What
is Investment Risk?
Author:
Ivon T. Hughes
Every
investment has risk. Therefore, you should understand the different types
of investment risk and how they affect different investments and portfolios.
Investment
risk is broken down into two types of risk:
A. Company Risk: This risk can be diversified.
B. Market Risk: This risk cannot be diversified.
The
total investment risk is equal to the sum of the two risks:
Total
Investment Risk = Company Risk (A) + Market Risk (B)
What
is Company Risk?
This risk refers to factors affecting the price of a company's securities,
such as management skill, labour relations, consumer preferences and other
unique factors. Company risk is diversifiable, since the risk of each security
in a portfolio can be reduced through increasing the number of securities.
With many securities in a portfolio, a reduced price in one security (due
to poor company performance) may be offset by an increase price of another
security in the portfolio.
Tip:
To reduce company risk: Increase the number of different securities in your
portfolio. For example, you can dramatically reduce your company risk by
buying an equity segregated fund or mutual fund rather than a single stock.
What
is Market Risk?
Market risk refers to those factors that affect financial market returns
as a whole, such as a major increase in interest rates, a long war or an
outbreak of an infectious disease. Market risk is present in all financial
markets, including the money market, bond market, stock market and currency
market. Market risk is common to all portfolios with securities from these
particular markets. For example, market risk is present in nearly all stocks
in the market since stock prices generally move together in the same direction.
Tip:
To reduce market risk: It is difficult to reduce market risk since increasing
the number of different securities will not decrease market risk. The best
way to reduce your aggregate market risk is by investing in many different
markets such as the money market, bond market and stock market. The simple
and powerful diversification concept is called asset allocation.
To
learn more about investment risk and other investment topics, visit our website
or give us a call.
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Ivon T. Hughes, The Hughes Trustco Group Ltd.
Online Insurance Broker - Get a FREE Quote TODAY!
Tel: (514) 842-9001 Email: [email protected]
Web: http://www.trustco.ca
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