Risk is a big part of investing, but not everyone handles it the same way. That’s why it’s important to understand both your risk tolerance and your risk capacity. These two ideas may sound similar, but they’re actually very different.
Risk tolerance is about your personal comfort with risk. It’s how you feel when the market goes up and down. Some people can handle watching their investments drop without panicking. Others get nervous and want to sell. Knowing your tolerance helps you choose investments that you can stick with, even when things get tough.
Risk capacity is about your financial situation. It’s how much risk you can afford to take. For example, a young person with a stable job and no major expenses has a high risk capacity. They can take more chances because they have time to recover. But someone close to retirement or with lots of responsibilities might not be able to handle big losses.
Both tolerance and capacity should guide your investing decisions. If you take more risk than you can handle, you might panic and make poor choices. If you don’t take enough risk, you might miss out on the growth you need. The key is finding the right balance based on your personality and your life.
