Three Things You Need To Know About Your Risk Tolerance
Investors naturally focus on returns first for their retirement and investment accounts with risk being an afterthought until there is a stock market sell-off. Risk and return are paired together like peanut butter and jelly. They complement each other but too much of one or the other can make for a bad outcome. Here is what you need to know about your risk tolerance.
What is your willingness to take risk?
Your everyday behavior goes along way to determining your willingness to take risk. In driving terms, if you are constantly speeding well over the speed limit you are probably a little more aggressive in your investment risk tolerance. Now if you are the type of person who drives just a few miles over the speed limit you are a little more of a calculated risk taker. Your behavior or willingness to take risk is just one factor in the risk equation.
What is your ability to take risk?
This focuses on your financial ability to take risk. If you are early in your career and have 30 or more years to retirement your ability to take risk is going to be higher than someone who may be in retirement already. Your nest egg also is a factor in your ability to take risk. If you have an investment portfolio that is large enough to support your financial goals with plenty of room to spare your ability to take risk will be high. In the case where your retirement account is underfunded your ability to take risk is lower. If you suffer loses it will put you in a worse situation then when you started. A more conservative risk tolerance may be appropriate. A financial planner or investment advisor can work through the numbers to help you determine this risk tolerance.
Reconciling your willingness and ability to take risk is important. The lessor risk profile is the one you should adopt. If you are a conservative investor but have a large investment account that will more than meet your financial needs your conservative willingness profile will be the one to dictate your investment strategy.
Can you sleep at night?
Thinking back to the depths of the financial crisis in late 2008 and early 2009 how did you feel when your401(k) was cut by 25%, 40% or even 50%? No one likes losing money but how you handle volatile financial markets tells you a lot about your risk tolerance. If you are losing sleep at night about your retirement or investment accounts you need to re-evaluate your risk tolerance. No one should lose sleep over their investments and advisor can help to manage this risk for you.