Determining Your Risk Tolerance
No risk, no reward!
Risk is an essential component in investing and is often a tradeoff for potential return. While it is present in all types of investments, the level and amounts of risk vary greatly.
One of the best ways to determine your risk tolerance is to think of real dollars invested. Let’s single out a few years of recent market performance and the impact it would have had on a $10,000 investment.
|Year||Market Return*||Starting Balance||Ending Balance|
*Annual Return of the S&P 500 Index®
When it comes to taking risks with investments, think about your goals and when you need to use the money.
Ask yourself the following questions to help evaluate your level of comfort with investment risk:
- When will you need to use this money?
- How much downside are you willing to accept before feeling the urge to sell your investment?
- How much risk can you afford to take with the money you are investing?
- How much do you know about the investment you are considering?
For certain long-term goals, like retirement, you may decide you are comfortable with more risk since you have more time to invest. On the other hand, you may find that when it comes to short-term goals, like the down payment on a new house, you are not comfortable with taking risk since you will need to use the funds sooner.
Some websites will provide information on how to allocate your money in different types of investments based on your results. Keep in mind that the results may be biased towards financial products or services sold by companies or individuals sponsoring the websites.