investing

Investors, How Much Risk Can You Stand?

If you are taking on more risk than you can emotionally tolerate, you’ll hit the panic button and sell at the worst possible time.

The investing world is full of unknowns these days. We’re grappling with a new—and very different—administration in Washington, along with more-familiar concerns about the economy, corporate earnings and geopolitical developments. The only certainty is that volatility will escalate, so be prepared for a few gut checks as the market zigs and zags. Knowing more about your tolerance for risk can help you design a portfolio that will ensure you can meet your goals without losing sleep.

But recognize that such de-risking comes with the trade-off of diminished rewards. Maybe you’ll have to retire at age 67 instead of 65, or maybe you’ll decide to spend less and save more. Conversely, you might have an appetite for adventure when it comes to investing, but if you are only a year or two from retirement (or some other goal), then your capacity for risk taking with the assets required to meet that goal is virtually zero.

Nature, not nurture. One misconception about risk tolerance is that it varies with whatever is going on in the market. In fact, the psychological aspect of risk tolerance is just as much a part of your personality as, say, introversion or extroversion. Risk tolerance remains remarkably stable during market gyrations and throughout one’s lifetime (although major life events, such as marriage or the birth of children, can change your appetite for risk). Interestingly, risk tolerance is not necessarily consistent in all aspects of one’s life: You could be a stock market ninny who skydives or a gambler who likes to hug the right lane and drive just below the speed limit.

What can change with the market is your perception of risk, which wanes in boom times and waxes as markets head south. In other words, whatever your tolerance might be, a turbulent market can make you overestimate the level of risk. The best way to avoid any rash decisions is to maintain a well-diversified portfolio, which tends to smooth out returns over time, and to think long term. Don’t obsess over your account balances, and turn off TV financial commentators if they spook you.

The good news is that for many investors, extreme risk taking or risk avoidance is on the way out, according to 401(k) plan data from Fidelity Investments. Fifteen years ago, some 45% of savers had either 100% or 0% of assets invested in stocks. Now, only 12% of accounts are at those extremes, thanks in part to the advent of target-date funds, which automatically diversify holdings across assets that are appropriate for a specified time horizon.

Most Popular

Your Guide to Roth Conversions
Special Report
Tax Breaks

Your Guide to Roth Conversions

A Kiplinger Special Report
February 25, 2021
Dividend Increases: 14 Stocks That Have Doubled Their Payouts
dividend stocks

Dividend Increases: 14 Stocks That Have Doubled Their Payouts

Looking for companies executing substantial dividend increases? These 14 stocks have upped the payout ante by a minimum of 100% this year.
November 26, 2021
Resist the Impulse to Buy These 14 Holiday Gifts
shopping

Resist the Impulse to Buy These 14 Holiday Gifts

Don't let those holiday sale promotions persuade you into buying something now that will be much cheaper later.
November 18, 2021

Recommended

5 Stocks to Sell for 2022
stocks to sell

5 Stocks to Sell for 2022

Sometimes, even good companies make for less-than-desirable investments. These five stocks look like Sells heading into 2022.
December 7, 2021
How Leveraging Alternative Assets and Modern Portfolio Theory Can Help Investors Improve Returns
investing

How Leveraging Alternative Assets and Modern Portfolio Theory Can Help Investors Improve Returns

To help manage risks and possibly boost returns, everyday investors should think about including alt investments in their portfolios. Here’s how to ap…
December 4, 2021
12 States That Tax Social Security Benefits
social security

12 States That Tax Social Security Benefits

You may have dreamed of a tax-free retirement, but if you live in one of these states, your Social Security benefits may be subject to state taxes.
December 2, 2021
What’s Your Retirement Number? Don’t Just Go by the 4% Rule
retirement planning

What’s Your Retirement Number? Don’t Just Go by the 4% Rule

To help make sure your retirement income covers your needs and lasts for a lifetime, you need a custom plan. The 4% rule of thumb is a handy starting…
December 1, 2021