Risk Tolerance
Definition
Your ability and willingness to lose some or all of your original investment in exchange for greater potential returns. It depends on your financial situation, timeline, and personality. High risk tolerance means you can stomach big swings; low risk tolerance means you prefer stability even if returns are lower.
Why It Matters
Your risk tolerance should drive your investment decisions. If a 30% market drop would cause you to panic-sell, you need a more conservative portfolio. Investing beyond your risk tolerance leads to emotional decisions that destroy returns.
Example
Aggressive investor (high risk tolerance): 90% stocks, 10% bonds. Moderate: 60% stocks, 40% bonds. Conservative (low risk tolerance): 30% stocks, 70% bonds. A 25-year-old might handle aggressive; someone retiring next year probably can't.