Eight Techniques to Lower Investment Risks
Risks associated with investments? Because financial assets carry a certain amount of “risk,” who isn’t scared to invest in them? The father of value investing, Benjamin Graham, is undoubtedly well-known to you. “Managing risk, not avoiding it, is the key to successful investing,” he stated.
Indeed! Investment risk cannot be completely eliminated, but it may be decreased with careful risk management. You’re probably thinking how we should handle risk now. As we usually say, don’t worry! Our goal is to increase your financial literacy by assisting you in comprehending these words!
In the pursuit of financial success, risk management does not include complete avoidance. Is the term familiar to you?”Go high to get more, no risk, no return!”
- Recognize your risk tolerance: An investor’s risk tolerance is the capacity to withstand the possibility of losing the money they have invested. The investor’s age and existing financial commitments are the primary determinants of risk tolerance. For instance, compared to other investors in their late 50s who are married and have college-age children, you are more risk-tolerant if you are in your mid-20s, single, and have less financial obligations. Younger investors are therefore often more risk-tolerant than older investors.
Therefore, we may start our investment journey with a pure equity investment strategy that is primarily focused on aggressive wealth growth if we begin investing early in life.
- Maintain Adequate Portfolio Liquidity:
Watch out! A financial crisis might occur at any time! Therefore, even in times of market decline, we must redeem our assets at any moment. If we have enough cash on hand, we can lower this danger. Our current investments can yield the best long-term returns and we can profit from any recurring market declines if we have liquid assets in our portfolio.
Establishing an emergency fund that is at least six to eight months’ worth of costs is one method to keep your portfolio sufficiently liquid. We should have low-risk investing choices like liquid funds and overnight funds in our accounts to guarantee that emergency funds are easily accessible.
- The Asset Allocation method: This method, which also gives us the best results, involves investing in many asset classes to lower investment risks. We are able to invest in a variety of important asset classes, including debt, equity, mutual funds, real estate, gold, and more.
Investing in a mix of asset classes with inverse correlations to one another is one asset allocation strategy. For instance, when one asset class, like gold and equity, is doing well, the other class is not. Since gold and equity have an inverse relationship, when equity performs better, gold performs worse.
- Diversify, Diversify, Diversify: By spreading our investments throughout the same asset class, we may further lower the total investment risk once we have determined the ideal balance of asset classes for our portfolio. Therefore, if we are investing in equities mutual funds, we should invest in big, intermediate, and small-cap equity mutual funds to diversify our holdings in this asset class.
Small-cap firms’ prices decline more quickly than those of large-cap corporations during market collapses. Therefore, we will lower the total investment risk by diversifying our portfolio.
Prioritize Time in the Market Over Timing the Market: We should prioritize remaining in the market for a longer period of time rather than timing the market to make a quick purchase. Then and only then can we gain from compounding. Longer-term stock market investments will lower overall investment risk because minor corrections won’t impact our portfolio.
5.Prioritize Time in the Market Over Timing the Market: We should prioritize remaining in the market for a longer period of time rather than timing the market to make a quick purchase. Then and only then can we gain from compounding. Longer-term stock market investments will lower overall investment risk because minor corrections won’t impact our portfolio.
6.Exercise Due Diligence: Since you are in charge of your funds, always exercise due diligence before making an investment using any kind of investment instrument. For instance, you should look at the management’s performance and several important statistics, such as the debt-to-equity ratio, PE, etc., if you are purchasing a company for long-term investment goals. We can predict the company’s performance in the following years by doing a fundamental study. If we heedlessly follow other people’s stock suggestions, we may lose money, which would raise our risk of investing.
- Invest in Blue-Chip Stocks: It is always preferable to maintain an investment in a blue-chip stock or fund in order to minimize liquidity risk. To reduce the risk of default, investors should review the credit rating of debt securities.
Keep in mind that there are additional risks associated with all kinds of financial products. As we’ve already covered, before making any investing decisions, one should think about their risk tolerance. One must use caution to ensure that their lifestyle is not impacted by their investing choices.
- Monitor Often: One should keep a constant eye on their portfolio after taking into account all of the above mentioned variables. Long-term investing does not imply that you invest and then neglect your portfolio. You must periodically conduct evaluations and monitor the success of your portfolio.
Because some asset classes, such as stocks, are subject to short-term volatility, portfolio reviews should be conducted once every six months. As a long-term investor, you should ignore short-term volatility and make changes only when your assets exhibit subpar performance over a prolonged period of time.