Risk & Reward
 Most
everything you do involves some risk, from talking to the good-looking
stranger at the bus stop to deciding between two equally challenging and
high-paying job offers. Risk is just a part of life. And somehow, most
of us are able to avoid disaster most of the time.
Where your money is concerned, you
don't want to take too many risks. Or do you? Does the chance of doubling
your money in a short period of time outweigh the anxiety you feel when
considering a future with empty pockets? And, is personal finance so absolute?
Absolutely not!
So read on--at your own risk, of
course.
Types of Risk
How Risk Affects Your Money Now
And In The Future
Risk is integral to investing, and
it's important to understand your tolerance for it. The good news is that
investments offer a spectrum of risk levels, which allows you to choose
the vehicles that best match your psyche. Traditional savings accounts
are guaranteed, but you pay for that guarantee with relatively lower returns.
With stocks, on the other hand, the price per share may go down in value
and lose principal, but it may also go up, up, up. In return for increased
risk, a mutual fund offers the potential to increase in value. Translation?
No pain, no gain.
One aspect of risk is fear of the
unknown, and that is why you are here. We can shed some light on the types
of risk that can affect your financial situation, both positively and negatively.
The key is to find your personal comfort zone by balancing potential risks
in hopes of realizing potential reward. Our risk
profiler can help you figure out just how much risk you're willing
to assume. Just remember there is no guarantee in any aspect of your life,
so don't expect it to be different where your money is concerned.
Investment Risk Is As Real As
The Day Is Long
Savers decide how much they are going
to save, and that amount will be in their traditional savings account when
it's needed, plus interest. Assuming, of course, that their procrastination
gene doesn't overpower their inclination to save in the first place. Investors
don't enjoy the same guarantee because they can't predict how--or even
if--their money will grow. That is what is called investment risk.
Changes in market conditions will
cause investment principal and earnings to fluctuate over time. The end
result is that your money could be worth more or less than the original
amount you invested. There's always the chance that an investment won't
earn what you expect it to. You could lose money, but you could also enjoy
a healthy profit. Generally, the higher potential return on your investments
also has a higher potential for loss. Greater financial risk carries with
it the potential for greater financial reward.
Inflation Can Be Deflating
One of the steadiest risks your investments
will face is inflation. Simply put, inflation is the increase in the cost
of living, expressed as a percentage increase over last year's prices.
Inflation a simple concept that preys on people who ignore it. Even small
changes in the inflation rate may make a huge difference in the amount
of money you have over time. Oh, sure, you'll still have the same amount
of cash, but it may not buy as much. It's easy to purchase a movie ticket
for ten bucks, but not so easy if the price climbs to RM20 (especially
if you add popcorn)!
Before you plan a secret attack on
the inflation monster, keep in mind that it's normal and usually works
its magic at about 3 to 4 percent every year. With the current economic
situation, inflation isn't such a factor right now because retailers have
been forced to lower prices to entice cautious consumers to buy. On the
other hand, job layoffs and pay freezes have left consumers with fewer
ringgits in their pockets, which carries a risk all its own. And inflation
has been known to reach double digits, so just because it's a non-event
right now doesn't mean it won't wreak some havoc at a later date.
What ultimately counts is whether
your investments can beat the inflation rate, whatever it is. An investment
that's too conservative can actually leave you at risk. If you've got all
your cash in a bank account, it may seem reassuring to know the interest
rate is guaranteed, but say that rate is below three percent. It may not
keep pace with inflation, and you could end up losing ground. And don't
forget, you have to pay income taxes on your earnings, too. File that under
double whammy in your investment portfolio.
Opportunity Knocks On Risk's Door
One type of risk that drives investors
crazy--especially risk takers--is lost opportunity. It's the premise behind
most game shows. Do you pick Door #1, even though what's behind Door #2
could be worth more? Where your money is concerned, unless you happen to
pick the very best option every time you invest, there's going to be something
that will outperform it.
Unlike loss of capital or loss of
purchasing power (inflation), opportunity loss doesn't take anything out
of your pocket. That doesn't mean, however, that it isn't real. Just ask
anyone who claims they "couldashouldawoulda" earned a lot of money during
the stock market glory days in the 1990s. Opportunity risk can be the motivating
factor behind many investment decisions, rightly or wrongly.
The Risk of Not Meeting Your Goals
Although this type of risk doesn't
get much attention, it's really the most important one. If you set your
sights on a new house or a college education but don't achieve the goal,
you might feel like a loser. Some investors, in trying to avoid losses,
or trying to make sure that they own the best bet, end up courting the
biggest risk of all--that of not being able to meet their financial goals.
We're certainly not saying that investors should be satisfied with subpar
performances from their investments. But don't lose sight of the fact that
your primary goal should be to meet your future financial needs.
Reward
Dollar-cost Averaging Is More
Than A Geeky Dance Partner
If you systematically buy shares
during both the ups and downs, you may end up with more shares and greater
returns over time. It's called dollar-cost averaging--a dance partner you
shouldn't overlook, even if the name pegs it as an uncoordinated geek.
Dollar-cost averaging doesn't ensure profits or protect against loss, so
you've got to consider your financial ability to continue buying through
both low and high price levels. You can attempt to minimize the risk inherent
in investments by considering a mix of them representing various points
on the risk-reward spectrum.
Skip Hot Tips If You Want More
Reward
We've all been to a club right after
it's no longer the hot spot. Think of those nights when you're tempted
to buy an investment based on hot tips. By the time you hear about the
latest, greatest gig, its dance floor is empty and everyone has moved on
to the next club. Research a company before you invest in it. (Think of
our mutual funds and other financial
planning articles as dancing lessons and your personal risk
profile as your partner.) Or find a financial planner you can trust
who will do the legwork for you. Then, don't panic when prices drop and
don't trade your shares too often just because you can. The expenses and
fees may consume potential returns before the second dance.
Risk Profiler
If you haven't already done so, take
a turn on our Risk Profiler to help determine
your place on the risk dance floor. Our Asset Allocation
calculator will shed a little more light on how to handle your ringgits
wisely.
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