What's Your Risk Tolerance?

Generally, the more money you want, the greater risk you'll have to take. Individual stocks or stock mutual funds are high-risk, high-potential-return. AAA-rated corporate bonds and U.S. Treasuries involve moderate risk. Savings accounts and certificates are predictable but may not earn enough to keep up with inflation.

But offset higher-risk investments with safer bets. Most people tend to take on more risk than they really can bear. Everyone needs to know their own level of risk tolerance, and your answers to these questions can help:

How old are you?

If you're young and don't face retirement soon, put more of your savings into stocks. You have time to ride out the market's peaks and valleys on its way to long-term growth. Over the past 100 years, the Dow's average annual gain was 15.3%.

If you are closer to retirement, you'll want to begin shifting some of your higher-risk investments into areas safer in the short term, such as savings accounts, certificates and corporate bonds. But don't give up investing completely. Many people live 20 years or more beyond retirement... plenty of time for investments to grow.

What are your needs?

Say you're young and just got married. And you're having a baby. And you want a new house. In this case, you cannot afford to take short-term risks with your money.

Earmark any money you'll need within the next three years for safer investments, like certificates and Money Market Savings Accounts, or a corporate bond of a company with a good debt-payment history. Although it's a pretty good bet the stock market will go up in 20 years, nobody knows what will happen in three.

What is your personality?

Some people like to bungee jump. Others don't. Some people are willing to make risky investments while others have headaches just thinking about it. If you're the second type, the stock market isn't for you.

What would you do if one of your stocks fell 20%? Would you take your money out? Or would you add to your holding because the stock is so cheap? What if you learn one of your bonds lost money because the company missed a debt payment? Nervous yet? Your answer helps determine your risk temperament.

Do you have time for homework?

Investing in individual stocks requires careful attention to company balance sheets and other factors. Many people prefer mutual funds, but you should watch them for staff changes and management costs, which you end up paying for. Index funds mirror the performance of a market index such as the S&P 500, and often outperform mutual funds and require minimal research.

By reading up on finances, you'll learn to manage your reaction to risk and make smarter investments. But if you can't do it alone, consult a professional financial planner for advice and peace of mind. You don't have to be a millionaire to get both.