info@towry.com
Understanding risk
When constructing investment portfolios, it is essential that we understand and effectively manage risk.
The word risk often conjures up negative connotations so, even though risk can also be positive, for most investors the importance of risk is an understanding of how much they are prepared to lose.
It should also be appreciated that very few investment options are truly 'risk free' - even money held on deposit is at risk of decreasing in value in real terms because of inflation - and the level of risk investors are prepared to expose their investments to is often closely correlated to the level of reward they expect (or need) to receive.
But more risk does not automatically equal greater returns, and the challenge when constructing investment portfolios is to ensure that any risk you take has the potential to reward you with the highest return commensurate with the level of risk taken.
It is much easier to quantify risk if you have some financial parameters to work within. For example, if investors know that the maximum return over a given period is likely to be X and the maximum loss is likely to be Y, they can quickly determine whether this fits within both their investment expectations and tolerance to risk.
By focusing on risk, and more particularly on managing risk, we can reduce many of the emotional highs and lows often associated with investing and achieve more consistent returns and less sleepless nights.