Author Topic: How did you determine your risk tolerance?  (Read 2113 times)

jeromedawg

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How did you determine your risk tolerance?
« on: January 07, 2018, 08:09:52 PM »
Hey all,

Wanted to get feedback on how those of you who know your risk tolerance went about actually and tangibly determining it?
It seems a bit nebulous and abstract particularly when it comes to quantifying and translating what you've determined into an asset allocation.

Just wanted to kick this out there for feedback.

JAYSLOL

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Re: How did you determine your risk tolerance?
« Reply #1 on: January 07, 2018, 08:18:48 PM »
To be honest, I'll only know my true risk tolerance when we are in the middle of the next major market crash/correction.  Until then I just took an educated guess and am trying to not think emotionally about my investments.  I think reading these forums has helped a lot with removing doubt and worry about a coming crash, I hope it will also help with fear when we are going through one.

PDXTabs

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Re: How did you determine your risk tolerance?
« Reply #2 on: January 07, 2018, 08:54:29 PM »
I'm basing it on how I reacted during the last market downturn (2007-9). Specifically, I only got more excited (that stocks were on sale) every time the market went down. I'm actually itching for another crash or major correction because I buy $771 of VTWSX twice per month.

jeromedawg

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Re: How did you determine your risk tolerance?
« Reply #3 on: January 07, 2018, 09:08:18 PM »
Yea, I've heard one way to determine it is to look at what decisions were made back during the last major crash/recession. Of course, I was pretty naive with all that and not paying attention to any of it at the time... I definitely wasn't maxing out my 401k during those years but did with my Roth IRA, but most of the money was invested in those generic (and expensive) target funds or in other 'hand-picked' funds where I didn't really do much research. I don't think I really panicked much and sold off a ton of stocks and funds but I also wasn't in the frame of mind where I considered this time a "fire sale" and opportunity to buy. I think my outlook may have changed a bit since then though, where I am more open to fire sale opportunities.... this is certainly more the case with real estate. Of course, much of it hinges on how comfortable I feel with the funds and assets I have.
« Last Edit: January 07, 2018, 09:11:07 PM by jeromedawg »

ChpBstrd

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Re: How did you determine your risk tolerance?
« Reply #4 on: January 07, 2018, 09:50:10 PM »
I'd like to think I've changed since the days when I engaged in stock-picking and over-conservative allocations (my personal vices, more so than panicking on downturns). This site has certainly helped. However I can't know I've changed until I'm tested again.

Thus, my current risk tolerance / AA is a guess at how I think I'll behave in the next crash. What I say now might not accurately reflect how I'd behave in those circumstances.

TL;DR: We're all guessing.

barbaz

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Re: How did you determine your risk tolerance?
« Reply #5 on: January 08, 2018, 01:07:08 AM »
As a rule of thumb: look at your portfolio and imagine all stocks drop by 50%. How does your net worth change? How do you feel about this? If the answer is “bad”, that’s too much risk.

soccerluvof4

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Re: How did you determine your risk tolerance?
« Reply #6 on: January 08, 2018, 03:25:54 AM »
As a rule of thumb: look at your portfolio and imagine all stocks drop by 50%. How does your net worth change? How do you feel about this? If the answer is “bad”, that’s too much risk.



^ +1 but I will add one caveat. Since we only have historical data to go by and going forward the same is a presumption the market usually bounces back pretty quick. So for me It was two have 2-3 years in cash to live on which is a lot but this is about sleep nights and having enough if the market dropped 50%. Having 2-3 years cash depending how things are looking I could buy funds on sale and or survive a 75% crash. I also have in mind I would find some easy peasy minimum wage job or? if needed to not touch my funds when so low. For everyone its different but preservation is the end game imho during a bear market

Mighty-Dollar

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Re: How did you determine your risk tolerance?
« Reply #7 on: January 08, 2018, 04:10:59 AM »
Wanted to get feedback on how those of you who know your risk tolerance went about actually and tangibly determining it?
A rudimentary way is to subtract your age from 120. That tells you how much to put in stocks (versus bonds). Robo advisors are built loosely around this.

You also want to look at the 4% rule of retirement. For example if you have 100K, you can probably safely take out about $4,000 per year pegged to inflation.

