What Investors Need to Know About Risk
Did you know that risk tolerance and risk capacity are not the same thing? Good decisions start with a firm understanding of risk.


Anyone who's ever played poker knows that different players have different takes on risk. There are those who step out on the thin branches every chance they get, betting big and relying far too heavily on the bluff. Meanwhile, others take a conservative approach to the game and are apt to fold early rather than risk any loss.
When it comes to investing, it's the same. Each of us carries around attitudes about risk that determine the decisions we make. In poker, you stand to lose the money you brought with you that night. But in investing, you stand to lose a whole lot more if you don't understand the basics of risk.
Risk is one of the most misunderstood areas of finance so let's take a moment to review what all investors should know.

Sign up for Kiplinger’s Free E-Newsletters
Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.
Profit and prosper with the best of expert advice - straight to your e-mail.
Know What Your Risk Tolerance Is
Risk tolerance is the degree to which you can withstand varying swings within your investments.
If you are risk-averse, you may be the type of person that keeps all your money in a savings account. This conservative money move can only yield conservative returns – typically less than 1% interest with today’s rates. This low tolerance for risk can wind up hurting you, because inflation will slowly chip away at your savings and you may not be able to build up enough money to sustain yourself in your retirement years.
And if you are a riskier investor, you may take on too much risk by investing aggressively in stocks or other types of investments that have the potential for large returns … and substantial losses. The danger with riskier investments too close to retirement is that you could compromise your financial stability by not having enough time to recoup your losses.
There is a balance between taking on enough — but not too much — risk, based on where you stand today and what you want your money to help you accomplish in your lifetime.
Know What Your Risk Capacity Is
Your risk capacity is a measure of how much of a loss you can handle without severely jeopardizing your financial goals and well-being.
Your age and how many years you are from retirement are critical factors in determining your risk capacity. When you are in your 20s, your risk capacity should be higher than when you are in your 50s for the simple reason that you have at least 30 years until retirement and can more safely ride market volatility.
A good rule of thumb is that the more time your money has to work on your behalf, the higher your capacity for risk.
Know How to Judge Risk
Appropriately judging financial risk requires objectivity and discipline. We all know what it looks like when people make emotional investing decisions. They could be on the hunt for the next big opportunity, like a Google or Amazon. They reactively act to hearing a stock tip from a media figurehead or a friend. They are fearful when everyone else is fearful and make money decisions based on their emotions rather than sound reason.
The truth is, risk is always present when it comes to your finances; there is no such thing as a risk-free investment. In fact, some risk must be present in order to receive a return, but you want to take smart, calculated risks that make the most sense in your situation.
Know What to Do with Risk
Being fully aware of your financial needs and goals and your personal capacity for risk will help you make informed decisions about your finances along the way. Financial growth happens when you take calculated risks with your money. You have to be willing to let your money go to work for you, but it’s imperative that you invest properly according to your risk tolerance and follow a disciplined investment strategy that protects you from reactive or impulsive actions when it comes to your money.
Profit and prosper with the best of Kiplinger's advice on investing, taxes, retirement, personal finance and much more. Delivered daily. Enter your email in the box and click Sign Me Up.

Paul Sydlansky, founder of Lake Road Advisors LLC, has worked in the financial services industry for over 20 years. Prior to founding Lake Road Advisors, Paul worked as relationship manager for a Registered Investment Adviser. Previously, Paul worked at Morgan Stanley in New York City for 13 years. Paul is a CERTIFIED FINANCIAL PLANNER™ and a member of the National Association of Personal Financial Advisors (NAPFA) and the XY Planning Network (XYPN).
-
Stock Market Today: Stocks Step Back From New Highs
Investors, traders and speculators continue the low-volume summer grind against now-familiar uncertainties.
-
Ask the Editor — Tax Questions on the New Senior Deduction
Ask the Editor In this week's Ask the Editor Q&A, we answer tax questions from readers on the new $6,000 deduction for taxpayers 65 and older.
-
Do You Need Flood Insurance? I'm an Insurance Expert, and Here's Where You Can Get It
Standard homeowners insurance does not cover flood damage, so you might need separate flood insurance, which you can get either through FEMA or private companies. Here are the details.
-
I'm an Investment Professional: These Are the Three Money Tips I'm Giving My College Grad
College grads can help set themselves up for financial independence by focusing on emergency savings, opting into a 401(k) at work (if it's offered) and disciplined, long-term investing.
-
New SALT Cap Deduction: Unlock Massive Tax Savings with Non-Grantor Trusts
The One Big Beautiful Bill Act's increase of the state and local tax (SALT) deduction cap creates an opportunity to use multiple non-grantor trusts to maximize deductions and enhance estate planning.
-
Know Your ABDs? A Beginner's Guide to Medicare Basics
Medicare is an alphabet soup — and the rules can be just as confusing as the terminology. Conquer the system with this beginner's guide to Parts A, B and D.
-
I'm an Investment Adviser: Why Playing Defense Can Win the Investing Game
Chasing large returns through gold and other alternative investments might be thrilling, but playing defensive 'small ball' with your investments can be a winning formula.
-
Five Big Beautiful Bill Changes and How Wealthy Retirees Can Benefit
Here's how wealthy retirees can plan for the changes in the new tax legislation, including what it means for tax rates, the SALT cap, charitable giving, estate taxes and other deductions and credits.
-
Portfolio Manager Busts Five Myths About International Investing
These common misconceptions lead many investors to overlook international markets, but embracing global diversification can enhance portfolio resilience and unlock long-term growth.
-
I'm a Financial Planner: Here Are Five Smart Moves for DIY Investors
You'll go further as a DIY investor with a solid game plan. Here are five tips to help you put together a strategy you can rely on over the years to come.