You may think that you can’t afford to take risks with your nest egg. Perhaps you’re right. Yet at times, risk may be appropriate or even necessary when you are planning how to be smart with your money.
A well-balanced portfolio includes a mixture of high- and low-risk investments. Generally, low-risk investments guard your principal, while higher-risk investments provide the potential for growth. One way to conceptualize this is to imagine you’re hopefully being paid (i.e., higher interest) to risk your money in an unsecured venture.
The further away your goal is, the greater the risk you can assume. This is because, if your investment sours, you’ll still have many years to make up for the loss. Conversely, the closer you are to actualizing your goal, the greater percentage of your portfolio should be placed in conservative investments. This way, inevitable market dips and dives won’t take their toll on your principal.
How much risk should you take?
While I generally wouldn’t encourage young people to put all of their savings into U.S. Treasury Bonds, I also wouldn’t encourage them to invest their entire portfolio in volatile stocks. Conversely, older folks should have the bulk of their assets in “safe” investments, with a portion in growth in order to beat inflation.
While the level of risk of your investment portfolio shouldn’t interfere with a good night’s sleep, it is important to remember that the greater risk you undertake, the greater your potential return. Increasing your principal is important, because otherwise inflation and other factors could cause your dollars to lose real value. Today’s $25,000 is not as worth as much as a similar sum in the early 1900s.
Even if you only want “safe” investments, a portion of your portfolio should be placed in growth-oriented investments. In order to be able to pay tomorrow’s bills, the value of your nest egg needs to keep pace with the current value of the dollar. Therefore, the real risk of investing may be not taking any risk. Call your financial planner to determine what percentage of your assets should be in riskier investments.
Disclaimer: This article is for educational purposes and is not a substitute for investment advice that takes into account each individual’s special position and needs. Past performance is no guarantee of future returns.