How do you become comfortable with risk?

lesta1980

Wondering how each of you got to the point where you are comfortable with risk? I fully understand that investment is a long term thing but does anyone ever worry about the worst case scenario and losing everything, or half or whatever?

Not saying im in that position myself, just curious how others may sometimes think. after all, just because something did well in the past doesn't mean it will in the future as they say

bowlhead99

lesta1980 wrote: »

Wondering how each of you got to the point where you are comfortable with risk? I fully understand that investment is a long term thing but does anyone ever worry about the worst case scenario and losing everything, or half or whatever?

As others mention here whenever this is raised: Risk is not on/off, it is a sliding scale.

If you put your money under a mattress it might get stolen or burnt down. If you avoid that by putting it in a bank vault at some market interest rate, you still have the risk that in future the money or the interest income being made from it is not as valuable in real terms (due to inflation) as it was at the start, and may fall way short of your needs in the 'long term' causing you to need to work a lot harder or longer.

If you have the money in foreign currency or foreign assets it can add risk because a dollar note or a good US company might be worth less in sterling terms if sterling appreciates, even if the underlying company is sound. However, it is also a risk to not invest in any foreign currency assets because now and later in your life you will still want to be buying cars from Japan and TVs from Korea and software and movies from USA and washing machines from Germany etc etc etc, and if sterling weakened against that basket of currencies you would find it difficult to import all those things with your pound coins from under the bed.

So personally I end up getting comfortable by having a good hard think about how the world works and what I need out of it to avoid needing to work until I'm 80.

- The economies around the world create wealth and grow because of population and productivity increases. The commercial businesses that operate out there in this growing economy should therefore make money and grow. Even if some of the economies are shrinking there are always good strong companies making money. If companies in general could not, on average, make money, they would cease to exist as nobody would provide them with capital, and the world as we know it would collapse. And so losing a few grand in my ISA or pension would not be my biggest concern.

- So, how should I make money other than through my physical and mental labour? By putting cash into a large number of companies for an equity participation in companies (share of assets and profits) or a loan participation in companies or government organisations (fixed interest return paid to me out of the organisation to thank me for the funds)

Even having decided on investing broadly in investment funds there are still choices to be made about how risky to go. It is probably safer to 'bet on' the continuing success of the world's top 1000 companies than on the 1000 smallest and newest whose shares are very thinly traded and hard to sell if you change your mind.

And e.g. if you invest in 100 new biotech startup companies that have yet to make a profit, you might get 80 absolute dogs, fifteen that are OK, four that are great, and one superstar. So if you invest directly in one company yourself, you can easily lose your shirt. Or if you only invest in one biotech fund which only has 50 holdings, it might miss that superstar altogether and do terribly overall. Or it might hit the superstar and do fantastically.

By contrast if you invest in the 100 most successful, asset rich and profitable companies for a few years it might be the other way around with 80 doing OK, one entirely collapsing, four that suffer really substantial losses, etc etc. So there are ways to control risk by deciding what sort of risk and volatility you would be willing to tolerate and sit through in the pursuit of the financial freedom we all crave.

The bond markets can be just as complicated even though the headline is that companies pay the bondholders a known fixed return in priority to giving profits to their equity holders. Reading around and knowing what you are getting into, helps grow confidence because even if something 'bad' happens to the market you think, hey, well that was something that wasn't likely to happen very often, but it could have happened, so it's not entirely unexpected, so my investment has done terribly but I am not surprised and shocked and panicked, I'm just disappointed.

Not saying im in that position myself, just curious how others may sometimes think. after all, just because something did well in the past doesn't mean it will in the future as they say

If I was risk averse I would think that I don't want to try this 'investment' malarkey because 'markets can go down as well as up' but really the value of the pound in my pocket or my bank vault also goes down if I am not using it for anything productive and it is a great shame to just hoard them and watch as the big pile of cash becomes able to buy fewer and fewer things I want.

If I am still young enough to be productive myself and get a salary, I can afford to lose money to investment risk and make it up from my own toils by working harder or for more years - that's the fallback option if for some reason the more 'expected' investment growth recovering the value over time does not work out. Later in life I'd have less capacity to do that so might take fewer market risks but there is still a trade off between different relatively safer options.

There is risk crossing the road. You can get comfortable with it by reading the stats that say most people who cross roads do not die doing it, and learn the safe ways to cross roads, taking suitable precautions.You then have the opportunities that lie on the other side of the street and may have an overall happier life because you are no longer missing out. Similarly with investment risks. Don't run at it before you have found out how to walk, but recognise that if you don't get involved you will probably not experience the best of what life was offering.

