RISK TOLERANCE & CAPACITY
Cardinal Point provides personally tailored investment management services for clients with U.S. and Canadian investment accounts. Investment strategies are customized to our clients’ risk tolerance and goals and then we work to fully integrate them into their tax, financial and estate planning initiatives.
All of us have lifestyle goals and aspirations. Perhaps they are as simple as ensuring a certain standard of living in retirement or as complex as planning for multiple generations spread across multiple countries with specific mandates. One baseline goal for many investors is to maintain their purchasing power over time, growing their assets faster than the rate of inflation. In order to do so, investors need to take on some level of risk. As shown on the chart below, stocks over the long run do a much better job at this than bonds, which only marginally outperform inflation.
Determining the right amount of stocks and bonds for your situation is a comprehensive task, involving multiple conversations with Cardinal Point professionals in combination with an industry leading risk profile questionnaire.
There are two main considerations needed for this decision: your risk capacity and your risk tolerance. Finding the balance that will both help you reach your goals and allow you to sleep peacefully at night is an important task.
Growth of a Dollar
Your risk capacity encompasses the constraints put on the portfolio, namely the time horizon and liquidity needs expected for the assets. For example, the need for a 15% withdraw for a home purchase in 3 years or entering retirement and supporting a 4% withdraw rate each year may necessitate that a meaningful portion of the account be held in somewhat lower volatility investments. Alternatively, higher or lower volatility in your income and job stability can have ramifications for what types of investments may make the most sense for your portfolio.
A perfectly designed portfolio that you can’t stick with through the down periods is not going to be helpful in reaching your goals. That’s where risk tolerance comes into play. Your risk tolerance has to do with your relationship with risk. Do you view a riskier investment as having the potential for higher returns, or does the idea of a holding dropping 40% in value make you queasy? Do you prefer a job where most of your income was from a steady salary or do you prefer potentially higher pay from a commission style compensation package? Higher allocations to stocks will have higher expected returns but come with considerable volatility. Bonds historically have had lower rates of return, but also much lower risk.