Risk Involved in Investing
It has been said that, "Don't put all your eggs in one basket".
So, the same has been followed here that is firstly, we see in initial stage, the risk falls steeply as we increase no. of securities in portfolio but gradually rate of fall in risk reduces and finally becomes flat due to uncontrollable factor, no matter how much securities are invested in profit.
D) REASONS FOR SYSTEMATIC RISK
1. POLITICAL CONDITIONS
When political conditions are adverse and thus create an adverse situation for an economy like what is happening nowadays, "Anna Hazare Protest for Lokpal Bill".
Presently, global slowdown is hurting stocks, economy worldwide. As, it depends on the nature of policies of one country with respect to other i.e. how much one country has opened gates for other country in terms of trade. If large gates are opened than economy will be affected, if anything bad happens to another country economy with whom trade is being done.
3. RISE IN INTEREST RATES
When interest rates increases then also economy becomes uncontrollable as investor prefer less to take loans and if they don't take loans then they can't do investing or if so also do investing, risk will not be controlled and returns remains risky.
4. RISE IN INFLATION
With the rise of inflation, purchase power will be decreased and everything will be costly like what is happening today as India's inflation rate is over 9% but 5-6% is the desired level of inflation rate for the developing economy.
E) REASONS FOR UNSYSTEMATIC RISK
1. INDUSTRY SPECIFIC
At a particular point of time, particular industry may not do well so this will impact all the concerned companies. Like, Sugar Industry is suffering a lot due to Government interference and prices of the same have also been influenced by government policies. During this situation, risk can be avoided by taking less exposure in that particular industry and explore other non-risky or less risky industries for investment.
2. COMPANY SPECIFIC
It pertains to company's situation. An industry may be doing well but it is not necessary that company will also do well. Like, quality problem was found once with Ranbaxy but it was not the case with Cipla. So, these risks are company risks.
F) MEASURES OF RISK
1. STANDARD DEVIATION
It quantifies the degree to which returns fluctuates around their average, a higher value of standard deviation means higher risk. It determines the volatility of funds. High standard deviation implies high volatility and low standard deviation implies low volatility.
2. BETA ANALYSIS
It is used to measure the risk. It basically indicates the level of volatility associated with the fund as compared to the market. Higher the beta, higher the risk. It keeps on changing from time to time.
3. VAR(VALUE AT RISK)
Maximum loss a share is likely to have on a typical trading day. It shows that over a time period what is the highest of probabilities to lose money. It is a popular measure. Higher the VAR more is the risk.
Margin for trading = VAR rate + Additional Volatility Margin
VAR rate is determined on the basis of historical data. Volatility margin is the additional margin for safety purpose.
G) RISK MANAGEMENT
This ensures how the risk can be minimized.
1. Lesser risky assets
Investor to minimize risk should invest in assets which are less risky. They can invest in Mutual Funds to ensure less risk.
The best thing to minimize risk is to do diversification of securities for investment purpose. This can be done in two ways:-
a) Security/Asset Diversification
b) Time Diversification
Investment can be made in multiple assets/securities. An investor can go for regular and long term investment, as even in the case of worst situation, one will be getting stable returns.
3. Monitor portfolio periodically
An investor has to monitor the shares/portfolio periodically to find out if investments are performing as desired. Monitoring also helps to avoid any unpleasant situation.
4. Take risk that you can afford
Bear the risk that can be afforded and can be managed. It should be done keeping in mind all situations and risk and socio-economic profile of an investor.
So, in this way risk can be minimized and losses can also be avoided.
As, opportunities in world of investments keep on increasing and decision making gets complex, specialized knowledge is a pre-requisite. At the time of writing this article Sensex is at 16000 level while Gold price has dropped by almost 5% indicating the relevance of risk in investment. This article focuses on concept, types and management of risk.
1. Chandra Prasanna (2009): Investment Analysis and Portfolio Management, Tata McGraw, New Delhi
2. Class notes by Dr. Harsh Purohit (Reader, FMS WISDOM, Banasthali University, Rajasthan)
Source: E-mail August 30, 2011
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