Welcome to the World of Risk

A lot of our favorite activities involve risk. Swimming, skiing, and right now, even going out to a restaurant or mall.

Investing also involves risk, since the market is an uncontrollable entity. Some assets carry more risk than others- everyone has heard the phrase “high risk, high reward”- but even the safest of assets carry some risk.

Good news? Whatever your risk tolerance, there are ways to discover an appropriate investing style for your portfolio.

Risk Profile

An investor’s Risk Profile details how much risk the investor is comfortable with in their portfolio. The Risk Profile is generally based on the amount of money an investor is willing to/able to lose, as well as the amount of time that the money needs to be in the market, also known as the Time Horizon. There are three levels of Risk Profiles:

• Conservative

Conservative Risk Profiles are for investors who want as little volatility as possible. This is smart if you are not looking for protection over a large return, of if your have a short Time Horizon.

• Moderate

Moderate Risk Profiles describe investors who want a return, but are unwilling to take on too much risk. This can be achieved with a balanced portfolio, and mid-length Time Horizon.

• Aggressive

Aggressive Risk Profiles are for investors who want the highest possible return. To achieve this, an investor must have a lengthy Time Horizon, and must be acclimated to extreme volatility. An aggressive portfolio may invest in startups or companies with new developments on this horizon. Aggressive investors are usually younger, experienced investors.

Balancing Assets

Once you decide your Risk Profile, you can determine the structure of your portfolio. One way of creating a portfolio is the Pyramid Method, which divides assets into the categories of Base, Middle and Summit based on risk and percentage the portfolio.

• Base

For a conservative investor, the Base assets should take up most of the portfolio. This section consists of low-risk investments that offer long term returns.

• Middle

The middle portion is smaller than the Base, and contains assets which offer consistent returns and carry more risk than the Base assets. They are moderate investments.

• Summit

The Summit of the pyramid is the smallest part, and contains the riskiest assets. This part of the portfolio has the potential to generate high returns, but is risky enough that investors should not put more money than they can lose into it. Aggressive investors may make the Summit a larger part of their portfolio, while conservative investors may not include it at all.

Bottom Line

The World of Risk seems unpredictable, but navigating it is necessary for any investor looking to grow their money. Based on an individual investor’s level of experience, any of the three Risk Profiles could be used to inform a portfolio, as long as the investor is mindful of their Time Horizon and how much money they can afford to lose.