Risk Versus Reward: How It Will Impact Your Retirement

By Branden DuCharme

Many people have heard and even feel that they understand the phrase “risk equals reward.” However, it is just a cliché saying that captures a lifetime of investment knowledge and boils it down to a simple, repeatable phrase. What does it really mean, and how will it affect you?

The saying comes from the investment concept that if you take on more risk when investing, you should be rewarded appropriately for taking that additional risk. For example, depositing money in a savings account at the bank is technically an investment; you are lending your money to the bank so that they can then relend it to other consumers. There is very little risk with this investment because the federal government has promised to insure most of these funds in the event the bank fails (assuming it was a FDIC member bank). Because of this, it is common knowledge that savings accounts do not provide very much return.

On the other end of the spectrum are leveraged real estate investments. This is often considered one of the riskiest types of investments because if it were to go wrong, you have the real potential to experience a total loss. Some of the risk associated with real estate investments can be transferred to insurance companies, but because there is still higher risk, investors demand (or at least should demand) a significantly higher rate of return on their investment.

The question should not become “What kind of return should I expect?” Instead, a smart investor would ask, “Can I expect to be adequately rewarded for the amount of risk I am taking?”

Remember that there are three components that together formulate the amount of risk that may be appropriate for you.

First is capacity for risk. This can be understood by asking yourself questions such as, “If this investment doesn’t turn out the way I hope and instead I lose this money, how would that affect my ability to reach my goals?” You’ll find that younger folks tend to be able to answer that question more favorably towards risk, but as your ability to make up for losses decreases with age, you tend to want to avoid that situation more and more.

Second is the need for risk. This is not a matter of whether you are capable of taking the risk but whether there is simply a need. An extreme example may be elderly retirees that live below their means and would be able to survive on the dividends from extremely low risk assets, like savings accounts, CDs, or similar investments. There just simply would not be a need for taking increased risk, especially if experiencing the loss associated with the risk would negatively affect them. A question you may ask yourself to understand this component would be, “If this investment played out how I hoped, would it make a material difference in my quality of life?”

The final component is risk tolerance. Simply put, this is your emotional capacity to endure risk. You may have the need and the capacity, yet if taking the risk would cause you to walk around with chest pain and lose sleep at night from anxiety, you may not have the tolerance for the risk. A question you could ask yourself is this: “Regardless of what I see on the news, would I be able to continue living my normal life without feeling anxious about checking on my investments?”

Remember that although reward comes through risk, you must understand what amount of risk you should be taking. Risk management is significantly more instrumental to successful investing over someone’s lifetime once you factor in human psychology.

Advisory services offered through Global View Capital Management, Ltd. (GVCM). GVCM is a SEC Registered Investment Advisory Firm headquartered at N14 W23833 Stone Ridge Dr-Suite 350, Waukesha, WI 53188. Branden DuCharme is an Investment Advisor Representative with GVCM. GVCM is affiliated with Global View Capital Advisors Supervising office 262-505-5740. Local office 435-220-4930. Additional information can be found at: https://www.advisorinfo.sec.gov/IAPD/

About the Author

Branden DuCharme is an investment adviser representative with GVCM, a SEC registered investment advisery firm, and an Accredited Wealth Management Adviser (AWMA).