Are you taking too much risk in your portfolio?
What impact does risk have in your portfolio? What are the effects? Can I control or reduce risk? What is my portfolio made up of?
These are all important questions. Risk is the single most thing that keeps investors up at night.
Let’s measure “Risk vs. Reward” in a portfolio. Before we go into this there are two definitions we need to know:
1. VOLATILITY: The relative rate of which the price of a security moves up and down. This is determined by calculating the annualized standard deviation of daily change in price.
2. STANDARD DEVIATION: A measure device which numbers are spread around their average. Standard deviation measures volatility in a portfolio. Volatility is one measure of risk. The larger the number the volatile the investment.
Maybe you have heard the saying “If you want more return you must take more risk.” In part that might be true, however solid returns, along with the realities of investment risk can produce favorable results.
There are three other risk measures used to determine volatility and return:
1. BETA: This is price volatility based solely on general market movements – typically the market as a whole is assigned a BETA of 1.0. If your portfolio has a BETA higher than 1.0, you should out perform the market, but also you will take more risk in obtaining that return.
2. ALPHA: This measures stock price volatility, as in BETA, the higher the number there are more risk factors.
3. SHARPE RATION: Total return – Risk (Risk free rate of return.)
I understand this could seem confusing that is why we want to empower you with this information, that risk is widely structured and sometimes difficult to determine. It comes down to a reality check. All investments come down to some degree of risk, however, risk and reward can be broken down with some degree.
This particular post is centered around Investment risk. There remains some other risks you need to consider: Inflation risk(purchasing power), Interest rate risk, Business risk, Credit risk and political risk, just to name a few.
Our goal is to inform and educate you regarding risks and to open your eyes to what goes into building your portfolio. We want to alert you so you can take control of your mutual funds and understand your risk tolerance and be comfortable with your numbers.
Don’t wait for the storm to buy a raincoat. We look at this subject like this: “How much am I willing to lose in any one given year if the market correct?” There is a scientific number that can show this. No your numbers!!
DON’T GUESS WITH YOUR PORTFOLIO – BE EMPOWERED WITH KNOWLEDGE!!