Volatility is a given in investing. However, extreme volatility in the equity markets can be scary (even for experienced investors) and serves as a sign to reassess your investing strategy.
Identify Your Goals
Start the process of reassessing your investing approach by making a list of reasons why you are investing. For example, your goals might include retirement security, paying for your children’s college educations, buying a bigger home or a second home, or financing a planned business. Remember to be specific and include estimates of how much you’ll need for each identified goal.
Balance Risk with Your Expectation of a Reasonable Return
Once you have outlined your goals, you’ll be ready to assess your risk tolerance. This is essentially your ability to accept the chance of investment losses in return for the possibility of earning higher returns. As an investor, you want to earn a reasonable return on your invested assets while taking only the degree of risk you can tolerate comfortably.
For this purpose, answering the following questions can help you understand your risk tolerance:
When will I need the money? All else being equal, you can assume a higher level of risk with your investments if you have time on your side. Time allows you the opportunity to potentially recover from investment losses.
However, if you’re investing for retirement and it is near, it may make sense to reduce the percentage of your portfolio allocated to stocks and increase the percentage allocated to bonds and cash equivalents. This will involve transitioning from a growth strategy to one that is more focused on earning a more modest return and preserving whatever gains you’ve made.
Just how big an investment loss could I handle? It’s easy to say an investment loss won’t impact you. The reality is that you may overestimate your ability to handle a loss. You can better understand your tolerance for risk if you translate an investment loss from percentages into real dollar terms. You could potentially see your portfolio decline by 15% (or more) in a severe market downturn. If your portfolio is worth $60,000, that 15% decline is $9,000. Therefore, consider how well you could deal with a potential loss of that magnitude.
How will a loss impact my plans? It is only when you look at the impact of a potential loss in specific and measurable terms that you will be able to assess your ability to absorb investment risk. Would a significant decline in your portfolio’s value mean that you would have to delay your retirement date by a year or two or hold off on sending your children to the colleges of their choice? Thinking about risk in concrete terms can clarify your thinking about the level of investment risk you can tolerate.
Diversification Is a Key Strategy
Diversification* simply means that you are spreading your investments among different securities and asset classes. Diversification helps reduce the risk that your portfolio’s overall value will be seriously affected if one security or asset type performs poorly. For example, if you have all your investments in stock funds** and the stock market drops, your portfolio’s value is likely to drop—perhaps significantly. But, if you diversify your investments by also holding bonds and cash equivalents, their performance may cushion the stock fund losses.
Managing and controlling the investment risk in your portfolio can help potentially bring you closer to achieving your investment goals. Therefore, take the time to analyze how you have structured your portfolio and whether your current strategy is in line with your goals, your time frame for achieving those goals, and your capacity to absorb the risk of investment losses.
One of our professionals can assist you
Every situation is unique, so be sure to consult a professional before taking action. Contact Popular’s Retirement Center at email@example.com. If you have a 401(k) plan with Popular, remember that you can count on our group of experts at TeleBanco Popular® to guide you on matters related to your retirement plan. Call us at 787-724-3657 (press option 2 three times).
*Diversification does not ensure a profit or protect against losses in a declining market.
**You should consider a fund’s investment objectives, charges, expenses, and risks carefully before you invest. The fund’s prospectus, which can be obtained from your financial representative, contains this and other information about the fund. Read the prospectus carefully before you invest or send money. Shares, when redeemed, may be worth more or less than their original cost.
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