Knowing Your Risk Tolerance

An important part of investing is understanding your risk tolerance. Risk tolerance is basically how much risk can you can stand - both emotionally and financially. And, of course, the very definition of risk is basically, "the possibility that you might lose something." In the case of investing, we are talking about the possibility that you might lose money. And, the higher the risk, the more chance for profit you have. However, with the chance to make bigger profits comes the chance to post bigger losses. So it is important, as you develop an investing strategy, to carefully think about your risk tolerance.

Financial risk tolerance

When you look at your investments strategy in terms of your financial risk tolerance, you will find that it is very much a numbers game. You look at how much money you have, and how much money you can afford to lose. If you can afford to lose more money, you can take bigger risks and aggressive stocks and funds, and in the currency market. However, if you cannot afford to lose a great deal of money, it is vital that you do not invest as much of it, and that you stick to more conservative stocks and funds. You may not make as impressive returns, but you will at least be less likely to run into a situation where you are financially ruined by your losses.

Emotional risk tolerance

Another kind of risk tolerance is emotional risk tolerance. This is a little more subtle. Can you stand to lose the money? Will you be constantly stressed about the performance of your investment? Will you agonize over your investment strategy? Many people, even if they have high financial risk tolerance, do not have the emotional risk tolerance to make high-risk investments. And this is okay. If you feel like a high-risk investment will place too much emotional stress on you, stick with lower risk investments.

Many people find a progressive investing strategy works best. Starting with a more conservative investment as they get used to the idea, and then moving to riskier investments as they earn money and become more comfortable with the investment process. The important thing is to take investing at your own pace, doing what you are comfortable with and stepping outside your comfort zone only occasionally at first.


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