If you’ve ever put money into an investment, you know that your money could gain or lose value at any time. Simply put, not knowing whether your investment will lose money is what’s known as investment risk. Different investments have different risks. Stocks, bonds, and all other investments carry with them some sort of investment risk that you should take into account.
When it comes to investing, there are just a few different types of risk to watch out for:
Volatility
Investment markets go up, down, and sideways. Swings in the markets or individual investments are known as volatility, and depending on your investment, may cause you to lose money. With most investments you can look at sources such as the news, company websites, reputable analyst reports, charts and historical data to see how volatile an investment is before putting your money in it.
Inflation
An investment could be making you money on paper, but if inflation is higher than your investment return, you may be losing money. For instance, if inflation is 5% and your investment has a return of 3%, you’re not earning a better return than inflation, and your money is slowly being devalued.
Interest rates
Some investments are tied to interest rates. And since interest rates change regularly, so could your investment returns. This happens a lot when it comes to investing in bonds. If you have already bought a bond and interest rates rise afterward, the value of your bond is likely going to decrease because other investors could just buy a bond with the higher interest rate now offered in the market.
Liquidity
When it comes time to sell your investment, you have to make sure there is someone else that is willing to buy your investment in exchange for money. An investment which you can easily sell for money is known as a liquid investment. Before you even make your investment, think about the risk of how hard it may be to sell it later.
The amount of risk you are willing to take on an investment should be tied to the potential returns from that investment. The higher return an investment could generate, the more risk you might be willing to take on that investment. For instance, if you were to invest in a stock that has the potential to give you 30% return on your investment over the next few years, you might be willing to take the risk of your investment losing a similar amount or even more over that time.
Another way to reduce your investment risk is to invest over the long run and not worry about your investments on a day-to-day basis. The economy and markets are constantly changing and worrying about your investments too often will make it feel like you are taking on a lot of risk. However, studies show that if you invest over a longer timeframe, there is a likelihood to reduce your risk.
Before you invest, it’s important to do your own research and consult with your advisors, to make sure you take into account any type of risk that may come with a new investment.
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