Investment Risks Types and Evaluation!
Investment itself where offers the investor a number of rewards also is associated with a lot of risks as well. Every investor is whether big or small faces some amount of risks. A person who makes a high level of investment has been exposed to a lot of risk whereas; a few investments make the investor exposed to a small amount of risk.However, there are a number of different types of risks to which an investor may be exposed to an insight of which is provided below:
Risk Associated with Interest Rate
Interest rate risk arises when an investor invests in a fixed rate debt instruments; the risk in this context is the rise of interest rates in the market. When the fixed interest rate increases, the value of the debt instruments based on fixed interest falls. This situation equally applies to securities, bonds and stocks as well.
Unsystematic risk is otherwise known as business risk arises when an investor invests in one particular business. The risk of this kind of investment in one business is the chance of business going towards bankruptcy. The businesses that operate in a similar kind of industry are all exposed to business risks that are also same, but being company specific and investing in one company might be a riskier approach. It is always advisable to invest in different companies as a diversified portfolio helps eliminating the effects of risks.
Credit Risk Associated with Investment
Credit risk is the risk of inability to cover the interest as well as principal payment being given to the bond issuer. Moreover, the interest rate being demanded is also dependent upon the credit risk, the more is the risk the higher will be the interest rate charged.
Taxability Risk with Investment
Taxability risk arises when an individual invests in municipal bonds and the risk here is the loss of exemption status from tax which is associated by default with the bonds. When the status is being lost, the investor has to pay the tax.
Debt Security being Called Earlier- Call Risk
A risk associated with the debt security known as call risk is the fear of a debt security being called prior to the maturity date. Such risk arises when the interest rate of security tends to fall. Call risk and reinvestment risks are more or less the same, as the level of income offered to the bond holder in both the case is same and for similar level of risk.
Purchasing Power Risk
Purchasing Power Risk also called as inflationary risk arises when the inflation taking place in an economic environment tends to wear down the value of an asset. In order to prevent this kind of risk it is suggested to invest in securities and assets that are appreciable in nature.
Risk of Liquidity
Such risk arises when an investor is unable to either sell an investment or buy an investment as desired and at the moment of choice.
This risk arises when the entire market passes through a similar situation and the factors that lead this risk to evolve are entirely uncontrollable. In the context of market risk or systematic risk entire market suffers and not an individual investor.
Reinvestment risk is a risk that is being faced in an event of falling interest rates. In an environment where interest rates tend to fall, the principal has to be reinvested but at a lower rate of interest and a lower income is being generated.
Risk Associated with Social/legislative and Political Changes
Any changes at the social level or by government or due to political intervention that tend to create a loss of value on a particular investment are considered to be riskier at the national level.
Risks associated with the fluctuation of currency rates due to changes observed in one currency when compared to the other is the currency risk or exchange rate risk.