Risk tolerance is the level of risk, or market ups and downs, an investor is willing and able to tolerate.
An aggressive investor, one with a high risk tolerance, is willing to risk greater loss to potentially maximize returns, while a conservative investor prefers investments that have a lower risk of negatively impacting the portfolio’s value.
It’s important to understand your own risk tolerance when building an investment portfolio so that you won’t over-react during market swings.
The first step toward gauging your risk tolerance is to outline your financial goals, such as saving for college, a car or a new home.
Then create a timeline for when you’ll need the money – lower-risk investments are best for short-term goals, since there’s little time to recover from loss.
Keep in mind that investments with very low risk will grow more slowly, and could even lose purchasing power due to inflation and taxes.
Also consider your personal comfort level in investing – can you sleep at night with the choices you’ve made in times of market volatility?
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