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    Risk

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    Mayank Goyal
    Risk is inherent in all investments and can come from market fluctuations, interest rate changes, and company-specific factors. There are two main types of risk: systematic risk that stems from overall market movements and cannot be reduced through diversification, and unsystematic risk that is specific to individual companies and can be reduced through a diversified portfolio. Systematic risk includes market risk, inflation risk, and interest rate risk. Unsystematic risk includes financial risk from a company's debt levels and business risk from changes in its industry or business environment. Investors can minimize unsystematic risk by investing in a variety of companies, sectors, and asset classes, as well as considering a security's beta to manage systematic risk.

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    Risk

    Uploaded by

    Mayank Goyal
    38 views3 pages
    Risk is inherent in all investments and can come from market fluctuations, interest rate changes, and company-specific factors. There are two main types of risk: systematic risk that stems from overall market movements and cannot be reduced through diversification, and unsystematic risk that is specific to individual companies and can be reduced through a diversified portfolio. Systematic risk includes market risk, inflation risk, and interest rate risk. Unsystematic risk includes financial risk from a company's debt levels and business risk from changes in its industry or business environment. Investors can minimize unsystematic risk by investing in a variety of companies, sectors, and asset classes, as well as considering a security's beta to manage systematic risk.

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    Risk is inherent in all investments and can come from market fluctuations, interest rate changes, and company-specific factors. There are two main types of risk: systematic risk that stems from overall market movements and cannot be reduced through diversification, and unsystematic risk that is specific to individual companies and can be reduced through a diversified portfolio. Systematic risk includes market risk, inflation risk, and interest rate risk. Unsystematic risk includes financial risk from a company's debt levels and business risk from changes in its industry or business environment. Investors can minimize unsystematic risk by investing in a variety of companies, sectors, and asset classes, as well as considering a security's beta to manage systematic risk.

    Copyright:

    Attribution Non-Commercial (BY-NC)
    Download as DOCX, PDF, TXT or read online from Scribd
    Download as docx, pdf, or txt
    38 views3 pages

    Risk

    Uploaded by

    Mayank Goyal
    Risk is inherent in all investments and can come from market fluctuations, interest rate changes, and company-specific factors. There are two main types of risk: systematic risk that stems from overall market movements and cannot be reduced through diversification, and unsystematic risk that is specific to individual companies and can be reduced through a diversified portfolio. Systematic risk includes market risk, inflation risk, and interest rate risk. Unsystematic risk includes financial risk from a company's debt levels and business risk from changes in its industry or business environment. Investors can minimize unsystematic risk by investing in a variety of companies, sectors, and asset classes, as well as considering a security's beta to manage systematic risk.

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    Risk:Risk is explained theoretically as the fluctuation in returns from a security.

    A security that yields consistent returns over a period of time is termed as risk less security or risk free security . Risk is inherent in all walks of life. An investor cannot foresee the future definitely; hence, risk will always exist for an investor. Risk is in fact the watchword for all investors who enter capital markets. Investment risk can be an extraordinary stress for many investors. When the secondary market does not respond to rational expectations, the risk component of such markets is relatively high and most investors fail to recognize the real risk involved in the investment process. Risk aversion is the criteria commonly associated with many small investors in the secondary market. Many small investors look upon the market for a definite return and when their expectations are not met, the effect on the small investors morale is nega tive. Hence these investors prefer to lock up their funds in securities that would rather give them back their investment with small returns than those securities that yield high returns on an average but are subject to wild fluctuations. Risk & uncertainty are an integrate part of an investment decision. Technically risk can be defined as situation where the possible consequences of the decision that is to be taken are known. Uncertainty is generally defined to apply to situations where the probabiliti es cannot be estimated. However, risk & uncertainty are used interchangeably.

    TYPES OF RISK:-

    Risk

    Systematic Risk

    Unsystematic Risk

    Market Risk

    Interest Rate Risk

    Purchasing Power Risk

    Business Risk

    Financial Risk

    Systematic Risk:Variability in a securities total return that is directly associated with overall moment in the general market or economy is called as systematic risk. This risk cannot be avoided or eliminated by diversifying the investment. Normally diversification eliminates a part of the total risk the left over after diversification is the non-diversifiable portion of the total risk or market risk. Virtually all securities have some systematic risk because systematic risk directly encompasses the interest rate, market and inflation risk. The investor cannot escape this part of the risk, because no matter how well he or she diversifies, the risk of the overall market cannot be avoided. If the stock market declines sharply, most stock will be adversely affected, if it rises strongly, most stocks will appreciate in value. Clearly mark risk is critical to all investors. It is also called as non- diversifiable risk. It is of 3 types:

    I.

    Market risk: The variability in returns resulting from fluctuations in overall market that is, the agree get stock market is referred to as market risk. Market risk includes a wide range of factors exogenous to securities themselves, like recession, wars, structural changes in the economy, and changes in consumer preference. The risk of going down with the market movement is known as market risk. Inflation risk: Inflation in the economy also influences the risk inherent in investment. It may also result in the return from investment not matching the rate of increase in general price level (inflation). The change in the inflation rate also changes the consumption pattern and hence investment return carries an additional risk. This risk is related to interest rate risk, since interest rate generally rises as inflation increases, because lenders demands additional inflation premium to compensate for the loss of purchasing power. It is also known as Purchasing power risk. Interest rate risk: The variability in a security return resulting from changes in the level of interest rates is referred to as interest rate risk. Such changes generally affect securities inversely, that is other things being equal, security price move inversely to interest rate.

    II.

    III.

    Unsystematic Risk:Variability in a security total return not related to overall market variability is called un systematic (non market) risk. This risk is unique to a particular security and is associated with such factors as business, and financial risk, as well as liquidity risk. Although all securities tend to have some non-systematic risk, it is generally connected with common stocks. This type of risk can be easily diversified hence also known as diversifiable risk.

    I.

    Financial risk: The use of debt financing by the company to finance a larger proportion of assets causes larger variability in returns to the investors in the faces of different business situation. During prosperity the investors get higher return than the average return the company earns, but during distress investors faces possibility of vary low return or in the worst case erosion of capital which causes the financial risk. The larger the proportion of assets finance by debt (as opposed to equity) the larger the variability of returns thus lager the financial risk. Business risk: The changes that take place in an industry and the environment causes risk for the company in earning the operational revenue creates business risk. For example the traditional telephone industry faces major changes today in the rapidly changing telecommunication industry and the mobile phones. When a company fails to earn through its operations due to changes in the business situations leading to erosion of capital, there by faces the business risk.

    II.

    How to minimize the risks? The company specific risks (unsystematic risks) can be reduced by diversifying into a few companies belonging to various industry groups, asset groups or different types of instruments like equity shares, bonds, debentures etc. thus, asset classes are bank deposits, company deposits, gold, silver, land real estate, equity share, computer software etc. Each of them has different risk-return characteristics and investment are to be made, based on individuals risk preferences. The second category of risk (systematic risk) is managed by the use of beta of different company shares.

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