Risk tolerance varies from person to person, shaped by factors such as age, income and asset levels, investment goals and time horizon, investing experience, and personal disposition. Even for the same investment product, the proportion considered appropriate to hold can differ depending on an individual's risk tolerance.
Factors that shape it
- Age and time horizon: generally, the longer an investor's time horizon, the more easily they can accept a temporary decline in value
- Income and asset levels: the acceptable size of a loss depends on how much it would affect daily living funds
- Investing experience and psychology: how anxious a person feels in response to price swings also differs from one individual to another
Applying it to your investing
Understanding your own risk tolerance provides a foundation for decisions such as asset allocation, the degree of diversification, and where to set a stop-loss threshold. Investing beyond your risk tolerance can make it harder to think clearly during a downturn.