If you're not retired (not drawing from your savings or even adding to it) then it pays to take more risk (in stocks). Don't just blindly pick an allocation ratio, study past historical returns. Part of it is a personal decision. Do you hate losing money more than missing out on gains?
https://www.youtube.com/watch?v=opNohVglLX0
https://www.youtube.com/watch?v=ZOXu2cu7ZUw

harvestbook

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Re: How did you determine your risk tolerance?
« Reply #8 on: January 08, 2018, 05:39:38 AM »
It's all relative. If you have 10 million and lose 50 percent at age 40, your life won't materially change, just the choice of which second home you want.

If you have $200,000 and you are one year from retirement, a decline of half will probably ruin your life.

Age and personal circumstance are just as important as presumed temperament. So even how you reacted in 08/09 may not be a good guide to how you will react to tomorrow's sudden crash because you're a decade older and probably have a different amount of money.

My personal rule is to look at both cash/emergency fund and probable income streams versus how long I'd have to ride out any decline. An important component of that is what expenses I can cut, which people rarely discuss but it's an important part of the equation.

barbaz

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Re: How did you determine your risk tolerance?
« Reply #9 on: January 08, 2018, 07:04:15 AM »
I would offer a couter-point to the folks who say you should base your investing risk tolerance on how you would feel in the face of a large market drop.  I think this is basically emotional investing.  And, in my opinion emotional investing is wrong.  Emotions change, people feel terrible at the bottom during an economic contraction and feel invincible at the top of the market.

I would say: Would you objectively be able to survive an economic crisis ...
Yes and no. If you are a rational person, the bad "feeling" will be based on objective criteria. If you are an emotional person, you need to consider your emotions when determining risk tolerance. Being objectively save helps nothing if you panic anyway and sell everything.

Retire-Canada

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Re: How did you determine your risk tolerance?
« Reply #10 on: January 08, 2018, 08:22:28 AM »
Hey all,

Wanted to get feedback on how those of you who know your risk tolerance went about actually and tangibly determining it?
It seems a bit nebulous and abstract particularly when it comes to quantifying and translating what you've determined into an asset allocation.

Just wanted to kick this out there for feedback.

I have invested through the tech bubble and 2008 so I know how I react to seeing the hard earned money I put into the market be worth less everyday than it was when I put it in. It's a gut punch no doubt, but most importantly I did not pull my money out. I let it ride. Now that I know much more about investing I would react with more equanimity in a big crash.

So based on this ^^^ I'd rate my risk tolerance as high and that's why I am 100% stocks in the accumulation phase.
« Last Edit: January 08, 2018, 09:08:11 AM by Retire-Canada »

YttriumNitrate

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Re: How did you determine your risk tolerance?
« Reply #11 on: January 08, 2018, 09:06:56 AM »
Some of the most profitable investments I ever made were the ones where I wanted to vomit after sending in the buy order. In my opinion, the real test for risk tolerance is not how you feel after your portfolio craters (hint: probably pretty crappy), but how you respond. If you think you'll be able to stay the course despite your feelings, you probably have a high risk tolerance.

hadabeardonce

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Re: How did you determine your risk tolerance?
« Reply #12 on: January 08, 2018, 11:08:20 AM »
Learn about investments and how the market works. While investing for yourself you'll make better investments and feel better about them. Knowing the history of the US stock market will provide tips on how to ride out bulls and bears.

My "reward tolerance" triggered a lot of changes to my portfolio over the past few years. When I noticed that my gains weren't anywhere close to what an index fund was making, I changed from actively managed mutual funds with another company(high fee) to Vanguard(low fee).

Maenad

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Re: How did you determine your risk tolerance?
« Reply #13 on: January 08, 2018, 12:40:38 PM »
I dug up a Vanguard tool I used once to help determine my asset allocation, and it indirectly determines risk tolerance: https://personal.vanguard.com/us/FundsInvQuestionnaire

Interestingly, it suggests a mix of 70/30 rather than my current 80/20 since I'm hopefully only a couple years out from RE. I'm OK with the higher stock mix since I'm able to work a couple years longer if needed.

And like others, I kept buying all the way down in 2008/2009 and all the way back up since. Hard at the time, but it's paid off.

