Navigating Risk and Reward: A Guide to Prepare for Risky Investments

When thinking about investing, what often comes to mind is that you want to make a whole lot of money very quickly.  You think you are ready to get started with making your millions as fast as possible.  You might start thinking about investments like Bitcoin or the high flying Magnificent Seven stock Nvidia.  These are indeed high reward investment ideas, but they also come with higher risk.  Welcome to the world of investing! If you’re new to this exciting journey, you’ve probably heard the common adage: “high risk = high reward.” While there’s truth to this statement, it’s essential for new investors to understand that a solid financial foundation is crucial before venturing into the more volatile realms of the high-risk investment landscape.

Understanding Investment Risk

Investment risk refers to the potential for losing some or all of your original investment. Generally, higher-risk investments have the potential for higher returns, but they also come with a greater chance of loss.  Here are some things to consider before making riskier investments to get to the pot of gold you are seeking.

1. The Risk-Reward Tradeoff

Investing is like a delicate balancing act. On one side of the scale, we have risk, and on the other, reward. Here’s how they interact:

·         Risk: This represents the possibility of losing money on an investment. Whether it’s stocks, real estate, or a business venture, every investment carries inherent risk. Imagine investing in a startup—there’s potential for high returns, but also a chance of losing your entire investment.

·         Reward: The flip side is the potential gain. When an investment performs well, you reap the rewards. For instance, buying shares of a successful company can lead to big profits.

2. Building a Safety Net

Before diving into high-risk waters, ensure you’ve built a sturdy financial safety net like the following:

·         Emergency Fund: Set aside 3 to 6 months’ worth of living expenses. This safety cushion protects you during unexpected events like job loss or medical emergencies.

·         Debt Management: Pay off high-interest debts. High-risk investments won’t bail you out of credit card bills.

·         Savings: Aim to save at least 15% of your pretax income for retirement. Once you’ve achieved this, you’re better equipped to handle riskier investments.

3. Income ≠ Risk Tolerance

Your income doesn’t necessarily dictate your risk tolerance. Even high earners can be risk-averse. Consider these factors:

·         Risk Tolerance: It’s about your psychological ability to handle losses. Some sleep soundly despite market volatility, while others panic.

·         Investor Profile: Assess your risk appetite. Are you a conservative, moderate, or aggressive investor?

4. Diversification, Education and Goals

·         Diversify: Spread your investments across different asset classes (stocks, bonds, real estate). Diversification reduces risk.

·         Education: Understand the investments you’re considering. Knowledge empowers you to make informed decisions. Understand the basics of stocks, bonds, and other investments you may be considering.

·         Set Clear Goals: Define what you’re investing for, is it retirement, a new home, or education?

5. Stepping into Higher Risk Investments

Once you’ve laid the solid financial groundwork, then you might consider exploring more adventurous options:

·         Start-up or Newer Company Stocks: Ownership in a company can be rewarding but comes with the risk of market volatility.

·         Aggressive Mutual Funds: Pooled funds that allow you to invest in a diversified portfolio managed by professionals.  There are higher risk options available that may yield greater investment returns.

·         Aggressive Exchange-Traded Funds (ETFs): Similar to mutual funds but traded like stocks, offering flexibility and diversification.  Higher risk options are also available in this category.

·         Cryptocurrencies: Digital currencies that are highly speculative and can experience significant price swings.

Final Thoughts

In summary, high investment risk can indeed lead to high rewards, but only if you’re prepared.  Investing is not a sprint, it’s a marathon.  By building a strong foundation and gradually taking on more risk, you can work towards achieving your financial goals while managing potential losses. Remember, every investor’s journey is unique—find the path that aligns with your objectives and comfort level.

If you have any questions or would like to learn more, please remember that Paycheck to Wealth is here to help.  Please contact us to get started on your investment journey or to learn more.