business Personal FinanceWall Street 101

Introduction | What is Risk? | Why Be Risky? | Where Does Risk Come From? | Who Can Tolerate Risk? | How To Reduce Risk | When To Avoid Risk | Timing The Market

Risk

When should you adjust your exposure to riskier investments?

Risk tolerance has an inverse relationship with age. As you get older (and your time horizon gets shorter), you would be wise to gradually reduce your exposure to risky investments, for example, by moving from stocks to fixed income investments.

So how much should you have in equities? Well, we can only give crude rules of thumb. Investors in their 20s, 30s and 40s typically have between 50% and 100% of their money in equities; investors in their 50s usually have between 30% and 80% in stocks; and investors in their 60s typically hold between 10% and 60% in equities.

The Attitude Factor

Of course, there are factors other than age to consider. People of any age have different attitudes about risk. Some may be comfortable if the value of their investments drops 10% or 20% or even 30% in a single year. Many others want no part of an investment that could lose a significant amount of money. You earned your money - only you can decide how you feel comfortable investing it.

Making Adjustments

You may also need to adjust your investments as your financial situation changes, or if you truly feel you are incorrectly invested. And if your most aggressive (highest risk) investments grow faster than the others, they will eventually comprise a larger percentage of your account, meaning that you may want to rebalance your investments.

Two techniques for gradually adjusting your investments are:

  • "Leapfrogging," in which you liquidate the most aggressive investments in favor of investments that are more conservative than any of your current ones. You can shift the balance of your account pretty quickly this way.
  • "Directed distributions," in which you use the money your account makes (the "distributions") to buy shares of more conservative investments instead of reinvesting each distribution in the investment that produced it. This will gradually shift the balance of your account.


The information provided here is intended to help you understand the general issue and does not constitute any tax, investment or legal advice. Consult your financial, tax or legal advisor regarding your own unique situation and your company's benefits representative for rules specific to your plan.
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