It is essential to understand your risk tolerance before you start to invest
Knowing our disposition to risk or risk tolerance is one of the most important factors when we decide to invest. In the long run markets reward investors who maintain a discipline. In the short term any investor is subject to the vicissitudes of the market and at specific moments can be subjected to high volatilities that can be felt in our portfolio. Very often we hear great analysts making projections as if they were truths. But reality is that we live in a world of probabilities, while our mind is structured to give definite answers, to delete the uncertainty. It is convenient to think in probabilities because that way our perspective will change and we will be more prepared to consider risks which we hadn’t thought of before.
Profitability and risk by definition have a link. Normally the more profitable the more risk, so we have to be prepared to see ups and downs in our portfolio. A moderate portfolio will increase less in the long run but if it is well constructed it will also decrease less during down moments in the markets.
- Never invest the money we need in short term.
In Inbestme we want to ensure that our clients know this premise well. We shouldn’t invest money that we need to satisfy our basic necessities, such as food, housing, school for our children, leisure, trips or whatever we consider vital. It is convenient to set aside an additional percentage of money for incidents. It’s even recommendable to have in a deposit a quantity that covers our necessities for the next two years. This additional sum should be even bigger than if our income is unstable.
It is only then can one start to think about investing our spare money.
It is also important to know the horizon in which we are investing. The further away it is the more aggressive we can be in our investments because in the long run the volatility is significantly reduced.
- Do we have the stomach to overcome de downs in the market?
The best way to measure our risk tolerance is to think which would be our reaction before a down turn in the market. Consider that a fall of less than a 10% is considered a simple correction. Think about the investors who had to overcome falls of up to a 50% during the period of 2008 to 2009. Some investors were incapable of tolerating the situation and sold their possessions. A lot of them didn’t come back when the markets recovered, losing not only the possibility of regaining the losses but also tripling their investments after 2011.
For this reason it is important to distribute of our portfolio accordingly by the losses (although temporal) that we are willing to assume. However, it is important to know how to control our emotions.
- Designing a portfolio that reflects our risk tolerance
Once we are sure of the amount that we want to invest, the amount set aside for potential short term needs, our horizon and our risk tolerance then the moment has come to invest in a portfolio that adjusts to our characteristics. We recommend that you start by getting to know your investor profile. The higher our tolerance to risk, then the more variable rent we will be able to incorporate in to our portfolio and if our aversion to risk is more important then there will be a greater proportion of components with fixed interest. The mix of tolerance and aversion is what will mark the limits to our portfolio’s potential return. In Inbestme we apply sophisticated techniques to combine different assets that help reduce risk. We also apply dynamic systems to adapt to the changes in the market.
- Invest as soon as possible and regularly…
…reduces risk extraordinarily.
The longer our investor horizon the more we will benefit of the magic of compound interest. And in that longer horizon probabilities will align with us and be on our side leaving aside the uncertainty of short term.
It is difficult to foresee what markets will do. But it is easy to understand that if we invest in different moments of the year and in different years then we will align ourselves and bring to our favour the effect of random market factors thanks to just to investing in different moments of the curve. It has been proven that this is a determinant factor for the success of an investor.
In Inbestme we incentivize this factor by suggesting an additional systematic investment from 10% to 15% annually of the quantity initially invested.
Inbestme has started a sophisticated digital financial assessor service as a clear low-cost high added value alternative to traditional investment services. Inbestme responds and answers to all of the challenges that small investors face in the market arena. If you are ready to invest with Inbestme, open an account and get to know your investor profile. If you are still not ready to invest, you can always keep learning with about the basics of how to invest and follow our blog. We hope to help you so that you can step by step have a better control over your finances.