September 19, 2022
Investments are subject to market risks- this is not just a quick-worded statement we tend to overlook in advertisements but also a very serious reality that can make or mar our wealth creation efforts. While the entire gamut of investments has a lot of assets and instruments, each of them comes with varying levels of risk-to-reward ratio. It is unwise to simply jump into an investment you prefer based on half-truths without undertaking thorough research. Although a lot of schemes are available for individuals to invest their wealth safely, one must have a clear understanding of their fair share of risks before making any such scheme a part of their goal based financial planning.
In this blog, we’ll give you a concise picture of the risk potential in investments to help you be a more aware and informed investor:
Market Volatility
Economic conditions, interest rate changes, policy reforms, changes in foreign exchange, regulatory decisions, etc., are all responsible for price fluctuations in the stock market. The resultant price volatility affects the Net Asset Value (NAV) at which mutual funds are bought and sold. Even in the case of stocks, market volatility can affect a company’s stock market performance and plummet its share value. Thus, moderate-to-high price volatility remains a significant risk for investments.
Liquidity Risks
Liquidity means the ability to transform financial assets into exchangeable cash. Liquidity risk implies that financial instruments block your money for a specific period, preventing you from accessing your funds for the duration. This risk is particularly serious in the case of Equity-Linked Saving Schemes (ELSS). Many FDs and mutual funds charge a fee for the withdrawal of money. Additionally, the liquidity of stocks is highly volatile in case of lower bids by retail investors, affecting your ability to profit from the investment. In such situations, either the lock-in period or the undervalued prices discourage you from redeeming your investment or selling it to others, creating a liquidity risk.
Low Short-Term Returns
Certain instruments such as SIPs and mutual funds are effective only if you park your money for a longer duration. They offer better and higher returns in the long term, as compared to the short time. The latter can often generate negative or negligible returns on the investment. Many mutual funds have failed to perform in the first 3-6 months at times. While equities might be a good way to earn short-term returns, the risks associated with daily trading are high due to market volatility, and the returns can be dismal in case of stagnant stock prices. Thus, you might risk losses in the short term.
Portfolio Underperformance
One can never accurately predict the movement of the market. Hence, there is a substantial risk of your portfolio not performing well, i.e. your money not growing. This means that the value of your assets is consistently below the benchmark, resulting in losses. Portfolio underperformance can be directly linked to company risk, wherein a company’s losses directly impact its share value. The cumulative risk of portfolio underperformance can affect your investment’s value and returns.
Conclusion This blog is a reminder to always analyse risk and returns before investing in any financial instrument. It is important to undergo thorough research and regular monitoring of your portfolio for wealth creation.
