Risk is not just about loss

Posted by Mehul Kothari | Published on 13 Mar 2019
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Risk is not just about loss

People usually associate risk with stock markets and losses. But risk is a far deeper concept than just loss. It is a challenge to understand and managing the risks associated with investing.


Risk Assessment

To understand your risk appetite, it is important to conduct risk assessment which means to first assess your needs and financial goals.

Then, you can assess the various types of associated risks. To understand what is risk assesment, let’s consider an example - you need to withdraw money from the investments you have made during an emergency. But your money is locked in. This is when you run the risk of lacking liquidity. Although there is no technical loss of money, it is still a disadvantage you stand to face at important times. This can thus be considered a risk too.

Thus, to maximize your investments, understand the various types of associated risks and create a risk management plan.


Type of risks in investing:


Before understanding other types of risks, look at what market risk refers to:

• Equity risk: This is the most obvious form of risk wherein the equity investment rises and falls. But remember, equity risk is only one of many types of risks associated with investments.
• Interest rate risk: This occurs due to changing interest rates.
• Currency Risk: This applies to foreign investment. Here, the value of an investment changes due to changes in the value of the currency.

There are other risks too that you may not know of. But all these risks are equally important. They impact the overall risk associated with the portfolio.
• Reinvestment risk: This occurs when the investor has to reinvest his investments. For example, take your bank fixed deposits, which mature from time to time. You must reinvest these upon maturity. But at the time of reinvesting the amount, the interest rate might not remain the same. This is the Reinvestment Risk. Investors must consider this when opting for renewal of investments.
• Credit risk: This can arise when you invest in securities or bonds. For instance, bonds with a credit rating of AAA are lesser risky than AA ones. Even though AA bonds might have a better yield, the inherent credit risk is a consideration.
• Tax risk: This refers to the risk of unnecessarily paying a higher tax. Tax riskoccurs when you ignore the tax-saving provisions laid down by the Income Tax Act. So, when opting for investments, do consider the tax efficiency of the product. This will reduce your tax risk, especially at the time of maturity.
• Inflation risk: The returns on your investment may be lower than the inflation rate. This is the inflation risk. So, while planning for investments, think of the future. Think of the purchasing power of money and how it changes.
• Concentration risk: This risk comes when there is a lack of portfolio diversification. You can curtail this risk with a diverse portfolio. That is, your investments must include different asset classes, horizons, and products, etc.


Conclusion:


People’s horizon of investment defines their risk-taking capacity. Also, risk is associated with high returns. If losses are on one side of a coin, so are the returns. Hence, the risk-return trade-off is of extreme importance and so is the need to understand types of risk management for better investing.

Avoiding risk can be equally risky. For example, an investor may avoid equity to reduce his/her market risk. But this increases the risk of not beating inflation or having a concentrated portfolio.

So, weigh the various risks to reduce your over portfolio’s risk and employ risk management strategies in your portfolio. If you need support, turn to IndiaNivesh which specialises in this.


What next?

We spoke about how avoiding market risk can affect your ability to beat inflation. This is because risk has a close relation with your returns. Let’s look at the risk-return trade off next.

 


Disclaimer: Investments in the securities market are subject to market risks. Read all the related documents carefully before investing.

PREVIOUS STORY

Risk vs Return: The tradeoff

Posted by Mehul Kothari | Published on 13 Mar 2019

The risk return tradeoff is a principle of investment, which means that higher the risk in the portfolio, higher is the potential return possibility. However, high returns from a risk return trade off is not always guaranteed.To clarify the risk and return trade off and understand what is risk return trade off with an example, any investment with high risk may have a chance of high return, say, equity stocks. So, if the risk in an investment is high, then the possibility of return is also high, around 20-25% annually and may not be limited to just 6-8%. It basically means that the investment return is volatile and may fluctuate depending on market movements. However, the average return of equity would typically be 12-15% annually.On the other hand, if the risk in any particular investment is low, for instance in a fixed bank deposit, the chances of getting 20-25% annually may never happen. The returns will be more in the 6-8% bracket. However, it also means that the return can never become lower than 6%, especially negative. This is the trade off between risk and return. Hence, you need to take greater risks if you need a higher return on your investments. The concept of risk return trade off in finance is a widely accepted fact, but the associated risks with the portfolio are often neglected. Risk-return trade off in financeAs far as investing is concerned, each and every investment has an associated risk with it. When you are looking to choose an investment, you need to look into its risk too so that the overall risk of the portfolio is managed accordingly.   There are multiple risks associated with an investment product. Some of these include:1. Inflation risk reduces the purchasing power of cash reduces over time.2. There is credit risk because credit rating of bonds/papers, etc. determine the value of the productLiquidity risk arises when selling an investment product at the right time can be a hassle. 3. There is tax risk as governments usually make taxation changes every year. 4. Concentration risk occurs when you buy too many of a particular investment product.5. There is market risk because equity market is volatile. Risk levels of asset classesTo sum up You need to find the right blend of risk and return. This is quite an important task because the return needs to be in line with your long-term financial goal. However, it is equally important that you don’t ignore the risk factor. The investment option you choose should match your risk appetite.   Disclaimer: Investments in the securities market are subject to market risks. Read all the related documents carefully before investing.

