?

Perceived risk and actual risk are two completely different concepts, but in general conversations, these terms are used interchangeably. Following are three major aspects of differences between both perceived risk and actual risk:

• Definition: The term “perceived risk” refers to a person’s subjective assessment of the degree of risk connected to a specific product or service.  Actual danger on the other hand is the level of risk that is objectively there in a circumstance or choice, independent of how that person perceives it.

• Subjectivity: Perceived risk is a subjective evaluation of risk, while actual risk is an objective assessment of risk based on empirical evidence and scientific analysis.

• Impact: Perceived risk causes anxiety, and avoidance behavior in the case of consumers even if the actual risk involved in buying products is low, while actual risk is managed through appropriate risk management strategies.

Understanding the difference in the concepts between perceived risk and actual risk is important for both consumers and manufacturers for making informed decisions about risk management and choices made.

What is the difference between Perceived Risk and Group Thinking?

Following are the major differences between Perceived Risk and Group Thinking.

Perceived Risk:

• Perceived Risk refers to a consumer’s subjective evaluation of the degree of risk or probable adverse effects related to a purchase transaction of any particular product or service.
• Perceived Risk includes potential financial loss risks as well as risks relating to the product’s safety, dependability, and effectiveness.
• Perceived Risk influences consumers’ purchasing choices, which causes failed purchases and missed opportunities.

Group Thinking:

• Group Thinking refers to the phenomena whereby people adopt the beliefs or behaviors of a group, even when those beliefs or behaviors diverge from their own.
• Group Thinking also influences consumers’ purchase decisions by instilling a feeling of peer pressure to share the group’s viewpoints.
• It is a phenomenon that occurs at the group level and is focused on how social influence affects how individuals make decisions.

Arjun Remesh

Head of Content

Arjun is a seasoned stock market content expert with over 7 years of experience in stock market, technical & fundamental analysis. Since 2020, he has been a key contributor to Strike platform. Arjun is an active stock market investor with his in-depth stock market analysis knowledge. Arjun is also an certified stock market researcher from Indiacharts, mentored by Rohit Srivastava.

Shivam Gaba

Reviewer of Content

Shivam is a stock market content expert with CFTe certification. He is been trading from last 8 years in indian stock market. He has a vast knowledge in technical analysis, financial market education, product management, risk assessment, derivatives trading & market Research. He won Zerodha 60-Day Challenge thrice in a row. He is being mentored by Rohit Srivastava, Indiacharts.