Let's Talk Risk Tolerance When it comes to Investing

Most investments come with some sort of risk. Over time, markets fluctuate. An investment could be consistently growing for a period and then suddenly lose momentum. Some types of funds are more predictable, yet don’t carry as much potential for financial growth as riskier ones. It’s all part of the process. While you can’t determine just how your investments will play out, you can get an idea of how much risk you’re willing to put into them. This is known as “risk tolerance”, and it plays an important role in your decision-making over the course of your investments. Let’s look at what risk tolerance is and how to determine the amount of risk you’re comfortable taking when it comes to investing.

What Is Risk Tolerance?

Risk tolerance refers to how much volatility in the markets you’re willing and able to tolerate as an investor. Your openness to risk will usually determine the types of investments you’re willing to make. A professional financial planner will usually administer a questionnaire to determine your risk tolerance and then make investments accordingly. You can get an idea on your own, however, by assessing factors such as your financial goals, your current age and your comfort level with the idea of losing money.

How to Measure Your Risk Tolerance

When it comes to tolerance for risk, preferred investment styles usually fall into the categories of conservative, moderate or aggressive. In order to get an idea of your own risk tolerance, ask yourself how much money you’d be comfortable losing if your stocks and funds encountered a difficult period of a couple years. In addition, you should consider how much time you have to invest and to bounce back from any rough spots, as well as what other assets you may possess that could provide you with some security.

How Much Risk to Take

If you’re close to retirement or don’t feel comfortable with the idea of losing much money, you’re likely in the conservative risk tolerance category. You’d be best to stick with safer investments that are easy to access like CD’s or money markets. Those with a more moderate risk tolerance can afford more risk. If you’re in the category, you can opt for a balanced approach of high-risk investments and safer bets. Finally, aggressive investors may have more security in their other assets along with more time to watch their money grow. If this is you, it’s likely you can afford to take risks with investments such as small-company stocks, which can be rather volatile and lose money just as quickly as they may gain.

Keep this information in mind when determining your own risk tolerance. Then build your investment portfolio based on your own comfort level. Be sure to assess things over time and make adjustments accordingly.