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Investing 2.0: Where to Invest: What type of an investor are you?

Posted by Mehul Kothari | Published on 13 Mar 2019

Characteristics of the Types of Investor in Stock Market The key to successful investing is chalking out an investment strategy that is in sync with your risk appetite. Simply put, your risk appetite is your tolerance to bear losses. Your risk appetite may be low, medium or high. Therefore, to begin investing, you need to understand your risk appetite first to understand what type of an investor you are. This is what will determine your investment profile and help you achieve your financial goals.There are different types of investor profiles hence, while each individual has a different investment profile and investment preferences, it is easy to classify investors into three broad categories based on the amount of risk they are willing to take. Here are the three types of investors based on their risk tolerance: The conservative investorThe first and foremost concern of this type of investor is the protection of his capital. He is unable to bear any erosion of the principal amount he has invested. This makes him a low-risk investor who will probably get sleepless nights during a volatile period in the markets. What he prefersA low-risk investor is therefore likely to be happy investing in debt instruments. Since he is not aggressive in his expectations, he does not mind the likelihood of moderate capital growth with steady returns.The balanced investorThis is someone who is willing to take a little more risk to enhance the value of his portfolio. He will thus have more tolerance for volatility than a conservative investor, but will not be willing to invest in high-risk instruments for greater returns. What he prefersA medium-risk investor seeks a balance between stability and growth. His portfolio will consist a mix of debt for stability and equity-oriented instruments that invest in stable companies. The aggressive investorAs the name suggests, this is an investor who can take the market’s short-term volatility in his stride. He is not afraid to expose his portfolio to high risk in pursuit of higher growth. The essential difference between an aggressive investor and low and medium risk investors is that he is willing to take greater risk. What he prefersAn aggressive investor is willing to expose his portfolio to high risk instruments in the equity markets and may even bet on unknown companies to further enhance the value of his portfolio. Such investors with a competitive investor profile are also willing to opt for leveraged products such as derivatives of equities and other asset classes. ConclusionTo identify your investor profile it is important to determine what kind of an investor you are before you embark on your investment journey. It is important to bear in mind that wealth creation is a time-consuming process and staying invested will bear fruit if you have time on your side. Thus, it is wise to invest according to your own risk profile. This is what will take you closer to your financial goals. The best part about different investor types is that every individual begins as a novice and gradually progresses to the next consecutive level of investment accomplishment through training and knowledge. Irrespective of the type of investor you are currently, moving on to the next level is not too far, and can be easily done with a little practice and education.What is the key to being an experienced investor? As can be seen from various examples around us, the most successful investors have excellent temperament that has helped them consistently outperform the market. They can do this not because of perfect timing or hordes of cash. They do it by distinguishing their instinctive tendencies, established methods, doctrines, and laying down a disciplined plan of action.Taking a cue from Warren Buffett, he says, "Success in investing is not associated with one's I.Q." At the end of the day, what one needs is the temperament to restrain impulses that usually get most people into trouble.   Disclaimer: Investments in the securities market are subject to market risks. Read all the related documents carefully before investing.

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Reach out to our experts at IndiaNivesh for any queries about capital gains arising from the sale of assets for correct guidance.   Disclaimer: Investment in securities market / Mutual Funds are subject to market risks, read all the related documents carefully before investing. 

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So, if you want to buy or sell securities, open a demat account and start trading in dematerialised securities. Should you have any doubts, get in touch with the team at IndiaNivesh who will look into your requirement and lead you towards a quick resolution.    Disclaimer: Investment in securities market / Mutual Funds are subject to market risks, read all the related documents carefully before investing. 

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  • High Dividend Mutual Funds
    Posted by Rushabh H. Mehta | Published on 02 Mar 2020

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Essential things to keep in mind while investing in dividend mutual funds • Conservative investors looking to invest in dividend funds should invest in large-cap funds, preferably of blue-chip companies that pay a higher dividend. Investing in companies with a higher proportion in mid & small-cap companies will increase the risk of the investment, thereby defeating the purpose of investment• Invest in a fund which has been in existence for some time and witnessed a few market cycles• Avoid investing in a fund with a small corpus to minimize risk as few wrong investment calls can significantly hamper returns• The expense ratio plays a vital role in determining the overall returns from a scheme. Choose funds with a lower expense ratio   CONCLUSION Investing in high dividend mutual funds is a good option if you are looking for a regular income through dividends. 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