How to invest for a big goal
Knowing what you’re investing for is the first step. What’s next? Understanding your time horizon and comfort with risk.
November 4, 2021
Do you have a specific goal in mind for the money you invest? Like a down payment for a house, or a big vacation? Maybe it’s a child’s college fund, or your own retirement?
Knowing what you’re working toward may help you determine 2 critical things that can drive your investing decisions: time horizon and your comfort with risk.
Your time horizon is the length of time you plan to keep your money invested. To figure out your time horizon, ask yourself: "When will I need my money?" and "Is that date flexible in case the market is in the middle of a major downturn?"
Generally, the longer your time horizon, the more time your investments have to reap potential benefits from compound growth, and the more risk you may be able to take.
Comfort with risk (aka “risk tolerance”)
Your risk tolerance is essentially your comfort level with risk. Are you someone who would lose sleep over a dip in your account balance, or are you willing to put it all on the line for big potential rewards? Maybe you fall somewhere in the middle!
There’s no right or wrong answer and your risk tolerance may change throughout your life.
But here’s something to consider: As we noted before, the longer your time horizon (aka the longer you plan to keep your money invested), the more risk you’re likely able to take with your investments because they have time to bounce back after a drop.
So if you’re investing for a goal that’s many years down the line, it could actually make more sense to have a higher risk tolerance (if you’re comfortable with it).
You can manage certain risks in your portfolio by choosing different types of investments.
Higher risk investments tend to be individual stocks and funds that are concentrated in one area—like a specific industry, theme, or strategy.
Lower risk investments tend to be funds with more diversification—spread out across stocks, bonds, and cash, that aren't concentrated in one industry or theme.
Pulling it all together
The investments you'd choose for a goal that’s 5 years away are likely different from the ones you’d choose for a goal that’s 20 years away—because your time horizon and risk tolerance are different.
Here’s an example: Let’s say you’re investing for a splurge vacation that you hope to take in 5 years. You probably don’t want to take as much risk as you would if you were investing for goal 20 years away, because your investments have less time to bounce back after a drop in the market.
So instead of investing in individual stocks (higher risk), you might consider investing in funds that spread your money across many investments at once (lower risk).