Chapter 2 directed you to think long and hard about your personal tolerance for risk in your investment strategy. By now, you have decided whether you are a conservative, moderate, or aggressive investor. Now it's time to apply what you've discovered about your risk tolerance to your fund portfolio objectives.

Knowing your own risk tolerance is critical in determining the best investing strategy for you and which mutual funds suit your style. Your risk tolerance informs your overall portfolio, each investment you choose, and your asset allocation plan. Even though mutual funds are by nature less risky than individual securities, they still come with their own forms of risk and you can still sustain losses.

Risk in mutual funds usually refers to the fluctuations in the price of a fund, as opposed to the dividend risk and market risk associated with stocks, or the default and interest-rate risk that comes with bonds. As risk increases, both price volatility and total return potential increase proportionately. On the other side, risk declines along with decreases in price volatility and total return.

Regardless of your risk tolerance level, you can achieve your investment goals with mutual funds — whether they're categorized as growth, balance, or income — as long as you keep your money invested over the long term. The shorter your investment horizon, the fewer options you have in the mutual fund market to achieve your end goals.

Risk tolerance can be the most important element in determining mutual fund selections. Two investors with the exact same investment objectives and investment capital will enter into two dramatically different portfolio scenarios if they have different tolerances for risk.