Decor & Style > It's More Than Money
A Wise Risk Today Brings Good Fortune Tomorrow
by Candace Bahr
Perhaps it was Confucius who said, “Nothing ventured, nothing gained.” If not, the saying is at least as old as the much-revered Chinese sage, and I think he would have approved of such wisdom. Without stepping out, trying your hand and taking a chance, you can’t achieve your goals—especially your financial goals. Investing for the future is always a game of chance, and risk-taking is part of the game plan.
The goal is to make your money grow: keeping ahead of inflation, using interest rates to your advantage in saving and borrowing, and riding safely through the ups and downs of stock market and real estate cycles. The secret is to be a wise risk-taker and find the right balance for you between hopeful excitement and sleepless nights.
How Much Risk Is Right?
Losing money on risky investments is agonizing. Not only does it set you back, but it also takes a considerably greater rate of return to recoup those losses. For example, if your investment loses 10 percent the first year, it must earn 11 percent the next year just to break even. If your investment loses half its value, it will need to double before you are back to even.
All investing involves some element of risk. The types of investments you choose should be determined by your risk tolerance—that is, how much risk you’re comfortable with—as well as other factors, such as your time horizon (how long you have until you need the money), current income and future spending needs. It is better to invest wisely and accept smaller gains each year than to put all your money into a risky investment, hoping to make a killing too quickly.
What Kind of Risk?
You face three basic types of risk when you invest your money. With market risk, your investment may lose value due to market shifts. This type of risk is inherent in stocks and real estate. With interest rate risk, a change in interest rates may cause your investment to lose value. Bonds are vulnerable to this type of risk. Inflation risk is the risk that inflation will outpace the return on your investment, eroding its purchasing power. This risk affects savings accounts, certificates of deposit and U.S. Series EE Savings Bonds.
While it’s natural to fear risk, it helps to understand exactly what risks you are facing. An African missionary tells the story of watching a pride of lions stalking a herd of gazelles. The lions silently surrounded the gazelles, and then two old, toothless lions gave a ferocious roar. The frightened gazelles stampeded away from the roar and straight into the mouths of the younger waiting lions. Don’t be so afraid of making investment mistakes that when the toothless lion of the stock market roars, you run in the opposite direction. Stashing money in low-interest savings accounts might feel safe, but it leaves you vulnerable to the risk of inflation eating up your dollars.
The Right Risk Brings the Best Return
We’ve found that investing stymies many clients, especially women, because they are searching for the perfect investment. Unfortunately, the perfect risk-free investment isn’t out there. The good news is that you don’t need to search for the one best investment. Diversification, or choosing a stable of investments with different features and benefits, is the smartest way to go.
You can use time and diversification to your advantage. The risk associated with a lot of investments is lessened with the passage of time. Stock market returns, for example, may fluctuate from year to year, but holding on for longer periods has historically provided less risk. A diversified portfolio of multiple types of investments that respond differently to changing economic factors can reduce risk and help you reach your financial goals. Keep an eye on the long-term prize and feel less stress over the short-term ups and downs.
We help our clients measure their personal R.Q. or Risk Quotient before we talk about investment strategies for them. Investor, know thyself to understand how comfortable you are (or aren’t) with risk. When investing, balance is the key word. Knowing your personal risk-taking style can help you make yourself comfortable—without risking too much or too little—as you work toward your secure financial future.
Philosopher William James points out that faith and risk are partners: “It is only by risking our persons from one hour to another that we live at all. And often enough our faith beforehand in an uncertified result is the only thing that makes the result come true.”
What's Your Risk Quotient?
1. If the stock market dropped 10 percent tomorrow, I would:
a. sell everything.
b. bide my time and see what happens.
c. put more money in.
2. Given a choice between $1,000 cash and a 1-in-10 chance for $10,000, I would:
a. take the money.
b. if I really need cash now, take the money.
c. take a chance.
3. Short-term losses in my retirement account make me feel:
a. extremely worried.
b. a bit concerned.
c. determined to stay the course.
4. Do you like surprises?
a. No!
b. Only on my birthday.
c. Half the fun is seeing what happens next.
5. When I make a bad investment, I:
a. brood for months, years.
b. try to let it go.
c. focus on my next venture.
6. In my daily life, I:
a. like predictability and routine.
b. try to do things differently now and then.
c. can’t stand to do the same thing twice.
7. My outlook on the future is:
a. pessimistic—things get worse and worse.
b. half-full and half-empty— sometimes it works, sometimes not.
c. optimistic—things always end up for the best.
Lots of A’s in your answers? You may be too conservative. Many B’s means balanced risk-taker. If you’re a C type, watch out for those too-risky choices.
For a longer version of this test and some advice on your brand of risk-taking, visit www.wife.org.
