Risk Tolerance
Definition
Risk tolerance is an investor's ability and willingness to endure market volatility and potential losses in their investment portfolio.
Explanation
Risk tolerance is a combination of financial capacity and psychological comfort with market volatility. Factors include time horizon, financial stability, investment knowledge, and emotional resilience. Aggressive investors accept higher volatility for potentially higher returns, while conservative investors prioritize capital preservation.
Your risk tolerance should guide your asset allocation. Many online questionnaires help determine your risk profile, typically ranging from conservative to aggressive.
Example
An aggressive investor might accept a 30% portfolio decline in a bad year for the chance of 10%+ average returns. A conservative investor might prefer 3-4% returns with minimal volatility.