Risk: How to avoid taking more than you need

 A man reads through sheets of paper while working on his laptop in an office.

Are you investing too conservatively (or not at all) in hopes of avoiding market declines? If so, we think that’s a mistake. The biggest risk you face is not in the stock market — it’s not reaching your long-term goals. When it comes to investing, there are several components to risk. Understanding them can help give you the confidence to take the appropriate and necessary risks to reach your goals.

Your risk level covers three main areas

What is risk tolerance? Risk tolerance describes your emotional comfort with risk. Knowing your comfort level with risk can help you avoid some emotional investing mistakes, such as chasing performance. Gauging your comfort with risk is important because it’s unlikely you’ll reach your long-term goals if you abandon your strategy during the inevitable short-term market decline. Typically, your financial advisor will ask you to complete a questionnaire that can gauge how you might react to risk in different situations.

What is risk capacity? This is basically your ability to handle risk. Your investment time horizon is often one of the biggest determining factors here. For example, if you’re younger, you have a longer time to make up for potential declines and could reasonably handle more volatility. If you’re retired, however, you are probably less financially able to handle stock market declines.

What is required risk? This describes how much risk you may need to take to reach your goals. In general, the higher the return needed, the more potential risk you’ll have to take. Sometimes there is a gap between how much risk you’re comfortable taking and how much you may need to take to achieve your goals. This is where you may have to make some important decisions — and where your financial advisor can help.

All about balance

Investing is all about balance, including balancing the return you need to reach your goals in relation to your comfort level with risk. Your Edward Jones financial advisor can help ensure that you are not taking too much risk, and that you have quality, long-term investments that can help you reach your goals.

If you have some time before you plan to retire, it’s important to focus on the long term and to consider growth investments, such as stocks and stock mutual funds, as part of your investing strategy.

To put the importance of growth into more perspective, take a look at the chart below. The difference between a 7% return and a 3% return isn’t simply 4 percentage points: It could be nearly $600,000 for your retirement, depending on your contributions and how long you have until you retire.

Same contributions: Different returns, different results

 Return vs Contribution chart
Source: Edward Jones. Calculations assume saving $550 per month, rounded to the nearest $5,000.

Disclaimer: Hypothetical example for illustrative purposes only. Does not reflect the performance of a specific investment.

If you don’t invest appropriately, the potential size of your portfolio — and your lifestyle in retirement — could be affected. So, what does this mean for your investment strategy? It depends on how long you have until you plan to retire.

If retirement is still far away

In general, if you’re many years away from retiring, more of your investments should be geared toward those that provide growth opportunities, such as stocks and stock mutual funds. You generally have more time to weather short-term declines and pursue higher long-term returns. It’s still important to own bonds, however, because they can help smooth out changes in your portfolio’s value over time.

If you’re closer to retiring

As you near retirement, it’s harder to weather larger potential market declines. Your portfolio should start becoming more balanced between stocks and bonds in the years before you retire. Your Edward Jones financial advisor can help you position your investments to provide for the first few years of your retirement income needs, balanced with the growth needed to provide income for your later years.

The key is finding balance — not taking on too much investment risk, while ensuring you have enough growth potential to reach your long-term goals.

How we can help

Talk to your Edward Jones financial advisor today to make sure your strategy is best positioned to help you reach your goals.