When it comes to investing, there’s a direct relationship between risk and return.
That is, in general, as the potential for return increases, so does the level of risk. Or stated another way, the less risk an investment has, the lower the potential for return.
The investment plan that’s right for you depends largely upon your level of comfort with risk—what’s known as your risk tolerance. You can’t completely avoid risk when it comes to investing, but it’s possible to manage it.
There are two key questions that determine your risk tolerance.
First, how comfortable are you personally with risk? This is a subjective measure, and it depends on many factors, including your financial goals, life stage, personality, and investment experience. Some investors are comfortable with a high degree of risk, others can’t tolerate very much at all, and a lot of people fall somewhere in between.
The second key question is: How well is your investment plan set up to handle potential losses? The more resilient your overall plan is when faced with any potential losses, the more risk it might be able to take on. For example, time can be a powerful ally. The longer you’re going to be invested, the more flexibility your investment plan might have to survive setbacks along the way.
You can find many surveys that measure your comfort with risk. One of the best we’ve found was developed by Rutgers University. Click Here.
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