Risks and Achievements
How much risk do you want to take?
The level of risk you might be prepared to accept depends on how long you can tie up the money. If you've got time on your side, you can view your investments over the longer term. You may be able to take relatively more risk in exchange for the potential of higher returns. However, it is important to remember that this sort of investment is for the long term.When investing, you take calculated risks to increase your chance of getting higher returns on your money, especially over the longer term (money you can afford to to commit for five years or more).
MANAGING YOUR INVESTMENT RISK
Depending on the nature of
the
investment, the
type of investment risk will vary.
You
can't eliminate risk when you invest,
but you can understand it and take steps to keep it at acceptable
levels. Let's
look at six types of investment risk and some ways to mitigate them.
- Market risk: A stock will rise or fall in price in response to investor sentiment or changes in the fortunes of the company or the industry it's in.
- Interest rate risk: When interest rates rise, fixed-income investments (such as bonds) lose value. (Of course, rising interest rates increase the cost of doing business for most companies such as us and can also, thereby, raise market risk.)
- Inflation risk: Rising inflation can erode the value of income and/or assets.
- Credit or default risk: When a borrower can't repay a loan, someone loses money.
- Currency or exchange risk: If the value of the Euro rises in relation to other currencies, the value of foreign stock shares translates into a smaller number of Euros in the Europe. For investors who hold those shares. Put another way, a "strong" Euro can buy more goods, including stocks. Conversely, if the Euro falls in relation to other currencies, the value of stock shares rises, as more "weak" Euro are needed to buy a given amount of stock.
- Timing risk: Whenever you make an investment, you're betting that its value hasn't already peaked, that better days lie ahead.
Risk Reduction Strategies
Diversify. Financial advisors generally agree that most types of risk can be managed by diversification dividing investment Euros among different industries, countries, and asset classes (Gold, Stock market, real estate, Petrochemical, etc.). "Spreading the risk" through diversification helps cushion the impact that problems in one investment might have on a portfolio.
Consider a long-short mutual fund
During the bull
market of the 1990s, investing in high-beta, or high-risk,
stocks and mutual funds became extremely popular because those areas of
the
market generally offered higher returns. Then came, the bear market of
2000-2002, which abundantly demonstrated the downside of high-beta
investing as
many of the formerly high-flying stocks and mutual funds experienced
steep
price declines.
Today, the primary
objective of many investors is to manage risk while
achieving the best possible returns. Asset allocation is playing a
prominent
role in investors’ strategies, because it potentially
produces improved
risk-adjusted returns. A further step that investors can take to
enhance their
portfolio’s risk/return relationship is to invest in a
long-short mutual fund.
The long and short of
long-short mutual funds
Long-short mutual funds, also commonly referred to as absolute-return
funds,
offer an expanded investment universe in comparison to long-only funds,
due to
the fact that they include both long and short positions.
Long positions
involve owning securities, which means that the investor’s
portfolio will benefit if the prices of the securities rise and will be
negatively affected if they decline.
Conversely, the
holding of short positions, known as “shorting”
stocks,
involves selling borrowed securities that later must be bought back and
returned to their lenders. With this strategy, a portfolio will benefit
if the
prices of the borrowed securities decline and will be hurt if they
rise.
Shorting stocks may increase an investor’s risk due to the
potential for
unlimited losses if prices continue to rise.Long-short
funds can invest in some stocks that the portfolio managers believe
will go up in price as well as other stocks that they think will go
down in
price. This flexibility allows the opportunity for the funds to achieve
positive results in both situations.