Are you a saver who prefers certainty, or an investor who desires the opportunity for higher returns at the expense of safety? Which emotion do you feel more when you think about investing: fear or euphoria? How much of your portfolio are you willing to subject to the risk of the stock market for the chance at achieving higher returns? Knowing this – your tolerance for downward fluctuation in your portfolio – and investing accordingly is critical to your life-long investment success.
Risk tolerance is fairly stable. The problem lies in the fact that our perception of risk changes with the markets. For example, let's say a conservative investor with an appropriately conservative portfolio is watching the stock markets rise for a couple of years. This investor may not only feel envy over a friend's higher returning portfolio, but also perceive there is lower riskwhen the stock market has been rising. He may then abandon his true investment personality out of envy and inverted risk perception. He may even load up on stocks just prior to the bear market. What then? He will very likely bail out of the very stocks he just bought after suffering substantial losses. The risk of bailing out of a weak market is the most critical risk to avoid; and this is best done by understanding your own risk tolerance and being true to this tolerance. So, as you can see, being true and steadfast to your risk tolerance is far more critical than choosing the right/best investments.
Once you get your risk tolerance right, and accept this, investing is easier and higher returns are far more likely. You then begin receiving the returns you deserve based upon the risk you have accepted. Envy is eliminated and market timing is eliminated. Changing investments or strategies (in the pursuit of higher returns) is eliminated. Risk and return go hand-in-hand. You will no longer feel like you didn't receive the returns you deserve.
Getting crystal clear about what you value, living the lifestyle you can afford, and accepting your investment personalities are three areas where being true to yourselves will propel you towards the life you really want.