Every financial investment has a risk-reward ratio attached to it. Your inability to understand the level of risk that you can take may lead you to make irresponsible choices and affected your financial opportunities. We cannot avoid making financial decisions, so we need to be aware of our financial capabilities before we dive into any risk. To assess how much risk you can afford, here are three important areas in your financial life that you need to investigate.
Your Income and Emergency fund
You need to consider how much money you are truly willing to lose before deciding to invest. If you are living paycheck to paycheck and have a very modest savings, you are not likely to risk losing that modest nest egg by taking a gamble on an investment. With a greater annual income and deeper pockets, you may be more interested in taking a risk.
Not having any cash in the bank to fall back on in times of emergencies also lowers your risk tolerance. If something goes wrong, this emergency cushion can help you survive until you recover. Your risk tolerance will be directly proportionate to the size of your reserve fund.
Your financial goals
Your financial decisions should always try to lead you towards your goals. If it does not, then it would not be worth the risk. Selecting and managing investments in line with the goals will help rationalize your choices. Having short-term financial goals will decrease your risk appetite as you cannot risk with your money. On the contrary, you will take bigger investment risks if you have long-term financial goals only. When you take risks to reach your financial goals, failing at it will not destroy you. It will motivate you to take on calculated risks to achieve your goal.
Your existing debt
It does not matter if you have enough emergency funds or if the risk will lead you towards your financial goals. If you have a lot of debt, you cannot afford to risk your money. You need to put importance into your debt payments. You cannot compromise your current finances because defaulting on your loans will make your financial situation go downhill.
So, remember, it’s not just about how much you like it. It’s about how much you can safely handle, and Before going forward with any investing, it is important that you determine your risk appetite.
The views expressed are not necessarily the opinion of Social Advisors, and should not be construed directly or indirectly, as an offer to buy or sell any securities mentioned herein. Due to volatility within the markets mentioned, opinions are subject to change without notice. Information is based on sources believed to be reliable; however, their accuracy or completeness cannot be guaranteed.