My 401k at work has suggested portfolios based on risk tolerance. I’ve read a few articles online, but wanted Dr. Gene’s advice on how I should gauge my risk tolerance?
Risk tolerance is as much psychological as it is anything else. If you cannot sleep at night knowing your retirement portfolio will increase or decrease in value, you may not be built for the stock market. Your risk tolerance is low and you may feel better having your money in fixed-income investments. If you are the type of person to sell when the market drops 10%, you have essentially guaranteed your loss.
When we discuss risk, we are looking at the variance around an investment’s expected return. Stocks are some of the most volatile investments. Small-cap and international stocks are the most volatile, with a standard deviation around 18%-22%.
You can never eliminate risk; however, you can better accept risk if you have time. If you need your money within the next year, the stock market is the last place you want to invest it. Some years the market could be up 30% but likewise, it could be down 30%.
At Henssler Financial, we recommend working with a 10-year time horizon. We believe the chances of you being in a position where you are unable to sell after 10 years without a profit are very rare.
We recommend you look at both your ability and your willingness to take on risk. We suggest measuring out what money you need within the next 10 years. This is your liquidity need, and we feel you should keep that money safe in fixed investments. For money you do not need in 10 years, you may be willing to take on more risk. This is your time horizon. We also recommend you consider your quality of investments.
A company can be on the brink of bankruptcy and the next year return 3,100% going from $.50 to selling for $16. But it could just as easily go from $16 to $3. This is quality risk you can minimize by seeking quality companies that can weather not only the next recession but the next depression. A quality company may start at $60, dip to $40 during a recession but be able to quickly return to $60.
At Henssler Financial we believe you should Live Ready, and that includes consulting experts for financial matters you do not understand. If you have questions regarding your risk tolerance the experts at Henssler Financial will be glad to help. You may call us at 770-429-9166 or email at email@example.com.