Recently, I've had some fascinating conversations with investors who're starting to plan for a major milestone – they're ready to ditch the W-2 and live off their investment returns.
It's an awesome goal. One that certainly resonates with me and I think would with most readers of this newsletter too.
But in talking with them further, something caught me off guard: they hadn’t thought through how their psychology around risk needs to fundamentally change once they make that switch.
And that switch? It's not gradual. One day you're getting a paycheck, the next day your portfolio is your paycheck.
But this presents a problem: your psychology takes time to catch up to this new reality – and expensive mistakes can happen in the meantime.
Math That'll Keep You Up at Night
Let me walk you through some simple but scary math.
Say you're cruising along in a job with a mid-to-high six-figure income. One of your investments goes sideways and you lose $100K. That sucks, no question.
But assuming you're living below your means and investing regularly, you can likely backfill that loss pretty quickly. Your earned income acts as a built-in recovery mechanism.
Now flip the script. Same $100K loss, but this time you're supporting your life off a $1M portfolio throwing off 10% annually.
Your remaining $900K now has to earn 12% just to get back to even. And that's assuming you don't take any distributions to help feed your family or pay the mortgage.
The mathematical reality is brutal when you don't have external income to cushion the blow.
Why Smart People Get Blindsided
Even when you understand this intellectually, there's this weird psychological resistance to adjusting your approach.
Why?
Psychology doesn't flip overnight – Your career change might be instant, but your risk psychology isn't. There's no light switch for how you think about investments, and it takes time to internalize this new reality.
You're the same person – The more aggressive, growth-focused approach worked before. Your risk appetite got you here, so why would it change now?
Portfolio inertia is real – The things that got you where you are feel sacred. Changing can feel like an admission that something was wrong with your previous strategy. (Spoiler alert: it wasn't wrong. It was just right for a different time.)
What Actually Needs to Change
So what actually needs to shift in your approach? Four key areas:
Position sizing is the easiest place to start.
If you've been putting 15-20% of your portfolio into single investments, you need to war-game that scenario. Ask yourself: If this entire position went to zero, would I be okay? If the answer is no, dial back those position sizes.
The risk profile of your deals probably needs to shift too.
Been focused on real estate development deals or other growth-heavy, high-risk-high-reward strategies? It's probably time to shift toward deals with more consistent, lower-risk returns.
Related, your return focus should flip from total return to cash-on-cash returns.
That big equity hit at the end of a 5-year hold might not align with needing steady income to support your lifestyle. You can't eat equity, and you don't want to be selling assets to generate income. You want to own assets that produce income while you continue owning the asset.
Finally, time horizon takes on a different meaning when you need assets producing income indefinitely. “Long-term” isn't just about maximizing returns – it's about sustainable income generation.
You need to have very strong alignment between what an investment is going to do and what your current and future needs are.
The Bottom Line
Your risk tolerance shouldn’t change because you've suddenly become a conservative, risk-averse investor. It should change because the consequences of being wrong are now fundamentally different.
When your portfolio becomes your paycheck, a single bad investment can't just hurt your wealth building – it can threaten your ability to keep the lights on.
So if transitioning to portfolio-based income is in your future, start thinking about portfolio construction today. You don't want to quit your job only to realize your entire portfolio consists of illiquid development deals that produce zero cash flow.
The goal isn't to become risk-averse. It's to become risk-appropriate for your new reality.