How do you define risk?
How investment goals, inflation and time frame may affect your concept of risk.
One of the investment terms you hear most often is also one of the hardest to define — risk. Not only does risk mean different things to different people, your own definition will probably change during your lifetime. Every investment holds some degree of risk, even a Treasury bill. Here are three “risk” considerations you should review when planning your investments.
What’s your time frame?
Many people define risk as the possibility that the value of their stocks and bonds will go down. Stocks and bonds can be volatile, especially in the short run. That’s why, over the long run, your time frame is perhaps the most critical component in planning your investments. For example, if you are investing for a retirement that is 25 or 30 years away, you typically have more time to ride out the ups and downs of the market. What if your time frame is shorter? If you’re close to retirement or your child is headed to college in just a few years, you may not have the time to ride out a downturn. Your tolerance for risk may be lower and you may want to consider investments that historically have been less volatile.
Will you keep up with inflation?
One big risk most investors face is that their purchasing power will be eroded by rising prices in the future. “Playing it safe” and accepting lower market volatility also means accepting the potential for lower returns — a risky strategy if you are trying to keep up with or even beat inflation. Even after you retire, you may want to keep some of your assets in growth-oriented investments — after all, you may be retired for 10, 20 years or more.
What’s your goal?
This may be the most important question you ask. Being as specific as possible when answering will help you plan. Once you know your goal, work with your financial adviser to match your investments to it. If your goal is ambitious, you may have to accept higher volatility and a greater chance of loss in return for the potential to reap higher rewards. But if your goal is modest, you may be willing to accept the trade-off of less gain for lower volatility.
If you have concerns or questions on how you define risk, please contact your financial adviser.
Note: Be sure to discuss these issues with your financial adviser before making any changes to your financial plan.