If your investing strategy puts your stomach in knots, your risk tolerance might be the culprit. Risk tolerance is your comfort level with taking market risk. Mike Hennessy, CFA, CFP®, talks about this concept in this April 2020 U.S. News and World Report article “What to Do if You're Uncomfortable With Your Investing Strategy.” Mike Hennessy breaks investors' risk into two concepts: your tolerance for risk and your capacity for risk.
"Risk tolerance is your comfort level with taking market risk," says Mike Hennessy, founder and CEO of financial advisory firm Harbor Crest Wealth Advisors in Fort Lauderdale, Florida. “It's similar to how your mind anticipates the roller coaster ride. Can't wait for the upside-down loop? You have a higher risk tolerance. Dreading that sharp turn? Then your tolerance for risk is low."
Your capacity for risk is how you feel about that upside-down loop when you're in it. “You might think you can ride the biggest coaster, but if you suddenly get sick during the ride, you stretched further than you should," he says.
For an investing strategy to feel right, these two risk buckets need to be in sync, Hennessy says. If they aren't, you may need to adjust your investment strategy to make sure it's something you can stomach while still reaching your financial goals.
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