Five Keys to Investing Success, Key #3: Don't Take Unnecessary Risks

Here's part 3 of Kiplinger's five keys to investing success. Today, we'll be covering key #3, don't take unnecessary risks. Their thoughts:

How Much Risk Should You Take? Controlling risk means more than being “comfortable” with an investment. Too many investors seem perfectly comfortable with too much risk. The basic thing to remember about risk is that it increases as the potential return increases. Essentially the bigger the risk, the bigger the potential payoff. (Don’t forget those last two words; there are no guarantees.) That might sound exciting, but turn it around: the bigger the potential payoff, the bigger the risk of losing.

What is a prudent risk? It depends on your goals, your age, your income and other resources, and your current and future financial obligations. A young single person who expects his or her pay to rise steadily over the years and who has few family responsibilities can afford to take more chances than, say, a couple approaching retirement age. The young person has time to recover from market reversals; the older couple may not.

I'm probably one that takes a bit too much risk, but given my age, it's not that big a deal. I'm highly invested in stocks, but my time horizon is 10 years minimum, so I'm fine. Basically, the closer you are to needing your money, the less risk you can afford to take. That's why many people recommend that your investment in bonds increases as a percentage of the total as you get older.

For more thoughts on investing your money, see these links:

• Index Investing Out-Performs Most Actively Managed Funds, Costs Taxes are Why

• How to Find Money to Invest

• Take These Steps before You Start Investing

• Learn from Millionaires and Others -- Don't Trade Frequently

Comments

[CIWOOD]

As one who has lived through several severe bear markets, I use a different definition of risk in my classes. I KNOW investor behavior causes us to buy high and sell low. Consequently, my definition of risk is any allocation of investments that will prevent one from buying high and selling low!!! I use an intermediate bond fund (VBMFX), a large cap index fund (VFINX), and a balanced fund (VWELX) to illustrate my point. By choosing the balanced fund, I increase my return over the bond fund without incurring the emotional roller coaster of the stock fund. I have lost close to 100k learning about myself while developing this definition of risk.