An investor’s appetite for risk fluctuates over time. When the economy is performing well, and the market is rising, many investors want to buy riskier assets. This is known as a “risk-on” market. Understanding how risk-on assets work can help you determine if they’re right for your portfolio. You can also work with a financial advisor who can make sure you’re investing in the right assets to help you achieve your individual goals.
What Are Risk-On Assets?
“Risk-on assets” refers to changes in investments that can drive investors to take on higher risk tolerance. Assets representing this portfolio strategy include stocks, commodities, high-yield bonds, real estate and currencies. Cryptocurrencies and non-fungible tokens (NFTs) are digital versions of risk-on assets because of their high risk and reward nature. There is no stability in those assets but many have also paid out quite a bit of a return over the last several years.
Risk-On vs. Risk-Off Assets
Investor tolerance for risk changes based on a variety of factors such as the economy, tax policy and personal circumstances. In a risk-on environment, they step out further on the risk spectrum as stocks tend to outperform “safer” assets, like bonds. Investors are looking for a big reward from taking risks that they view to be worth it in an environment where the market is growing.
However, when investor sentiment turns, they have a tendency to shift their portfolios towards risk-off assets. These assets are much more stable with less of a potential return. Risk-off assets can include U.S. Treasuries, gold, other bonds and cash. Investors are unsure of the stock market and sell off riskier assets to preserve their wealth in this type of environment, which can provide better peace of mind for their overall portfolio.
Pros and Cons of Risk-On Assets
When putting together your portfolio, it makes sense to include a variety of investments to diversify your assets. This can include both of the types of investments you might find to be a better option during either a risk-on or risk-off investing environment. Here are a few of the pros and cons of adding risk-on assets to your investment strategy, regardless of the current environment:
- Achieve higher returns: Stocks and other risk-on assets provide higher returns over long periods than risk-off assets.
- Outpace inflation: One of the biggest investor concerns is outliving their money. Risk-on assets tend to grow faster than inflation to prevent your buying power to erode over time.
- Offers diversification: There are a variety of risk-on assets that investors can choose from to complete their portfolios. Adding assets from multiple asset classes may be able to reduce risk without affecting the expected performance.
- No guarantees of performance: While risk-on assets have performed well historically, that doesn’t mean that they will in the immediate or long-term future.
- High volatility: Riskier assets tend to be more volatile, which could cause investors to lose money in the short term or when money needs to be withdrawn.
- Investors may not understand the assets: Risk-on assets include various asset types, some of which may be too complex for the average investor.
Are Risk-On Assets Right for Your Portfolio?
Overall, most investors should have at least a portion of their portfolio in equities and other risk-on assets, no matter what the current environment looks like. Depending on their risk tolerance, time horizon and other factors, the ratio of risk-on vs. risk-off assets can vary.
Risk-on assets are crucial for long-term investors because they tend to offer the highest growth opportunities over time. While they can be more volatile, the long-term approach helps to smooth out those fluctuations because of the market’s tendency to always rebound. And, when the volatility causes prices to fall, investors can purchase more shares for the same money using a dollar-cost averaging approach.
Investors who are retired or are approaching their retirement date should have some risk-on assets in their portfolios. Risk-on assets provide the necessary growth to outpace inflation to ensure that your purchasing power doesn’t decline as you age. To determine the appropriate amount of risk-on assets for your portfolio, contact your financial advisor to discuss your goals, appetite for risk and timeframe for the money.
The Bottom Line
Risk-on assets play an important role in an investor’s portfolio. They provide opportunities for long-term growth that outpaces inflation and diversification that can reduce risk. Investors should maintain some risk-on assets in their portfolios through all market cycles. However, they may want to adjust the ratio of risk-on vs. risk-off assets to meet their financial goals based on their investment horizon and risk tolerance.
Tips for Long-Term Investing
- When choosing risk-on assets for your portfolio, it is important to maintain a diversified mix of investments. Our asset allocation calculator suggests sample portfolios based on the risk profile you choose when answering a few simple questions.
- Financial advisors help you choose your investments based on your financial goals and appetite for risk, keeping their eyes on either long- or short-term investment strategies. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
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