Risk is a four letter word that many of us shy away from, especially when it comes to our wealth. After all, there’s an inherent degree of failure associated with risk.
Although risk and volatility can be uncomfortable, a certain degree of risk in investing may be necessary to grow and compound your wealth. So, as an investor, how can you determine what degree of risk to take on in light of your unique financial objectives?
Here are some focal points on risk in investing that can help you achieve your financial goals:
Know that avoiding risk has its share of downsides
When it comes to avoiding risk in investing, many people turn to savings accounts to avoid it entirely. Savings accounts may seem like a safe haven to the average layperson, because they aren’t subject to volatility and risk, and they do provide interest.
What prudent investors realize is the ever-inherent danger of inflation, and the need to protect against it. Year over year, every dollar loses part of its purchasing power due to inflation (averaging around 3 percent), and the average interest rate of a savings account does little to offset it.
Have a long-term outlook
Many investors shy away from risk in investing in the stock market because it displays a great deal of it in the short-term. Take 2008 for instance – stocks lost over 37 percent of their value that year. Anyone looking at those results from a myopic perspective would be hesitant to dip their feet into the stock market.
From a long-panned out perspective, however, you’ll notice that the risk of investing in the stock market can lessen over time. Although we see large drawdowns and spikes in volatility when viewing it over days or months, the longer time-frame you examine the stock market for, the more of its overall growth you’ll notice. Over 3, 5, or even 10 year periods, you’ll see that your risk of losing wealth drastically decreases.
Don’t rely on ‘cookie cutter’ advice
Many advisors and online advice will offer “plug and play” formulas for taking on risk in investing. For instance, you can find plenty of pre-created asset allocations for various stages of one’s life, like in your 30’s or before retirement. While these formulas aren’t inherently wrong, they don’t account for your unique appetite for risk and investing needs.
An asset allocation that includes almost all equities, for example, might result in higher returns, but that’s only feasible if you are able to stick to the plan. Just like the rest of life, what might work in theory often doesn’t actually pan out in practice. That’s why it’s vital to realistically asses your appetite for risk, and your ability to stick to your investment plan.
One way to asses your risk is through “stress-testing,” and using forecasting tools to examine how your portfolio would perform under various theoretical scenarios. You may realize that shifting part of your asset allocation to less-risky assets, such as bonds, will allow you to stick to your plan and still meet your financial needs.
Learn more about risk in investing
At LexION Capital, we know that you’re more than just an investor. We begin our process with a goals-based dialogue to asses your appetite for risk. Then, we craft a bespoke portfolio tailored to your exact goals, and maintain an ongoing dialogue to ensure peace of mind with your finances. If you’d like to learn more, contact us today and start a conversation.
