# What Is Risk Tolerance, and Why Does It Matter?

> **Definition**
>
> Risk tolerance is the degree of uncertainty and financial loss that an investor is willing to take on an investment in exchange for a possible higher return.

## What Is Risk Tolerance?

The term risk tolerance describes how comfortable you are with the idea of losing money in the short term so you can earn a higher return with your investments over the long run. It is an important component in investing because it often determines what kind of investments you choose. Investors with a higher risk tolerance often invest in highly volatile assets like stocks and equity funds while those with a low risk tolerance may choose bonds and other fixed-income assets. Your age, investment goals, and income can contribute to your risk tolerance.

### Key Takeaways

*   Your risk tolerance is your willingness to take short-term losses on your investments to make bigger long-term gains.
*   Highly volatile assets like stocks carry higher risk while bonds and other conservative assets are associated with a lower risk.
*   Factors like your age, investment goals, and income contribute to your risk tolerance.  
    

![Risk Tolerance: The degree of risk that an investor is willing to endure.](https://www.investopedia.com/thmb/1BLp6ysEQ-SH-WXYNh9J6eQRRSw=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/Risktolerance_sketch_final-0619a850eb10420ab1a9afd44b2abbb8.png)

*— Investopedia / Michela Buttignol*

## Understanding Risk Tolerance

All investments involve some degree of risk and knowing their risk tolerance level helps investors plan their entire [portfolio](https://www.investopedia.com/terms/p/portfolio.asp), determining how they invest. Based on how much risk they can tolerate, investors are classified as aggressive, moderate, and conservative.

Risk tolerance assessments are available online, including risk-related surveys or questionnaires. An investor may also want to review historical returns for different [asset classes](https://www.investopedia.com/terms/a/assetclasses.asp) to determine the volatility of the various financial instruments.

One factor that affects [risk tolerance includes the time horizon for an investor](https://www.investopedia.com/fa-one-thing-risk-tolerance-8743512). Having a financial goal with a long time horizon, an investor may have greater returns by carefully investing in higher-risk assets, such as stocks. Conversely, lower-risk cash investments may be appropriate for short-term financial goals.

An investor's future earning capacity, and the presence of other assets such as a home, pension, [Social Security](https://www.investopedia.com/terms/s/socialsecurity.asp), or an inheritance affect risk tolerance. An investor can take greater risk with investable assets when they have other, more stable sources of funds available. Additionally, investors with a larger portfolio may be more tolerant to risk, as the percentage of loss is much less in a larger portfolio when compared to a smaller portfolio.

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## Aggressive Risk Tolerance

An [aggressive investor](https://www.investopedia.com/terms/a/aggressiveinvestmentstrategy.asp), or one with a high-risk tolerance, is willing to risk losing money to get potentially better results. Aggressive investors tend to be market-savvy with an understanding of the volatility of securities and follow strategies for achieving higher than average returns.

Their investments emphasize [capital appreciation](https://www.investopedia.com/terms/c/capitalappreciation.asp) rather than income or preserving their principal investment. This investor's asset allocation commonly includes stocks and little or no allocation to bonds or cash.

## Moderate Risk Tolerance

Moderate investors want to grow their money without losing too much. Their goal is to weigh opportunities and risks and this investor's approach is sometimes described as a “balanced” strategy.

Commonly, moderate investors develop a portfolio that includes a mixture of stocks and bonds, perhaps as a 50/50 or 60/40 structure.

## Conservative Risk Tolerance

Conservative investors are willing to accept little to no volatility in their investment portfolios. Retirees or those close to [retirement age](https://www.investopedia.com/terms/r/retirement.asp#:~:text=Key%20Takeaways&text=In%20the%20U.S.%2C%20the%20full,can%20collect%20Social%20Security%20benefits%29.) are often included in this category as they may be unwilling to risk a loss to their principal investment and have a short-term investment strategy.

A conservative investor targets vehicles that are guaranteed and highly liquid. Risk-averse individuals commonly opt for bank [certificates of deposit](https://www.investopedia.com/terms/c/certificateofdeposit.asp#:~:text=A%20certificate%20of%20deposit%20%28CD%29%20is%20a%20product%20offered%20by,a%20predetermined%20period%20of%20time.) (CDs), money markets, or U.S. Treasuries for income and preservation of capital.

## What Is an Example of a 60/40 Portfolio Structure?

A moderate risk-tolerant investor may choose to invest in a 60/40 structure which may include a 60% investment in stocks, 30% in bonds, and 10% in cash.

## What Financial Instruments are Considered High Risk Investments?

[High-risk investments](https://www.investopedia.com/articles/markets/121515/8-high-risk-investments-could-double-your-money.asp) include investing in [options](https://www.investopedia.com/terms/o/option.asp), [initial public offerings](https://www.investopedia.com/terms/i/ipo.asp) (IPO), and [foreign emerging markets](https://www.investopedia.com/emerging-markets-4689751).

## How Does Risk Tolerance Compare to Risk Capacity?

While risk tolerance measures an investor's willingness to take risk, an investor's [risk capacity](https://www.investopedia.com/articles/financial-advisors/071415/how-evaluate-your-clients-capacity-risk.asp) measures their financial ability to take a risk.

> **Article Sources**
>
> 1.  U.S. Securities and Exchange Commission. "[Assessing Your Risk Tolerance](https://www.investor.gov/introduction-investing/getting-started/assessing-your-risk-tolerance)."
>     
> 2.  Charles Schwab. "[How to Determine Your Risk Tolerance Level](https://intelligent.schwab.com/article/determine-your-risk-tolerance-level)."