Your Risk appetite simple means your attitude towards risk when utilizing your capital.
For any reward to be made in the financial world risk has to be taken. Risk means uncertainty and in most cases the greater the risk the higher the reward.
Risk itself is not a bad thing.
RIsk vs Reward😿
In finance, investors take different measures to mitigate their exposure to risk and at the same time increase their possible reward. This is known as risk mitigation and its mostly done through a process called hedging. This is when risk is reduced through taking out an investment, usually a counter investment or through the use of insurance.
Risk is really measured by the available products in the market which have a more certain and predictable return. Example: when looking at investments, stocks could be considered as more risky option due to their unpredictable returns and unstable price movements whilst bonds could be described as more predictable due to their periodical returns.
Government bonds have performed well over the past decades than stocks have but in the short term bonds and stocks can be volatile due to different economic reasons.
How to determine your risk appetite🔥
There are two main strategies towards risk. Conservative or aggressive.
The risk appetite you choose will mainly be based around your future outlook, your age, your current capital needs and your available investable capital.
Conservative risk appetite:
Conservative investors will look to get more stable returns and hence invest in more stable securities such as fixed income investments: Bonds, certain derivatives including mortgage backed securities etc In order to balance the risk and still get competitive returns a conservative portfolio will include mostly fixed income investments but will still carry investments such as stocks which are considered more risky.
Aggressive risk appetite:🙌
An aggressive risk appetite will see an investor hold more stocks in their portfolio than fixed income investments. These sort of portfolios are usually suited for investors who are young as if these stocks underperform over their investment cycle then the investor has enough time to correct this by investing in a different way.