“Although it’s easy to forget sometimes, a share is not a lottery ticket… it’s part-ownership of a business” — Peter Lynch
3 min read
“Although it’s easy to forget sometimes, a share is not a lottery ticket… it’s part-ownership of a business” — Peter Lynch
3 min read
Whilst investing offers the perceived promise of financial growth and security, it also comes with its own set of challenges and uncertainties. At the heart of this financial adventure lies the concept of investment risk, an ever-present companion that can shape the outcome of your financial future.
Investment risk is not a monolithic entity; rather, it encompasses a diverse range of factors and variables that can influence the performance of your investments. Whether you’re a seasoned investor or just starting to explore the world of finance, understanding the intricacies of investment risk is paramount.
In this article, we’ll take you through the world of investment risk so that you can gain a deeper understanding of the risks that accompany investments and the tools to make informed decisions to protect and (with careful planning!) grow your wealth.
Market risk is what most investors “see” and is therefore most easily understood. Market risk is a systemic risk, with the risk being that a chosen investment loses its value due to economic events that affect the entire market.
Not all risks are necessarily “bad”: it depends how it is transposed into the real world as against the make-up of your investments at any given time.
Below you will find the main types of market risk.
Equity risk pertains to the investment in shares. The market price of shares is volatile and keeps on increasing or decreasing based on various factors. Thus, equity risk is the drop in the market price of the shares at moments in time where adverse market risks have occurred.
Interest rate risk applies to the debt securities such as Government or Corporate Bonds. Interest rates affect the debt securities negatively i.e., the market value of the debt securities increases if the interest rates decrease.
Currency risk pertains to foreign exchange investments. The risk of losing money on foreign exchange investments because of movement in the exchange rates is currency risk. For example, if the US dollar depreciates to the Swiss Franc, the investment in US dollars will be of less value in Swiss Franc. The converse is true should the Swiss Franc depreciate instead.
This is the risk-reward measure in securities comparative performance. Traditionally, higher returns are generated with higher swings in asset values of time (i.e. of a greater standard deviation measured over a given period). The price / value swings over time are generally of a greater standard deviation mathematically for the greatest returns.
However, real value is found in identifying returns from investment mixes that provide returns that are over and above that which is applicable on average for the standard deviation of that mix. This combination would mean the returns are generated by higher quality management, whether through investment selection and diversification, lower cost base or a combination of these factors.
Rising prices of goods and services, ‘inflation’, eats away the returns and lowers the purchasing power of money, literally as if it goes up in smoke! The return on investments needs to be greater than the rate of inflation for an investor.
Cash deposits are often paying interest at a rate close to (or often below) current inflation. This means the future buying power of existing cash deposits will quite probably be less in future years.
The most likely way of avoiding inflation risk is to take a long-term approach to money and invest anything over and above short-term needs not already covered, into real assets. These are assets such as:
There are a plethora of other types of risk. Seeking to be as succinct as possible, these risks include:
Despite the risks involved with investing money, here is how these risks can be managed and controlled within reasonable parameters. The key methods of managing risks include:
Diversification includes spreading investment into various assets like stocks, bonds, and real property. This helps an investor gain from other investments if some do not perform over a period. Diversification is achieved across different assets and also within the assets (e.g., investing across various sectors when investing in property types or specific equities, for example) and investment managers.
The monitoring is vital, as part of the ongoing assessment as to the validity of the investment strategy decided upon at outset.
The reviewing is a key part to ensuring that both the investor’s financial objectives, the financial performance and outlook remain aligned as expected and, if not, examining why and confirming what actions should be taken to address any shortcomings.
The updating is necessary to be cognisant of any changing objectives, implementing amendments to the asset mix, risk levels or investment selections as agreed from the outcome of each review.
Long-term investments provide higher returns than short-term investments.
Although there is short-term volatility in the asset values of real investments, history shows that, as compared to cash, the gain when invested over a longer horizon (5, 10, 20 years or more) have been far in excess of both cash and price inflation.
The longer the time horizon, the more likely it has been shown for the invested funds to create excess returns for the investor. Time horizon is a key factor in the decision as to how to split your investment portfolio between the broad asset classes. It is important to note that each asset class has a plethora of sub-asset classes.
Navigating the complexities of investment risk requires not only knowledge but also guidance. It is here that Patterson Mills stands as your steadfast partner on the path to financial security. Our expert team is committed to helping you make informed investment decisions, mitigate risks, and secure your financial future.
Don’t let uncertainty hold you back from realising your goals. , get in touch to book your initial, no-cost and no-obligation meeting. Or, send us an e-mail to info@pattersonmills.ch or call us direct at +41 21 801 36 84 and we shall be pleased to assist you.
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