ChpBstrd

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Re: How did you determine your risk tolerance?
« Reply #14 on: January 09, 2018, 12:56:32 PM »
I would offer a couter-point to the folks who say you should base your investing risk tolerance on how you would feel in the face of a large market drop.  I think this is basically emotional investing.  And, in my opinion emotional investing is wrong.  Emotions change, people feel terrible at the bottom during an economic contraction and feel invincible at the top of the market.

I would say: Would you objectively be able to survive an economic crisis ...
Yes and no. If you are a rational person, the bad "feeling" will be based on objective criteria. If you are an emotional person, you need to consider your emotions when determining risk tolerance. Being objectively save helps nothing if you panic anyway and sell everything.

     No.  If someone is a rational person, they will place their feelings to the side and will rationally analyze a situation in a businesslike manner.  Some of the best trades I made so far felt bad.  But, when I did the math -- whole sector funds trading below book value, or at or less than 10-11 P/E --  I decided everyone else was likely over-reacting to the bad situation, and that it was a good time to buy. 

    If someone is prone to panic, then they should learn to not panic.  Emotions are reptilian-brain responses to situations -- It is possible train ones self to get emotions under control when they objectively serve no useful purpose.

Who is this rational human you speak of? I've never met such a person.

IMO the risk we are talking about is the risk we will sell shares during a correction. Everything else is actuarial data (FWIW, a 90/10 portfolio had the best survivability and growth, historically). The way we feel while going through a downturn is directly relevant to the behavior that occurs. The concern is we commit to a 100/0 or 90/10 portfolio several years into one of the biggest bull runs in history, and then freak out when a routine recession or 25% correction occurs and change our minds to stop the losses before it gets worse.

Yet, I don't agree with the "how would you feel if the market dropped 50%" advice. I feel like crap when the market drops 5%. That drop represents months of my youth spent in a cubicle! This advice would put me 100% in bonds.

The question is how bad the losses could get until you break discipline and panic.

I've heard numerous combat veterans tell the story of the tough guys/badasses who talked like they were Rambo on base but cracked the first time actual bullets started flying and froze up/cried in the middle of their first battle. These soldiers should have gotten civilian jobs, but they didn't know or understand themselves well enough at the time.

Picking a risk tolerance is an attempt to not be that guy. Yet for investors there is no psychologically abusive boot camp to help us find our breaking points or sort out the people destined to run away when the bear attacks. If you haven't lived through it, there's no way to know.

My comfort strategy is to have a plan of counterattack and rehearse it. S&P down 10%? Switch from the S&P to the Nasdaq. Down 20%? Look for beaten down leveraged/high-beta stocks. Down 30%? Trade bullish LEAP options. Down 40%? Move in with a friend, eat nothing but beans, rice, and frozen veggies. Work 80 hour weeks and plow at least 80% into LEAPS while the good times last.

Mighty-Dollar

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Re: How did you determine your risk tolerance?
« Reply #15 on: January 09, 2018, 11:25:52 PM »
One thing that Robo-Advisors don't help you with is the studying of past performance of the market with various allocation ratios. Often people have misconceptions. Their naivety about the markets can get in the way of these robo advisor questionnaires. If you are not drawing on your savings then it makes real sense to invest more in the stock asset class (versus bonds). Also often there is not that much downside risk to putting more in the stock asset class. Even the most ultra-conservative investors should consider putting about 50% in stocks rather than 28% (the lowest risk according to Ibbotson from 1970 to 2010).

TheWifeHalf

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Re: How did you determine your risk tolerance?
« Reply #16 on: January 10, 2018, 08:20:53 AM »
Me?
I have been a SAHW for 32 years and the majority of our money came from TheHusbandHalf's paycheck, so I tell him that he has almost total control over investing details.
In the 37 years he has worked, he has gotten us to the point that we've agreed it's best if none of our family knows  about our finances. Right now, we could live on 2% and rather than long tern care insurance, we said if something happens, we'll just self fund it. So, it doesn't make sense to have a high risk investing it.

Every year our 'money manager' (I suspect there is a more accurate technical term) calls and we have to touch base with him and since some of the money is in my name he talks to me separately.  I give him a number that I have previously discussed with TheHusbandHalf.  The ROTH IRA is for the kids (heirs) so it has a higher risk number (more risk) and the traditional's is lower.

He is 62 and me, 60, in July and he plans to retire Jan 4, 2019!