How To Define Your Financial Risk Appetite

Investing money with the hopes of earning a greater return in the future is the aim of all investors. However, how much risk are you willing to take with your money? This article will help you to understand what risk is and how you can determine your own risk appetite.
Hope Harvey

If you’re starting to think about investing, be that through a Stocks and Shares ISA or other investment means, you will need to think about what kind of investor you want to be. By this, we mean defining your investment style and deciding on the level of risk you are willing to take. 

Deciding whether to invest depends on your personal circumstances. Investing money is generally for the longer term, so you need to make sure you are comfortable with putting money away that you won’t access for at least around three years. If you are new to investing, a Stocks and Shares ISA is a great place to start because they potentially offer higher returns than saving in cash, while having tax benefits, so this tends to be the route new investors go down.

So, what do you actually need to think about before investing? 

Here are three main questions to ask yourself:

  • What are my financial goals?
  • How long can I put money away for?
  • What level of risk am I willing to take?

Defining your goals is the first step to determine if investing is really for you. For example, if you’re saving for a holiday or an emergency fund, then keeping those funds in a means that's easy to access such as cash or an easy access savings account, may make more sense. If you’re willing to put your money away for longer for something like retirement, then investing may be the right choice. Keeping your money invested for longer allows your investments to grow, maximising the potential of increased returns. 

The most crucial thing to remember is that investing comes with the risk of losing the money you put in. So, once you’ve figured out if investing is right for you, it is important to evaluate your personal financial situation to assess the level of risk you are willing to take. Three things that will help you to determine your risk appetite are:

Income

Typically, the higher your salary, the more disposable income you may have and therefore, the more risks you are willing to take as you have that additional cash to ‘spare’. 

Age

Younger people generally have longer before they will need access to their money, hence they have the chance to take more risks, allowing for movements up and down in value. For older investors, the level of risk tends to be lower as they may need their money sooner and so, act more cautiously to negate effects of loss. 

Objectives

Hopefully, you’ve already established your financial goals as a whole, but defining your investment objectives goes one step further. With the information you’ve gathered so far, you can then decide what you want to focus on - minimising loss, maximising returns, achieving high growth, beating inflation. 

So, what is your risk appetite?

Low/Conservative

Prioritise minimising loss. Small movements up and down in value are acceptable, aiming to beat inflation. 

Moderate

Prioritise minimising loss is of the same importance as making gains. 

High/Ambitious

Prioritise maximising returns as the aim is to reach the highest growth possible.

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