Investing is inherently risky. When you buy into any sort of investment, you are hoping to see positive returns on your money. It can be nerve-wracking for new investors to see their investment portfolio go both up and down in value as they take on different levels of risk.
Fortunately, there are strategies to mitigate your investment risk if you tend to be a little more conservative. For aggressive investors that want higher returns, they are willing to accept higher levels of risk.
Not sure what type of investor you are?
Take our Investment Risk Tolerance Quiz
By knowing how you tend to approach investing, you can design a better overall strategy that meets your needs. Aggressive investors can focus on higher returns while conservative investors can protect their assets.
Are Investments Risky?
When someone was to ask me if investments are risky, I would say that they carry risk. There are too many factors that play into that question, but most investments are risky to some extent.
Let’s break down the question, are investments risky? The first part of that question is the type of investment. There are certainly very high-risk investments available, like volatile stocks. There are also more conservative investments that generally maintain value fairly well, like bonds.
Defining your own personal level of risk is also important for answering this question. To one person, there could be too much risk if there is a good chance that they will lose $1,000. Another investor may be ok with accepting a higher chance of losing $100,000.
When you get into investing your money, you should approach it as if there is a high level of risk. Be comfortable with potentially losing your money if it doesn’t work out.
There are no sure investments in life that are guaranteed to make money. And, if someone tells you that it is guaranteed, be skeptical and do your due diligence first.
Determining Your Investment Risk Tolerance
Determining your risk tolerance is a very personal thing. It depends on your current financial situation and how much savings and debt you have. Do you have a steady source of income that you can rely on? What happens if you were to be suddenly laid off?
Your net worth often plays a role in determining your risk tolerance when investing. The greater your net worth, the more money that you will have available to invest. This lets you diversify across different asset classes to minimize risk if one of them performs poorly.
Due to this, higher net worth individuals can usually be more aggressive investors. However, just because they are more aggressive doesn’t mean that they don’t have a strategy to maximize returns.
When you have a low net worth and relatively small savings, you will likely want to be more conservative with your investing. This will reduce your volatility and preserve your wealth for emergencies.
Your risk tolerance can be affected by:
- Your age and timeline for financial goals
- Future goals, such as buying a house or retiring
- Current portfolio size and net worth
- Personal comfort level
Take our quick quiz to determine your own level of risk while investing.
Here is more information on the different types of investing.
Conservative Investing
Conservative investors generally want to minimize their risk and maintain the wealth that they currently have. Staying conservative means trying to reduce your portfolio volatility and create consistent growth, even if it is at a lower rate.
The most conservative you can get would be to hold your wealth in cash because cash is not volatile. The only danger to this is that your money will slowly lose value over time due to inflation.
If you have a low net worth, high debt, and a low emergency savings account, you will likely want to stay conservative with your investments. This is also a good position for people who are about to retire within a few years, or have already retired. You don’t want to have spent 30 years saving for retirement to suddenly have it wiped out with a bad market right when you need it.
Conservative investors should look to invest more heavily in bonds instead of stocks. Other alternatives could be real estate that has been proven to generate consistent returns and precious metals, like gold.
A large strategy for conservative investors should be to diversify your portfolio as much as possible. This means investing in different types of assets and not having too much of just one type of investment.
Aggressive Investing
At the other end of spectrum is aggressive investing. These are people who are looking to earn a higher rate of return on their investment. The catch is that they also need to accept a larger amount of risk.
Stocks are considered to be a more aggressive form of investing because they are much more volatile than other assets. They can see great growth over multiple years, but they can also see large dips. Companies can hit hard times and their stock can suffer, causing you to lose money.
Aggressive investing usually works best for people who have a long period of time before they need to use the money. Young adults who have 30+ years until retirement can afford to be more aggressive because they have time to ride out any dips.
High-net-worth investors can also afford to be more aggressive because they can afford to lose more if something goes wrong. Gambling with $10,000 on a riskier investment may not seem like a lot to someone with a net worth of a million dollars.
Moderate Investing
The majority of people will probably fall into a moderate investing category that is in between conservative and aggressive. This is a good investing strategy that helps to minimize risk while also looking for solid returns.
A moderate investing strategy would have a mix of both stocks and bonds, while incorporating other assets, like real estate. Besides maximizing returns, another goal is to avoid any large potential losses caused by market volatility.
For investors that are more middle-of-the-road when it comes to risk, they will want to focus on proven investment opportunities. Blue-chip stocks and dividend aristocrats are great for stocks while quality bonds can help to diversify a portfolio. The key is to take strategic risks when it makes sense while also holding a stable base of assets.
Check out how I am using M1 Finance to increase my net worth through investing.
How Investment Risk Tolerance Can Impact Your Portfolio
Understanding your personal risk tolerance can have a huge impact on your net worth over your life. It is also important to be aware of how your risk tolerance may change over time as you hit milestones in your life.
In your 20s and 30s, you can likely be more aggressive than later in life. Your 40s and 50s may become more moderate and then you may become a conservative investor as you approach retirement age. Of course, this can all change based on your life events and how your personal situation changes.
Your level of risk can have a large impact on how much money you make. It can also have a dramatic impact on how your portfolio fluctuates in the short-term.
If you had a $100,000 portfolio and invested is at a conservative 5% for 35 years, you will have $551,000 at the end.
By increasing your investment rate to just 6% by being more moderate, you would increase your portfolio to $768,000.
And, by taking more risk to increase your investment to 7%, your portfolio value could be $1,067,000 after 35 years.
As you can see, being more aggressive can pay off big by almost doubling your portfolio. However, this does not tell the whole story since there will be market dips during that time and you may need some of that money. In those cases, it makes sense to stick with a more conservative strategy to reach your personal goals.
Get the Most Out of Your Investments
Building a personalized investment strategy starts with understanding the level of risk that you are comfortable with. Are you able to lose money on an investment and still be able to cover your basic needs? What is the timeline that you need your money.
Start by taking our investment risk tolerance quiz to easily figure out what level of risk you are comfortable with.
From there, design an investment portfolio that caters to your preferences. Adjust the percentage of stocks, bonds, real estate, peer-to-peer lending, and alternative investments to reach your target goals.
