This article can be paired with our podcast episode Spicy Ramen and Risk
Risk is like spicy ramen.
Your tolerance for #risk is just as different from other people as tolerance for really spicy food. What's good for you for investing may not be good for someone else. It's important to recognize that different investments carry different risks.
There are a lot of different foods with different spice levels. You can think of investments this way as well. Before you speak with your financial professional about selecting your investments, it's important to understand risk and how it can affect your potential for not just gain, but loss as well.
There's a free test you can take from the University of Missouri that will help open your eyes to your risk tolerance in investing and also make you think about how much you actually know about the math and statistics that go into investing decisions.
TEST YOURSELF FOR LOSS AVERSION
If you had a choice between:
A. You owe me $50
B. You can flip a coin and either owe me $100 or owe me nothing
Which one would you choose?
This is a test of something called Loss Aversion. The majority of people will actually choose flipping a coin, despite the risk. This is because the idea of loss is so stressful, that the average person would make a risky decision that could actually cause them to lose even more money.
This can be a really terrible decision that happens with investing. To put it this way, if you have investments that are clearly losing money, you're more likely to make a very emotionally charged decision to double down on your loss in the hopes of the investment going back into the black.
If you're worried about your potential for loss, which is the definition of what "risk" actually is, then you are much better off choosing an investment portfolio that has more safety built-in by having a selection of less risky investment types.
LOWER RISK OPTIONS
If you are looking to lower your risk, there are some investment types to let your finance professional know that you are interested in, such as mutual funds and U.S. Treasury Bonds. The higher the risk, the higher the potential reward. This is because investors are more willing to risk a loss for a higher gain, but wouldn't be willing to invest their money in riskier options if the opportunity for gain was the same as any other kind of investment. But where there is an opportunity for gain, there is an opportunity for loss. These are two sides of the same coin and it's unavoidable to completely avoid risk.
There is no such thing as a risk-less option.
HIGHER RISK OPTIONS
For higher-risk options you can invest in stocks, IPOs, and crypto, just to name a few. You can always diversify (broaden) your investment portfolio by adding a few of these investment types into your portfolio, but it's much safer to keep these at about 5-10% of your investment profile.
TRY INVESTING WITHOUT THE RISK
If you want to try your hand in the stock market without having to worry about losing money, there is a fantastic program available from Investopedia. They give you $100,000 in virtual money, so it's not real money, and let you try a simulated market environment. There are some limitations, but it does function in a lot of similar ways. Keep in mind that since it isn't real money there's an absence of the emotional decision-making process that would definitely be present in the real marketplace.
You can learn a lot of different terms and nuances of what to look for in the stock market in a much more controlled environment and learn about the bigger picture when it comes to investments and loss.