Every aspect of finance and investment carries an element of risk. From selecting the right type of bonds to invest in, to when a bank considers a person for a loan and runs a credit check on them – decisions are all based around risk assessment. In investment, investors use techniques like portfolio diversification, among other strategies, to minimise/mitigate their level of risk and to outweigh any losses. If risk management isn’t properly considered, severe consequences can develop for an individual who is trying to be successful at investing. Also, if risk management isn’t carried out effectively, it can cause global economic crises such as the 2007 recession. In 2007, mortgage lenders were allowing mortgages to be given to those with poor credit, who couldn’t afford to pay the mortgage sums back. This and other poor risk-analysis-based decisions, contributed to the global economic downturn that followed.
When you plan to invest money, you must consider risk and exercise ‘due diligence’ in order to minimise the various ways you could lose funds. Identify what the main risks are in an investment, and develop strategies to control losses should the worst happen.
Are you thinking of investing money for your future? Hiring a financial advisor who can guide you on the best types of investments can be worthwhile. An advisor can also help you to assess risks and devise strategies with you to effectively reduce risk, keeping it to a minimum should things not work out as planned. Financial Advisor UK offers a network of FCA-regulated and approved financial advisors who are waiting to help. Just fill in our simple online form to get started and be matched with an advisor today.
Understanding risk
It is commonly perceived that risk is a negative term that is completely separate from successful performance. However, it is important to view risk as just an unexpected or different outcome. When you invest in a financial product, you have an idea of what you’d like to achieve in terms of outcome. When this outcome isn’t delivered, this deviation is the ‘risk’ factor that you gambled on, and it can be positive or negative. Professional investors generally tend to accept that deviation from an intended outcome can sometimes be a positive thing. That said, if you generally take on more risk, you take on a more volatile product, and there is more chance that the expected outcome may not transpire.
The amount of risk an investor takes on depends upon their financial and emotional tolerance to risk. It also depends on their investment goals and how much risk they are willing to take to achieve them. Generally speaking, if an investor believes they can withstand the risk, they usually invest.
Types of risk
Most investors have strategies and ways of dealing with risks. Most risks are controllable, although expect one or two to have some kind of impact that affects your portfolio in the short-term. In order to successfully manage risks, you need to determine which types of risk relate to the type of investment you are considering. Most risks fall into the following categories:
Company-related risks
This type of risk includes events that happen within a company, such as scandals, reputation mismanagement, and anything else specifically linked to a company. Such risks can be countered by diversifying your portfolio to include investment in other companies within the same industry.
Industry-related risks
These types of risk are relevant to the specific sector a company is based in. Risks include lack of demand, changing tastes and trends, and changes in industry regulations and law.
Investment-style risks
Investing too heavily in one particular investment method can be a great risk and result in major losses. Markets fluctuate and some investment styles can go down, while others go up. The key is to not place all your eggs in one basket.
Market risks
These types of risks are linked to investors’ general demand for stocks. If demand goes down, so does share price and value. You can counter these risks through diversifying your portfolio and investing in other markets such as real-estate, gold, international equities and so on.
Controlling risks
When you decide to invest, you must devise a strategy for dealing with any risks that may occur. Most of this is achieved through a varied investment portfolio in which investments are never ‘overlapping’ one another. This helps you to minimise your level of risk, which in turns means that you will lose less money if the worst should happen, and make more if you’ve timed things correctly. Becoming good at risk management generally comes with experience and knowledge of reading markets. Risks are directly related to the characteristics of every investment product.
Exit strategies
Before investing, you should always have an exit plan. No investment is forever, and there will come a time when a product no longer serves your financial portfolio and you’ll decide to cash in. Markets are also continuously changing, meaning that your financial goals will change in turn. When you find that an investment is no longer working for you, it’s time to leave that investment behind and sell up. It is important to continue to refresh your portfolio so that you are keeping up with market changes and can take necessary action when an investment is performing poorly. As a rule, remember that there is no such thing as a indefinite investment.
Before making the decision to invest in stocks, shares or other investment products, it may be worth consulting with a financial advisor who can offer guidance on minimising risks, as well as the right types of investment for your portfolio, budget and financial goals. With Financial Advisor UK, you can be instantly matched with an FCA-regulated advisor who suits your needs.