Investors know that markets and economies are volatile and there is no such thing as a sure thing when it comes to investments. Every investment has some investment risk. But what is investment risk? Here we look at the four major types of risk involved in investment and find out how you can minimize the risk from your investments.
When companies experience a high degree of business risk, they could impair their ability to provide investors and stakeholders with acceptable returns. Bad management is an example of this risk; if a CEO makes poor decisions, causing the business to incur losses or even to fail, it will trickle down to lower dividends on stocks for every investor. Although company risk cannot be entirely avoided or even accurately predicted – it is the nature of capitalism – a good analyst or wealth advisor is able to manage investments in order to escape the effects of it.
Strategic risk is one of the four major types of company risk and happens when a business does not operate according to its business plan. Its strategy then becomes less effective; it will likely battle to reach its goals.
Compliance risk is the second form of business risk. This occurs in industries and sectors which are highly regulated, such as industries associated with finance, pharmaceutical drugs or alcohol. compliance risk occurs when the company does not comply with the legal requirements of the country or region in which it operates.
Operational risks arise internally when day-to-day operations of the company break down. This can be as simple as a fire destroying a major manufacturing plant or far more complex in nature.
Reputational risk can result in the company losing customers and brand reputation. Companies that have been found guilty of systemic racism, for example, have lost money on the stock market, leading to losses for individual investors.
Company risk can be significantly reduced by doing research. Analyze the company’s quarterly earnings results, listen to management commentary on those results, read finance articles in reputable publications and measure performance. This information has to be made publicly available for all listed companies.
Volatility And Market Risk
Stock prices are determined by the two main determiners of anything in business: supply and demand. Demand for anything can change with little to no warning and your stock could take a massive tumble. However, the smart investor can minimize exposure to these effects.
Stock prices will fall when capital is pulled out of the stock market and market crashes can happen. These setbacks are likely to be temporary but you must be prepared for some setbacks in this business.
Because of the temporary nature of the downturns, it is generally best to avoid selling when the stock is down so that you can hold on and reap the rewards when the market returns to growth. As the old saying goes, “don’t put all your eggs in one basket”; rather keep some liquidity to cover expenses and possibly take advantage of other opportunities.
Portfolios can be designed to limit exposure to market volatility. Stocks tend to have higher risk than bonds or cash. Consider defensive investments like all-weather portfolios or other ways of diversifying.
This can be understood as the risk of missing out. You do not want to be left behind while other investors are bragging about their returns and you are left saying “should have, would have, could have”. While you do not want to risk everything, you do need to take some chances to achieve growth.
Liquidity is simply how quickly and easily an investment can be exchanged for cash. Stocks and bonds are relatively liquid while real estate is one of the least liquid investments available. This is not to say that all your assets should be liquid, but that it is advisable to have some level of liquidity in your investment portfolio in case of an emergency.
All of these are real risks that investors may face. Ask an investment advisor which is the greatest risk when investing in stocks and make sure you know what you are investing in to minimize the risks of investing.
Ensure you have the best financial future by partnering with a team that shares your values, thoroughly understands your goals, and has a keen desire to earn your trust and confidence. Nour Private Wealth (NPW) is a Canadian company with a team of wealth advisors servicing clients across seven provinces. Let us manage your portfolio using a diverse mix of asset classes, delivering strong returns while minimizing investment risk. Contact us today and speak to one of our wealth advisors.