There are many types of risks that affect investments and they have to do with the market, capital, exchange rate and even inflation. Knowing about this classification and the levels of risk is essential to obtain the best returns for the money invested.
When making an investment, two aspects must be taken into account. On the one hand, the desired economic return must be considered. On the other hand, the risks involved in achieving profitability must be considered. The important thing is to assume an adequate level of risk to balance the financial situation with the profits that are desired. In this way, you have to know what it is about.
What is an investment risk?
It is the possibility of having some problems with the profitability of the investment , ranging from completely losing the money initially invested to obtaining less profit than expected. All investments bring with them a degree of uncertainty that must be assumed , however, it is crucial to know what the Value at Risk (VaR) is to consider how pertinent it is to invest.
VaR allows us to know the loss that the investment could suffer - generally between 1 and 5% - considering a time interval and a certain level of confidence. It can be calculated as a parametric VaR, using estimated profitability data. It can also be a historical VaR, which is based on previous profits, assuming that they will be repeated. And, in addition, there is the Monte Carlo VaR, which is obtained through computer software.
What are the types of investment risks?
Once you understand what risk means and after having calculated the VaR, you need to know what the types of risks are for any investment. This information allows the investor to take into account all the aspects that may be contrary to their financial purpose . Therefore, it is extremely important to identify each of the risks detailed below:
Capital risk. This is directly related to the daily variations that affect the price of shares, since they depend on demand and supply in the market. If the price of these shares falls, the investment suffers losses.
Compliance risk. This risk generally affects sectors such as banking, electricity and energy. It occurs when the entity in which the investment is made suffers financial losses, suffers legal or administrative sanctions, or loses its reputation for failing to comply with the law.
Liquidity risk. This occurs when there are difficulties in the market cpa email list the investment is not matched with the profits due to a lack of liquidity. As a result, there is a slight loss in value and a slow recovery of the investment.
Exchange rate risk. Also known as currency risk, this occurs when an investment is made abroad, in a different currency, and downward fluctuations in the exchange rate occur, which may have a negative impact on the investment.
Interest rate risk. This arises when market interest rates fluctuate significantly, directly affecting all assets. However, bonds and preferred stocks are more risky, so if interest rates rise, the price of bonds falls.
Market risk. This is also known as systemic or non-diversified risk. It is generated due to fluctuations or variations that affect the market, which impact the investment due to the instability that is established.
Issuer risk. This means the possibility of losing profits and capital because the entity where the investment is located does not meet its obligations due to insolvency. This situation makes it impossible to obtain the promised profits.
Non-systemic risk. This is also known as diversified risk and only affects a specific company, since it is conditioned by specific factors, as it depends on internal situations. However, the industry to which it belongs is not affected.
Inflation risk. This issue is related to less stable economies, because inflation reduces the purchasing power of money. This implies a negative return on investment. This risk affects cash or bond investments to a greater extent.
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What are the risk levels?
In order to make good investment decisions , it is important to understand that the way you invest will depend on your risk tolerance. To do this, there are three ways to identify the risks of an investment and they are characterized by the level of danger they represent. In this sense, it can be a low, medium or high risk operation.
Low risk. It has little chance of losses and is characterized by a low expected return, as is the case with fixed-term deposits or fixed-income investment funds managed by the government or banks.
Medium risk. Better returns can be achieved, but the investment requires more capital. In this case, debt bonds, real estate and equity investment funds are considered.
High risk. There is greater market volatility, but returns are higher. Considering the higher complexity, the investment must be carefully studied to reduce losses in stocks, currencies or derivatives.