Taking risks can speed up your journey to financial independence

The decision to take risks in your investment portfolio must be considered very carefully. There are four factors to consider in this decision. I discuss how you should consider including risky alternatives in light of these factors.

One of the main flaws in the decision to include risk in a portfolio is the idea that greater risk means greater return.

The relationship is wrong. The opposite is true, that is, greater return means greater risk.

Maybe you wonder: but what’s the difference?

It makes all the difference.

It is because of this misconception that many are frustrated with risky investments.

The fact that we include risky alternatives in a portfolio, such as stocks, real estate funds and others, does not necessarily generate more returns.

Think about it, if simply adding risk meant more returns, then it wouldn’t be risky.

The contrary says the following. Whenever you had more return, it means you took more risk. That is, it could have gone wrong and you would have lost.

So when you see an asset that has earned a high return, or well above inflation, that doesn’t necessarily mean that it produces purchasing power protection or that it is less risky.

With this understanding, we can move on to the factors to consider in the inclusion of risk:
1 – Need;
2 – Analysis and investment horizon;
3 – Investor profile;
4 – Perspective.

On your journey to independence, you need to estimate the return needed to reach your goal. We made these calculations in the last few chapters.

Many take risk almost like a craving for gambling. The first rule of thumb for including risk is necessity.

If the profitability you need can be achieved with fixed income investments, there is no need to take any risk. Thus, if this is the case, risky alternatives should be avoided.

For example, if in your journey it was established that an interest rate of IPCA+6% per annum would be sufficient, there would be no need at this point to include risk alternatives, as a portfolio with public and private bonds would be enough.

The analysis and investment horizon are also fundamental. Risk alternatives can promote excess gains in the long term, but can present negative returns in the short term, that is, and less than 2 years.

Therefore, always think about horizons of more than 2 years, if you are thinking about having risk in your portfolio.

Some risky alternatives, such as private equity, require horizons between 5 to 10 years to mature. Therefore, demanding that they return early is the path to frustration and the realization of losses with early sales.

The adequacy of the investor’s profile is essential for taking risks.

Risk investments have price volatility. Thus, conservative or moderate investors with excessive allocation of risk, cannot bear to spend a long time losing before winning, and end up selling with losses at the worst moment.

Finally, for every risky investment, a scenario must be established that results in a return perspective for the asset. If this perspective changes, as the scenario has changed, it is essential that the position be revised.

In the following chapters, I will discuss the different classes of risky assets that can be part of your portfolio, if there is a need in your plan, if you have the right horizon, if your profile is in line and if the outlook is positive.

Let’s go on this journey to financial independence?

Michael Viriato is an investment advisor and founding partner of Investor House.

Talk directly to me via email.

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Book: The Journey to Financial Independence

summary

Introduction
Understand how you will achieve your financial independence
Living on an income is the last step on the journey to financial independence
These are the biggest questions about the journey to independence

Part 1 Construction of the plan
Chapter 1 The first step in building the blueprint for financial independence
Chapter 2 How do you define the rate of return in your plan for independence?
Chapter 3 Find out what equity you need to achieve your financial independence
Chapter 4 On your journey to independence, don’t overlook the importance of this factor
Chapter 5 Understand the two ways I applied to increase my saving capacity
Chapter 6 If You Double This Factor, Your Equity Can Multiply Much More
Chapter 7 Connecting the dots to build your plan

Part 2 Assembling the portfolio to lead you to financial independence
Chapter 8 Before making any investment, define these two factors
Fixed Income
Chapter 9 You should not build an income portfolio if you want to reach equity to live on income
Chapter 10 Avoid these two common fixed income investor mistakes
Chapter 11 In fixed income, does it pay to invest in private credit in relation to public credit?
Chapter 12 Discover how to win the private fixed income premium, but with low risk
Chapter 13 This is the simplest way to plan your financial independence with fixed income
Chapter 14 With our interest rates, find out if it pays to invest in dollars
Variable income
Chapter 15 Taking a risk can accelerate your journey to financial independence
Chapter 16 Multimarket Funds
Chapter 17 Real Estate Investment Funds
Chapter 18 Actions
Chapter 19 Alternative Investments
Investment funds and Private Pension

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