Edward Jones Financial in Queensbury.
Provided By Meghan Murray
One of the most significant risks investors face isn’t losing money in a market dip; it’s failing to reach their long-term financial goals.
Many people focus heavily on short-term losses in the stock market and try to protect their savings by investing conservatively or avoiding stocks altogether. But that runs the risk that their savings won’t grow enough to keep up with inflation or support future needs.
Understanding what investment risk really means helps you make smarter financial decisions, considering these three key aspects.
Risk tolerance describes your emotional comfort with risk. If you’d want to pull your money out of the market during a downturn, that reveals something about your tolerance. Many financial advisors use questionnaires to help clients understand how they might react in different market conditions.
Risk capacity refers to how much risk you can afford to take. Your timeline matters. A 35-year-old saving for retirement has decades to ride out market swings. A retiree drawing income from their portfolio doesn’t have that same cushion.
Required risk describes how much risk you may need to take to reach your financial goals. Higher returns generally come with higher risk, though higher risk does not guarantee higher returns. If you need strong growth to retire comfortably, you may need to accept more short-term volatility.
Sometimes these elements don’t line up. You might be uncomfortable with risk but need strong growth to meet your goals.
Balance and diversification matter: Finding the right balance matters more than you might think. A small difference in your annual rate of return, from 5% to 7% for instance, doesn’t just add up a little. It multiplies. That’s the power of compounding — returns earning their own returns, year after year, building on an ever-growing base. Over 30 or 35 years, that can become significant.
You needn’t choose between playing it so safe your money barely keeps up with inflation and taking on more risk than you’re comfortable with. Instead, a balanced mix can fit your comfort level and still help grow your money over time.
The age factor: You’ll want to adjust your approach to risk as you get older. If retirement is years away, your portfolio may lean toward growth investments like stocks and stock mutual funds; you have time to absorb short-term losses and benefit from long-term gains. Lower risk investments like bonds still play a role because they can help smooth out changes in your portfolio’s value.
As you near retirement, your portfolio may shift toward a more even mix of stocks and bonds to limit exposure to large market swings. The goal is to protect what you’ve built while still generating enough growth to fund a retirement that could last decades.
Investing well isn’t about eliminating risk; it’s about taking the right amount of it. Too little risk can be just as damaging as too much. A financial advisor can help you find the balance that matches your comfort level, your financial situation and your long-term goals.
Investors should understand the risks involved with owning investments, including interest rate risk, credit risk and market risk. The value of investments fluctuates and investors can lose some or all of their principal.
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This article was written by Edward Jones for use by your local Edward Jones Financial Advisor.
Edward Jones, Member SIPC