One of the most important questions we have to ask ourselves is one we don't often have a great answer to.
What's my personal risk tolerance level?
Either we're not asking it, or we're ignoring the answer. By doing so, we risk far too much. We lose far too much.
But it's one of the most essential questions we must ask before ever trading or investing at all.
Let’s say you want to risk $10,000 on a “sure thing” that your neighbor told you about. “It’s the best stock in the world. You can make a fortune off this.” Trusting him, you risk $10,000 and watch the stock lose 50% of its value in days. But can you afford to lose $10,000 on a single trade?
If not, why would you risk that amount on a “sure thing” or not? Cut it in half. Cut it in quarters. Cut it in tenths. In short, be realistic about what you can really afford to lose. If you have a $100,000 account and you risk 10% of your portfolio on each trade, and each trade is a loser, you just wiped out your account in no time.
Instead, ask yourself these simple questions.
No. 1 – How much can you afford to lose?
How much money do you have available to you to trade? How much do you need to pay your bills, and trade comfortably at the same time? How much of that left over amount can you afford to lose? These may sound like insanely ridiculous questions. But many times, no one asks themselves these at all.
No. 2 – What is your time frame?
When would you like to stop working, tradign, investing... and enjoy life? Think about the time you have remaining until you reach your goals. In fact, as you approach retirement, your risk tolerance actually decreases. Always take into account your personal time frame when it comes to risk.
No. 3 – Are you an emotional trader?
Way, way, way too people trade on emotion. Their stock falls 50 cents. They panic. They sell. Then the stock moves back up. And they curse themselves. Remove the emotion. And trade with logic.