Whether you are an amateur investor or an experienced one, you would know that there is always a certain degree of risk-return ratio. Generally, such a ratio is always positive, meaning if the investment has high risk, it also has high return potential. However, you must not make your decision based on the returns alone; you must consider another important factor, i.e., your risk profile.
Knowing your risk profile helps you understand how much risk you can take versus how much risk you must take to accomplish your long-term goals. So, if you want to determine your risk profile, you can consider the following factors:
Financial goals or objectives
Your financial goal or objective that you want to accomplish would have a significant impact on your risk profile. For example, you need to assess your goal, whether you are investing to build a corpus for your child’s education or do you want to have enough savings to pay the down payment for your new home.
Your long-term and short-term goals affect your risk appetite and the type of investment plan you choose to have in your portfolio. If you want to build a retirement corpus, you may have about 10-30 years to accomplish the goal. Whereas, if you’re going to purchase a home in the next three years, you may want to take an aggressive investment approach and take high risk and invest in high-risk-returns instruments like equity funds or shares.
If you live in a joint family and have family wealth, you may have better financial stability than others who live in a nuclear family. When you know you have strong financial support from your family, you can afford to take high investment risks and expect to earn better returns. However, if you have a nuclear family, you may be apprehensive about taking risks and prefer investing in risk-averse instruments.
The kind of work you do to earn a living can also affect your risk profile. For example, if you are a salaried employee, you may think of investing only after you can comfortably meet your family’s basic needs and still have a surplus amount.
However, if you are a self-employed professional or an entrepreneur with a high income, it is wise to take an aggressive approach. You can invest in volatile instruments, hold on to them for a more extended period, and enjoy better returns.
Your understanding of how the market functions will significantly impact your risk profile. If you understand the market movements, you would be better positioned to assess the risks and make investment decisions accordingly to get maximum returns.
If you are an amateur investor, the more time you spend researching the different stocks over a period, you will build your expertise, and you can invest in high-risk instruments that promise high returns.
Making the right investment decisions based on your risk profile will ensure you get better returns in the long run. However, you must know that the risk profile may not remain constant, and it will evolve. So, you must regularly review your portfolio and make necessary adjustments to suit the changing risk profile.