Risk Tolerance: What It Is and Why It’s Important
Many, or all, of the products featured on this page are from our advertising partners who compensate us when you take certain actions on our website or click to take an action on their website. However, this does not influence our evaluations. Our opinions are our own. Here is a list of our partners and here's how we make money.
The investing information provided on this page is for educational purposes only. NerdWallet, Inc. does not offer advisory or brokerage services, nor does it recommend or advise investors to buy or sell particular stocks, securities or other investments.
Risk tolerance is the ability to withstand losses when your investments perform poorly. If you buy stocks, for instance, how much of a drop in the market can you stomach?
If your tolerance is low, you may want to invest conservatively. For instance, a greater portion of your portfolio might be in low-risk bonds and a smaller portion in higher-risk stocks.
Knowing your risk tolerance helps create a game plan that can drive how you invest.
» New to the stock market? Stock market basics: What beginner investors should know
NerdWallet rating 4.8 /5 | NerdWallet rating 5.0 /5 | NerdWallet rating 4.5 /5 |
Fees $0 per online equity trade | Fees $0.005 per share; as low as $0.0005 with volume discounts | Fees $0 per trade |
Account minimum $0 | Account minimum $0 | Account minimum $0 |
Promotion None no promotion available at this time | Promotion Exclusive! U.S. residents who open a new IBKR Pro account will receive a 0.25% rate reduction on margin loans. Terms apply. | Promotion Get up to $700 when you open and fund a J.P. Morgan Self-Directed Investing account with qualifying new money. |
Risk tolerance factors
“Everyone’s risk tolerance is going to be different,” says Charlie Horonzy, a certified financial planner and founder of Focused Up Financial in Chicago.
Here are some of the determining factors:
Goals: The purpose of financial planning isn’t to accumulate the biggest pile of money possible. It’s to decide what you want out of life, calculate how much money you need to reach those goals, and then choose an investment strategy that will deliver the appropriate returns.
Timeline: Generally you can take more risk if you have a lot of time to ride out the bumps. “If you’re going to need money in five or 10 years, that’s much different than if you have 15 years or more,” Horonzy says. The stock market’s overall trajectory across decades is upward, but there are dips and plateaus. A 30-year-old who’s saving to retire at 65 has plenty of time to wait those out. But if you’re saving to buy a house in a few years, investing that savings in stocks is too risky because there likely won’t be enough time to recoup losses if the stock market drops.
» Learn more: How to invest your savings for short-term goals
Age and life stage: At 30, you’ve got time not only to ride out volatility but to make more money working. That's not the case at age 70 or 80.
Portfolio size: Someone starting retirement with a $5 million portfolio may be able to take more risk than someone with $500,000. The person with the larger portfolio has more cushion if values drop.
Personal comfort level: Some people are naturally more comfortable with taking risk than others. If market volatility is too stressful, that’s a signal that you may need to be in less-risky investments.
The risks of ignoring risk tolerance
Investing without considering risk tolerance is like sleepwalking to the edge of a cliff. Imagine investing in stocks without thinking about how you’ll react if their value drops.
“You’re going to get woken up very fast when the market goes down,” Horonzy says.
A big danger then is freaking out and fleeing the market. Then “you’re falling into investing mistake No. 1 of selling low,” says Nora Yousif, a certified financial planner and senior vice president of RBC Wealth Management in Boston. A drop in the market is actually an opportunity to buy because prices are down.
Another danger is playing it too safe, Yousif says. You don’t take enough risk to reach goals. Taking a slightly more aggressive position to get better returns can make a huge difference over the long haul.
Risk tolerance quiz
Automated investing services called robo-advisors — and human financial advisors alike — have clients fill out questionnaires to help gauge their risk tolerance. (If you’re just starting out or don’t have a lot to invest, a robo-advisor is a low-cost way to get started. See our top picks for robo-advisors.)
Answer questions about risk honestly — not as you think a smart investor would.
Take our quick risk tolerance quiz to begin exploring your attitude about risk-taking. The quiz isn’t intended to guide investment choices — you’ll need to consider your goals, timeline and other factors before making investment decisions — but it can give you insight into your natural tendencies.
ON THIS PAGE
