Constructing Your Financial Profile – Your Tolerance for Risk

So far we have discussed Your Stage of Life and Your Life-Style the first two of five steps in building your financial profile. Your Tolerance for Risk is the third step in this process.

You must ask yourself tow questions when it comes to assessing your tolerance for risk: Do you HAVE any money to risk? If you do, what promised rate of return would it take for you to risk it? The first is a question of resources; the second a question of attitude.

To some extent, of course, it really doesn’t matter if you’re the type to stake all on a spin of wheel – or inclined to tuck your money under the mattress. What is vital though is accurately assessing how much you can afford to loose – the resource side of the risk coin.

If you can afford to lose all or part of the amount you invest without undue hardship, the odds that your investment will pay off are vitally important.

If you can’t afford to lose your investment, the odds are irrelevant, because you can’t make the investment no matter how great the potential payoff.

Let’s say you have the opportunity to invest GHc1,000 (or $1,000). And you stand a chance of making GHc10,000 (or $10,000) or losing the entire amount you invested. You go ahead with the deal. You like the possibility of earning a 1000% returns on your investment and you can afford to lose your GHc1,000 (or $1,000) stake.

But suppose the same opportunity required a minimum investment of GHc100,000 (or $100,000).And you could make GHc1million (or $1million) or lose your entire investment. Although the odds are identical (i.e. 1000% interest rate) and you would like the chance to earn GHc1million (or $1million), you let the opportunity pass. Why, the reason is simply: You can’t afford to loss the GHc100, 000 (or $100,000).

Once you analyze your resources and figure out what you can afford to lose, your attitude comes into play. And be advised: if you think you are a risk taker, you could be in for a surprise.

Researchers have found that the risks people take with their money differ from the chances they take in other areas of their lives. There are skydiving enthusiasts, who invest sorely in well established and reliable shares and kindergarten teachers who regularly trade in shares of newly established companies with no magnificent history.

Some risk takers who say they wouldn’t hesitate to put money into a new business that could fail – as long as the possible return was high are the same people who steer clear of investing in ‘safe’ shares – those with steady returns but little potential for appreciation.

Here are a few differences between high-risk takers and the risk averse:

Risk takers are better money managers.

Risk takers spend more time reading about money and investments.

Risk takers have confidence in their money-making schemes.

Risk takers have leadership abilities

Risk takers are good sales people.

Its been proven that when it comes to risk taking, stereotypes don’t hold water. Women, for instance are no more risk averse than men

But people are less likely to take risks with their money as they grow older. The simple reason: Their fear of loss is greater than their hope of gain. In other words, it is not the returns on the money that matters but the return OF the money.

Like Life-style choices, there are no absolute rights and wrongs when it comes to attitudes about risk. The important point to remember: Know your own tolerance and make financial decisions accordingly.

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