Your risk tolerance is something that’s essential to understand before you can create a valuable investment strategy. Risk tolerance is based on various factors, from your emotions and feelings toward investing, to your age.
Once you get a handle on what your risk tolerance is you’ll be better able to figure out where you should put your money, whether that’s safer bets like mutual funds and ETFs, or riskier places such as penny stocks. Maybe you’ll figure out that an approach combining high and low-risk options is best.
The following are some of the key things to look at when you’re thinking about what your risk tolerance level is, with regard to investing.
How Much Can You Afford to Lose?
The first thing to think about when you’re gauging your tolerance for risk is how much you can actually afford to lose. If you’re younger and you’re just starting out in your career with minimal savings, you’re not going to have a very high level of risk tolerance, because losing your savings could have a big impact on you.
If you’ve been in your career for a few years and you’ve put aside a relatively substantial nest egg, you may be able to venture into more risk, because you’ll have more money that you can lose if it comes down to it.
What Is Your Time Frame?
The time frame is another essential aspect that makes up the bigger picture of the risk you can tolerate. If you’re a younger investor and you can afford to lose some of your money, it can be a good time to be riskier in your investment strategies. You’ll be giving yourself the opportunity to earn more, and if you do end up losing some money, you’ll have a longer period to recoup those losses.
Older investors and those people that are either close to or already in their retirement years, on the other hand, tend to need to be more risk-averse since there isn’t as much time to rebuild and rebound from a loss.
How Would You Deal with Volatility or Swings in the Market?
Most financial professionals would agree that one of the best ways to build wealth is by investing in the stock market, but for some people, the prospect is one that’s very stressful for them. If you’re someone that would find yourself checking your investment platform every day or checking CNBC or YAHOO! Finance tickers and updates every hour and feeling the urge to respond to market swings immediately, you need to think about how willing you are to engage in a risky investment strategy.
Even if you’re relatively risk-averse emotionally, you can combat against this first and foremost by training yourself to take on more risk. It will take some time, but you can also make yourself feel more protected through portfolio diversification and spreading your money across sectors and investment vehicles.
These are three of the primary considerations to keep in mind when determining your personal risk tolerance, as are your future plans and goals, and your long-term investment strategy.