Risky business: How much risk are you cut out for?
‘Risk’ can be a tricky concept to a new investor. The word can have different meanings in different contexts and avoiding one type of risk can leave you open to another; investing in anything is an inherently risky thing.
So, how much risk are you willing to, or should you, take on? As the old saying goes, “the bigger the risk the bigger the reward” or, more accurately; “The higher the expected return, the higher the risk.”
If guaranteed, high return investments were a thing, everyone would do it! Unfortunately, (as another old saying goes) “the only certainties in life are death and taxes”, any high rate of return is compensation for the high risk taken initially.
Risk cannot be avoided in any aspect of life. Attempting to avoid all risk at all costs would deprive you from some of the great highs and lows of the human experience – relationships, travel, business endeavours and finances all depend on how much you’re willing to invest and risk to achieve success.
Among the countless types of risk out there, below we explore three of the big ones related to investing.
‘Market risk’ is the risk that any asset you invest in will fall in value. Having realistic expectations of a constantly fluctuating market can help mitigate this risk. Acknowledging market risk gives credence to the idea of investment diversification, or in other words, not having all your eggs in one basket.
‘Opportunity risk’, otherwise known as FOMO, is the risk that after having committed to one investment, in hindsight, using the same money for a different investment would have been a better choice. Financial education (or avoiding financial ignorance) can help reduce this type of risk.
Being screwed over by your investment institution, or ‘credit risk’, is the risk that you may not get your money back due to mismanagement or dishonesty. Avoiding institutions plugging higher than normal returns, or anything that seems simply too-good-to-be-true can help thwart credit risk from untrustworthy sources. The true downside of credit risk is that if things turn ugly, your money is most likely lost with no hope of recovery compared to other types of risk.
Combining what you know to be true compared to what you think is likely to happen is called the balance of probabilities. Living in your life in the balance is one way to handle risk. Consider the type of person you are – can your nerves handle the volatile nature of higher risk investing? Your personal goals, your character, financial position and needs are among the factors to reflect on when it comes to balancing risk.
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The risks and fees for investing are fully set out in the PDS and include the risks that would ordinarily apply to investing. You should note, as illustrated by the global financial crisis of 2008, that sometimes not even professionals in the financial services sector understand the ordinary risks of investing – because by their nature many risks are unknown – but you still need to give it a go and try to understand the risks set out in the PDS.
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