Risk Tolerance

How much are you willing to lose?

Every investment firm you talk to is going to ask you about your risk tolerance. This might be done with some kind of questionnaire depicting different possible investment gain and loss scenarios using graphs or short stories and some personal information about you. The result is usually a score with 1 being conservative and 10 being aggressive and you (like most other people) scored a 5 or 6.

“Congratulations, you scored 6, so that means you are willing to accept a loss of “x” percent of your principal. Let’s get started!”

This is about as useful as asking you how much anesthesia you would like before having surgery. “Your pre-op questionnaire says you scored a 6 on our pain tolerance questionnaire, so you should be okay with pain equivalent to smashing your fingernail with a hammer. Let’s get started!”

Most risk tolerance assessments imply that your investment will fluctuate, but will eventually recover. Maybe they will, maybe they won’t, and that is the real issue. How much of a permanent loss can you accept?

Bottom Line

Don’t convince yourself to take more risk than you should.