The most commonly ignored risk – and what it means for your wealth

Risk is a certainty in investing, just as it is in everyday life.

Small decisions you make in day to day life are about balancing the potential risk from your actions against the downsides of not acting.

Take seat belts. We all put them on in our cars because the tiny amount of time it takes and the minor discomfort is hugely outweighed by the likely protection in the event of a crash.

The risks associated with investing may not be as extreme as the consequences of not wearing a seat belt but they still shouldn’t be ignored – and one commonly is.

This article is not personal advice, if you’re unsure please seek advice.

The risk investors often overlook

When you look at your portfolio do you see a table of stock names and numbers? Or a countdown towards a goal? We invest because we want our money to be worth more in the future than it is today. We want to buy a home, to retire, to pay our children’s university fees or for the holiday of a lifetime.

We invest with a goal in mind – and we can’t ignore the risk that our money won’t grow enough to meet that goal.

Investment risk and the potential for reward go hand in hand. If you’re shying away from some investments, or from increasing the risk in your portfolio overall because you’re worried about the potential for loss, you need to consider this avoidance means you risk missing out on their potential gains.

It can feel like a Catch 22 situation. A cautious outlook can lead you to avoid risky investments which in turn can lead to you having a portfolio which risks not meeting its target.

How to design a portfolio to meet your goals

If you may have taken on too little risk to reach your goals what can you do about it? Well, we’re absolutely not suggesting you throw caution to the wind and plough your portfolio into the most volatile stocks you can.

We’re suggesting a shift in your outlook from short-term ups and downs towards a focus on the bigger picture.

Investments which have the potential to provide larger returns are likely to give you a bumpier ride along the way. Lower-risk investments tend to be steadier, though in general you can’t expect as much of a return.

Remember unlike the security provided by cash, all investments can fall as well as rise in value and you may not get back what you invest.

Two issues for you to consider are the diversification in your investments and the amount of cash you hold.

With interest rates on the floor holding cash isn’t going to be a great help if you want to grow your money. That’s not to say you shouldn’t hold it – many set aside enough cash for emergencies, usually 3-6 months’ expenditure is a good starting point.

Once you have an emergency fund you should consider taking on more risk if you want to grow your wealth.

After you’ve decided how much to invest it’s time to look at ways to smooth your ride. One way to smooth the ride and reduce the potential for picking a poor performer is by diversifying your investments. So when one investment goes through a bad patch, hopefully, there will be others which are doing well.