Thrugelmir

lesta1980 wrote: »

I fully understand that investment is a long term thing but does anyone ever worry about the worst case scenario and losing everything, or half or whatever?

Diversify. The return may be lower but the odds of being wiped out totally diminish.

bigfreddiel

If you understand risk you can handle it, that's the same with anything. You need to understand it.

So imagine you've built up a portfolio of say £100k.

It falls in value by 50%.

1 you haven't lost anything - you only lose if you sell, so don't, unless you really need to

2 dividends or yield - actually goes up when equities fall in value because the eps stays the same (earnings per share), unless of course the company cuts its divi. Assuming it doesn't and you're reinvesting divis it's a win win situation because reinvesting the divi buys more shares, increasing or compounding future returns

So that's a very simplistic way to look at it and understand the principals.

Good luck fj

lesta1980

cracking post bowlhead, enjoyed reading that

Linton

Only risk money whose loss wouldnt leave you destitute. Keep a sizeable amount of cash or similar even if the returns are low.
Diversify - ensure that a major collapse of any particular company, industry, country etc would not have a major affect on your wealth. Invest in everything, control risk and return by modifying the % asset allocation, not by trying to chose winners and avoid losers.
Split your money into separate tranches with clear objectives and ensure that the invest risk of each is appropriate for the need and timescale.

By adopting these sort of rules you can watch your higher risk investments fluctuate wildly with equanimity.

Ray_Singh-Blue

I'd flip the question & ask how do I avoid risks which make me too uncomfortable. I'm not seeking comfort in risk; I'm seeking the frission of knowing I could lose some of my hard earned in search of a better return.

bowlhead99

Something to keep in mind is that high rewards tend to be correlated with high risks, we've all heard that.

HOWEVER, while it's demonstrably true that in order to achieve high rewards, people might accept high risk... It doesn't necessarily follow that taking a high risk will actually get you a high reward.

So, understand the risk of everything you do but don't think that blindly taking a risk will get you a reward just because you went out on a limb and took a risk. While a rewarding opportunity might require you take risks, a risky opportunity is not necessarily a rewarding one.

It's not healthy or productive to be unduly frightened of the downside of everything, but if you understand what could go wrong you are will placed to exploit what could go right, without being sideswiped by some unexpected thing that a diligent person would have seen coming.

JohnRo

Wondering how each of you got to the point where you are comfortable with risk?

If you mean volatility then I suppose the answer to the question is familiarity, once you've seen a few peaks and troughs it dulls the senses somewhat and the mood swings between euphoria and despair level off to something approaching indifference.

It depends what you mean by risk though, as already explained everything has an element of risk specific to the entity in question. Fully understanding the risks is close to impossible imho, or at the very least forecasting them is, so I'll settle for volatility as a proxy and allocate financial resources accordingly, as I see fit.

Unfortunately investing isn't a science despite the best efforts of some to portray it as such. The only thing I'm certain of is that compounding works so I try to diversify across asset classes and styles in the hope of spreading or diluting any specific risks and then let reinvestment do the heavy lifting whilst periodically rebalancing back to a fixed allocation, in the hope of capturing some additional value and maintaining the level of investment risk I'm exposed to.

After that I just accept it is what it is, that investments will rise and they will fall, that there's nothing I can do to stop when, where or by how much, unless I choose not to invest at all and I'm just not prepared to take that risk to capital with what little wealth I have.

Pincher

When you have no choice, it's much easier.

When it's all tied up in property, what can you do?
You fix it when it leaks, and you buy landlord insurance.

A scaredie cat who only believes in property had too much cash, so he got me to part with one BTL, and it's a real pain now, having to look for a home for the damned money.

I like the two way bet, so I still have one BTL in play, in case property carries on giving.

The cash is half in interest bearing accounts, and half in equity.
Yet again it's the two way bet.

If only you can marry more than one wife, just in case one turns out to be a harpy.;)

jamesd

Initially intellectually. Then through experience.

Get started with low amounts of money when you have little. By the time you have big amounts you'll hopefully have had experience of big ups and downs and won't be as worried as you might otherwise be. Not that it'd be fun say to have my investments decrease by a couple of years of salary if there was a big drop, as they would have done if I'd still been invested mostly in equities. But months with a £10,000 drop are just routine now, following on from the years when it was 5k or 1k or a few hundred. One thing I do when tracking my net worth changes month by month is show percentage change. That makes the big numbers into smaller percentages. Usually.

That's volatility. Risk other than volatility is a different thing in some ways. Again familiarity is a tool. Diversification is perhaps more important than with volatility because with volatility you can normally expect a recovery, while with risk more generally there maybe none.