Risk tolerance? This sounds like a very heavy term especially for those of you who are just getting started with investing.
In previous videos, we’ve talked about how wealth isn’t just the amount of money you have in your accounts; it’s also the quality of life that you get to enjoy.
Money should be something that helps you enjoy your life more, but if you’re so stressed out about your investments that you’re not able to sleep at night or enjoy spending time with your family, then it’s time to rethink how you’re handling it.
Today we’re going to talk about risk tolerance, what it is, why it’s important, and how to develop more of it.
Here are three reasons why you should start investing now.
What is risk tolerance?
In simple words, risk tolerance is knowing how much change in the day-to-day value of your investments you can stand. There are 2 sides to risk tolerance.
One side is your ability to take risk. That’s actually the practical level of your risk tolerance, which depend mainly on how much accessible, safe money you need, and how much of it you can burn in your backyard without risking your current lifestyle. For example, if you’re young, you can afford to be more aggressive with your investing than someone who’s about to retire. If you’re anticipating a big expense, like buying a house, if you don’t have a decent emergency fund saved up, or if you don’t have a stable income, then you’ll want to be more conservative, because you need to be able to get your hands on your cash when you need it.
Then we get to the other side of risk tolerance, which is your willingness to take a risk. On an emotional level, risk tolerance is how you feel about the changing value of your investments. If you’re stressing out and losing sleep because you’re obsessing over the stock market’s every move, then you probably don’t have high emotional risk tolerance. For your peace of mind, you might be better off sticking to safer, more conservative investments—at least for now.
Why is it important to understand your risk tolerance?
If you’ve watched my earlier videos on mindset, you understand that for most of us, money is a very emotional topic. As a result, we don’t alway think or act logically when it comes to how we deal with our investments. If we get stressed out or panicked every time the stock market dips, we’re more likely to make bad decisions, and bad decisions are what lose money.
If we understand our risk tolerance, we can invest accordingly. That means we make better, less emotional decisions, and our money is safer.
Increasing your risk tolerance
Okay, so I just said that understanding our risk tolerance can keep our money safer. Why do we have to increase our risk tolerance? Isn’t it enough just to understand it?
Here’s the thing: more risk means a greater potential for loss … but it also means a greater potential for reward. In other words, the more you’re willing to risk, the more you stand to gain.
Playing it safe is smart, but if you play it too safe, you’ll miss out on some of the best opportunities to build wealth. Developing your risk tolerance, both emotionally and practically, puts you in a better position to take advantage of opportunities when you find them.
So how do we develop our risk tolerance muscle?
On the practical side, look at ways you can improve your current financial situation. Creating an emergency fund, paying off debts, and looking for ways to increase your income are all smart ways to build a stable foundation. From there, you can take on some investment risk without jeopardizing your financial security.
As for dealing with the emotional implications of risk, education is key. It’s the difference between investing and gambling. Buying a stock and keeping your fingers crossed that its value will go up is just gambling. But if you understand how to research stocks, analyze markets, and buy-in at an amount that’s appropriate to your level of risk tolerance, that’s investing.
Once you understand what risks are worth taking and how much money is worth risking, you can quit obsessing about the stock market and go and enjoy your life. You’ll know that you’ve reduced the risk as much as possible with quality research and a solid understanding of the market, and you’ll know that you’ve invested the right amount of money—enough that you’ll see significant gains if the investment pans out, but not so much that you’ll be in danger if it tanks.
What’s your risk tolerance?
Not everyone can or should be a super aggressive investor who takes a lot of risks. But not everyone should play it safe all the time, either. The key is being able to figure out what’s best for you, for your family and your particular situation.
I talk a ton about risk tolerance and how to figure out your unique risk tolerance in the Invest Diva PowerCourse. If you haven’t already, what are you waiting for!! Go right now and secure your spot for my free webinar, 3 Secrets to Make Your Money Work For You, to learn how I started investing and grew our family’s wealth, and how you can too.
Remember: Invest Divas don’t gamble; they invest.
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