It is almost impossible to plan financially without understanding investment risk. Many people, when they hear about ‘investment risk’, think automatically about the chance of being swindled or not getting all their money back. Or losing all of it! This ‘capital’ risk is important, but there’s more to it than that.
The key areas for concern are volatility, uncertainty and unpredictability. When you make an investment, it can be difficult to say with any certainty what you’ll get back when you finally cash it in. Share prices will fluctuate, interest rates will vary and inflation may eat into the real value of what you might think is a ‘safe’ bet. Just concentrating on capital risk and ignoring these other risks could mean you take too cautious an approach and lose out.
It is generally understood that putting all your eggs in one basket is a high-risk approach. Amazingly, many people who label themselves as cautious investors will unwittingly go against the grain and invest a large amount of their wealth in the shares of one company. This is surprisingly common.
No risk at all, please! Your choices are very limited as a zero-risk investor. You may have considered stashing away your cash under the floorboards or invested in a safe bolted deep into the foundations of your house! Is there such a thing as zero risk? Cash in Banks is traditionally considered the lowest risk, however, what if the Bank goes bust? With the cost of living rising on a daily basis, your investment will need some sort of return to keep up. Investing in cash is fine in the short term, however expect disappointing returns over a longer period.
Ok, I’m prepared to take a little risk but not much! The cautious investor’s biggest fear is big swings in the value of their investment. What you’ll be looking for is a spread of investments in various asset classes, i.e. cash, bonds, gilts, perhaps property and a little in blue chip stocks and shares. History suggests that these asset classes are able to produce returns in the long term that might combat inflation, but without too much volatility. Do however fairly expect modest returns in this investment space.
Yes, I’m prepared to take a calculated risk! As a ‘balanced’ investor, invest long term or over five to ten years for best results. More of your money would be invested in equities, i.e. stocks and shares. Most balanced investors would use a fund manager or a low cost index tracking strategy, which would simply track an ‘index’ such as the FTSE 100 share index. Whereas trackers simply follow markets up or down, fund managers are able to take positions to counter falling markets. That is why they cost more.
Bring it on! The first rule as a ‘high-risk’ investor is that you should only take a high risk investing money that you are comfortable losing. Your investment would typically consist of a high percentage of equities in the less predictable markets, such as the Emerging Markets sector; which consists of shares in countries like Asia, South America, and Africa. Your investment may also include commodities such as silver and gold or specialist markets such as healthcare or natural resources. You may also venture outside traditional investments and consider wine, paintings, antiques and classic cars. Strictly long-term, expect spectacular returns: spectacularly good or spectacularly bad!
Investment risk – simple rules to follow:
- The greater return you want, the more risk you’ll usually have to accept.
- The more risk you take with your investments, the greater the chance of losing some or all of your initial investment (your capital).
- If you’re saving over the short-term it’s wise not to take much risk.
- If you are investing for the long-term you can afford to take more risk as your money has more time to recover from any falls in the markets.
- Use an Independent Financial Adviser, who will help find the right investment for you. Peace of mind for you, because they will also be fully accountable for any advice given.
Akwasi Duodu, IFA, Sterling & Law Group plc.