A guide to investment risk
At Sterling and Law, we understand the complexities of investment risk and the opportunities it presents. But what is investment risk and how could you make the most out of it?
What is considered risky is different from person to person. Some people enjoy skydiving, while others could think of nothing worse. The same is true for investments.
What you will learn in this article
Here’s a brief overview of what you’ll learn in today’s article:
- The different types of investment risk
- Why diversification is so important
- The four main asset classes
- Importance of investing for the long-term
- How we manage risk at Sterling & Law
Keen to improve your financial knowledge? Keep reading this article.
What is investment risk?
Investment risk refers to the uncertainty or potential for financial loss associated with an investment. It stems from factors such as market fluctuations, economic conditions, and specific asset characteristics.
Investors face the risk that the actual returns on an investment may differ from expected returns, leading to financial consequences.
Common types of investment risks include market, credit, liquidity, and geopolitical risks. Diversification, thorough research, and risk management strategies mitigate these uncertainties and optimise investment outcomes.
Related reading
Investment risk video
Watch our investment risk video below if you prefer learning through videos instead of reading. This way, you can grasp key concepts visually and at your own pace.
What are the different asset classes?
Risk is linked to most types of investments, and these are called asset classes. There are four main asset classes:
- Cash
- Fixed income or bonds
- Alternatives
- Equities or shares
Let’s take a look at each
Cash
Cash or money on deposit at a bank is considered the lowest-risk investment and has the lowest potential return. However, cash isn’t entirely risk-free because it could be subject to the bank going bust. And, with such low returns, cash has little chance of keeping pace with inflation.
Bonds
Bonds provide a fixed rate of income in return for Lending money to a government or company and they are generally perceived to be less risky than shares.
Alternatives
Alternatives are anything other than cash, bonds, or equities. An alternative investment refers to a financial asset that falls outside the traditional categories of equity, income, or cash. Alternative investments include private equity or venture capital, property, commodities, and tangible assets.
Equities and shares
Equities or shares are generally considered the riskiest asset classes as they offer no guarantees, and your return is subject to the performance of the companies you are invested in.
History suggests, however, that investing in shares is the most reliable way to grow your savings and beat inflation over the long term.
Company shares or equities and the various asset classes mentioned earlier are diverse, so they have different levels of risk and reward.
Diversifying your investment portfolio
While a small startup may have a higher potential for growth, it’s likely to be more unpredictable than a household brand seeing a steady demand for its product. As a result, instead of relying on the success of one company or asset class, it would make sense to spread your investments across a mix of companies, asset classes, and geographic locations.
This strategy of diversifying could give you growth potential with reduced risk.
How do we manage investment risk Sterling & Law?
At Sterling and Law, we outsource the selection of investments to experts in their fields. While long-term investment strategies aren’t as exciting as shorter-term ones, they tend to be much less risky and potentially more profitable.
It’s safe to say everyone has their attitude to risk, and that’s why your Sterling & Law financial planner will help you understand what level of risk is right for you and your investments.
Remember to think long-term for the best results. With that taken care of, your financial planner can concentrate on helping you build your wealth and achieve your personal and financial goals.
Related services from Sterling & Law
If you are thinking about working with a financial planner, we offer a broad range of services to meet the needs of a diverse range of clients, including:
To discuss your requirements with an experienced adviser, call 020 3740 5856 to request a callback.
Article FAQS
Here are a few questions you may have after reading this article.
How can I diversify my investment portfolio?
Diversifying your investments is so important for managing risk. To effectively diversify your portfolio, consider spreading your investments across various asset classes like stocks, bonds, property, and pensions. Please note that this is an illustration and isn’t financial advice. Seeking professional financial advice is highly recommended when making investment decisions.
What are the main types of investment risk and how do they differ?
The main types of investment risk include market, credit, liquidity, and geopolitical risks. For example, market risk involves fluctuations in stock prices. On the other hand, liquidity risk refers to the difficulty of selling an asset without significantly affecting its price. Lastly, geopolitical risk refers to the impact of political events on financial markets.
Do I need a wealth manager to manage my investments?
While not mandatory, a wealth manager can provide invaluable expertise and tailored plans. For instance, they can help you invest tax-efficiently, investments with long-term financial goals. Furthermore, they help manage investment risk and act as a steady guiding hand throughout your financial journey. Lastly, whilst not guaranteed, they help to increase your net worth and plan for inheritance tax.
What are the ways to manage long-term investment risk?
If you are a DIY investor, managing long-term investment risk involves diversification, regular portfolio reviews, and staying informed about market trends. For example, rebalancing your portfolio annually could help your investments align with your risk tolerance and financial objectives. On the other hand, working with a wealth manager can help manage risk as they are skilled financial professionals with years of experience.
How should I balance risk and return in my investment strategy?
When it comes to balancing risk and return, it’s all about finding the right mix for your investment strategy. Think of it this way: if you’re a young investor, you might lean towards high-growth stocks, while retirees may opt for stable, income-generating bonds to protect their capital. This is just one example of how to balance risk and return, not a one-size-fits-all solution. We do not suggest that you should make risky investments if you are young.
