Risk and Return
The relationship between risk and return is a concept that is often overlooked and misunderstood by investors. However, risk and return sits at the very heart of investing.
All investments involve taking some risk. The risk of investing is essentially the chance of negative returns or receiving back less than you have invested. The potential return of an investment is generally related to the level of risk. The greater the amount of risk an investor is willing to take on, the greater the potential return. The reason for this is that investors need to be compensated for taking on that additional risk.
As a general rule, defensive assets such as Cash and Fixed Interest tend to be less volatile than growth investments such as Shares, Infrastructure and Property investments. By applying this theory you can better appreciate the outcomes likely to be achieved over the long term by different Investment portfolios or different KiwiSaver Schemes’.
For example, a high risk investor invests a higher proportion in growth assets, approximately 70% which will have the potential for higher returns in the long-term but experience more ups and downs (volatility). In contrast, a conservative investor invests a higher proportion in income assets, approximately 70% which will have lower long-term potential returns but have less volatility and therefore have less risk attached to them.
As an investor, you need to decide how much risk you are comfortable with (your risk profile), which will depend on your personal circumstances (how long you have to invest and your appetite for risk) and your investment objectives. In order to receive a potentially higher return, you may choose to accept a higher degree of volatility.
Feel free to contact us if you wish to discuss this or work out your risk profile.
Published by Paul SewellJune 17, 2014