If the recent financial crisis taught people anything, it was to reevaluate how they saved and invested money. With many baby-boomers taking a hit on their portfolio—just upon retirement—young and old investors are now beginning to rethink how they approach investing and growing their wealth. Part of this rethinking involves understanding the amount of financial risk to take on that is actually required and safe (based on your financial goals). But in general, becoming a smarter investor is about understanding how money grows and what makes a good investment.
For many investors, taking on higher financial risk is the way they believe their wealth grows. For many, it is all about beating the market. The issues that arise with this strategy, however, are that as you age, your time-horizon and asset allocation changes, thus changing your risk tolerance. Then there are those that try to make compounding work for them through portfolio diversification. At the heart of this approach is diversification across asset classes and within each class. Having investments that are not correlated with one another produces a portfolio that is more risk adverse. The benefit of this is that by safeguarding against a huge loss, you can compound your earnings, rather than having to make-up what you lost.
What do these options mean for investors? It means time-horizon, risk tolerance, and asset allocation has a fundamental impact on how one manages their investments. This process involves continuously reassessing and rebalancing one’s finances in order to align their investment strategy with their investment goals.