Know Your Risk Tolerance and Time Horizon (and Stop Worrying)
As 2023 kicks into gear, economists and market commentators are busy picking sides for the year ahead. Will this be the year a recession finally materializes, or will the Federal Reserve manage to tame inflation and achieve that fabled "soft landing"?
If you’ve been a reader of our Financial Insights blog, you know the answer is, “it depends who you ask.” You also know it doesn’t really matter what anyone else thinks, because it’s impossible to time the market and no one has a crystal ball.
About the only thing we can bank on this year is more of the volatility and uncertainty that plagued investors in 2022. Many of the same events that brought us to where we are today—interest rate hikes, supply chain struggles, the war in Ukraine—will continue to have an impact in 2023. And there will be plenty of new events to dissect and worry about.
The truth is, if your financial well-being hinges on the market’s moves, you’ll never outrun worry.
You must learn to let go and stay grounded in the face of uncertainty.
Knowing your risk tolerance and time horizon can help.
Risk tolerance and time horizons, explained
When it comes to weathering volatility in the markets, staying true to your risk tolerance and time horizon is your best strategy for success. These are two fundamental concepts in financial planning, and the starting point for all of our client plans, so let's review quickly.
Risk tolerance is an individual’s willingness to accept the potential for losses in order to earn higher returns on an investment. It’s different for everyone, and influenced on a variety of factors including your:
- Age: Younger investors generally have a higher risk tolerance (and higher risk capacity) than older investors.
- Financial Situation: An individual’s cash flow or savings (relative to their own expectations) may have an influence on their risk tolerance.
- Personality & Past Experience: Some people are risk-takers by nature while others are more conservative. Some panicked and sold during the dot-com bubble or the recession of 2008-09 and are more hesitant when it comes to investing. We all have our own baggage and preferences.
- Time Horizon: The length of time you plan on holding an investment. Those with longer time horizons are typically willing (and/or able) to take on more risk.
Your time horizon is a critical component in your risk tolerance profile. It can range from a few days for the most speculative investment strategies to several decades for your "nest egg" retirement accounts. If your time horizon is long enough, you can ride out just about any market-impacting events.
Note that your risk tolerance and time horizons will change over the course of your life. When you’re younger and have fewer financial responsibilities, you can afford to be more aggressive with your investments. Often, as we grow older, our savings and comfort levels shift, and we’ll likely need to adjust your financial plan accordingly. Cedar Point Capital Partners is here to help you navigate those transitions, and keep your plan updated for whatever point of life you're in.
So how do we figure this all out and build a financial plan that aligns with your personality? Well, first and foremost, we listen.
Our new client process is designed to uncover your beliefs and preferences about money and investing. We’ll spend a good amount of time getting to know you and your life so we can uncover insights about your relationships with risk that maybe you don’t even know.
We also use a variety of tech-enabled tools to better understand your willingness and capacity to take on risk. These technologies help us pinpoint current portfolio risk levels, this allows us to provide a comparison against stated goals and objectives to ensure we remain on track.
How do risk tolerance and time horizon keep you grounded?
Risk tolerance and time horizon work together to put boundaries around our planning and investing efforts. These boundaries are important because they keep us from:
- Making investments that don’t fit our goals
- Making investments with unreasonable expectations
- Making rash moves with market gyrations that don’t fit our investment policy
Any investment or financial planning decision we make on your behalf is filtered through these characteristics and made according to your plan. We’re not acting impulsively or emotionally or from a place of fear—we’re acting on a rational, evidence-based plan built off your most personal preferences and goals.
It's when you don’t have a plan—when you’re acting emotionally or trying to time the market based off what you’re reading and hearing—that's when things can start to go wrong. You open yourself to costly mistakes and may even overcorrect with additional poor decisions. You’re likely to feel anxious and worried. Suddenly, your quality-of-life falls.
Understanding who you are as an investor and how long you have to ride an event out gives you freedom at moments of extreme stress, whether it's the dot-com bubble, the housing crisis, or whatever the next great calamity might bring.
If your risk tolerance is aggressive and your time horizon long, you can ride out the turbulence; if your risk tolerance is conservative and your time horizon short, your plan has already been built with the right safeguards in place for whatever might be thrown your way.
That’s the beauty of fiduciary-grade financial planning and wealth management, like the kind you’ll find here at Cedar Point Capital Partners. With the right plan, you’re always prepared and looking ahead. In short, you can quit worrying. Give us a call and let us help you get there.
The commentary on this blog reflects the personal opinions, viewpoints, and analyses of Cedar Point Capital Partners (CPCP) employees providing such comments and should not be regarded as a description of advisory services provided by CPCP or performance returns of any CPCP client. The views reflected in the commentary are subject to change at any time without notice. Nothing on this blog constitutes investment advice, performance data or any recommendation that any particular security, portfolio of securities, transaction, or investment strategy is suitable for any specific person. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. Cedar Point Capital Partners manages its clients’ accounts using a variety of investment techniques and strategies, which are not necessarily discussed in the commentary. Investments in securities involve the risk of loss. Past performance is no guarantee of future results.