The term “risk tolerance” gets thrown around a lot when it comes to investing. So, what does it mean, and how does it relate to retirement?
In simple terms, risk tolerance is how comfortable you are with potentially losing money on an investment.[1] If you don’t want to lose any money at all from your investments, you would be considered to have a low risk tolerance.[1] If you are okay with potentially losing some money, you would be considered to have moderate risk tolerance.[1] And if you are comfortable with potentially losing a lot of money, then you are considered to have aggressive risk tolerance.[1] These are all relative terms and may manifest differently given your unique financial situation and the asset or investment in question.
So, what is the benefit of having aggressive risk tolerance? Why would someone be okay with potentially losing a lot of money? A well-designed aggressive portfolio may be desirable because, generally, it comes with the possibility of relatively higher returns.[1] This style of investing is not for everyone and is not guaranteed to pay off. It is entirely possible to lose money from this style of investment, but some people are looking for this kind of investment based on their specific financial situation.
Conservative portfolios tend to be important when it comes to retirement because as a person approaches retirement age and is closing in on their total wealth level, they often look to reduce the risk of losing their investments. They might shift their assets into guaranteed vehicles like CDs and short-term T-bills.[1] Again, this strategy isn’t right for everyone, but it is an investing approach commonly incorporated into a retirement strategy.
Risk tolerance is a hard thing to figure out. Some people have an innate sense of what they are willing to risk, and for others, it takes time and experience before they come to understand what is best for their situation.
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