Investment risk is tightly linked to return. Not taking on sufficient investment risk can expose investors to other risks.
For example, if you own an investment property you will be aware that the return from the investment comes from two sources: income in the form of rent paid by the tenant, and growth in the form of an increase in the value of the property while you own it. Likewise, from a share investment, an investor can receive dividends (income) and capital gain (growth).
Many investors who buy shares and property focus on the growth potential, with income being a beneficial addition. On the other hand, investments such as term deposits and bonds have as their main attraction the income return, with little or sometimes no possibility of capital growth.
When investing, risk is best thought of as uncertainty. For example, with a term deposit in a major bank you can predict with a high level of certainty what your return will be, and it is extremely unlikely that you will lose money. The level of risk is very low, but these days returns on term deposits are equally low.
Contrast that situation with shares. If you buy a share today you can’t be certain what its value will be in a year’s time. Because the return from shares is uncertain, they are considered higher risk.
That doesn’t mean shares are a bad investment. On the contrary, patient investors have been well compensated for taking on this risk. Property and shares are higher risk, but over the long term they have produced the highest returns. Cash and bonds are lower risk and produce lower returns.
So which way should you invest? Investors need to evaluate their goals for their investment, as well as their risk appetite and should always consult a licensed financial adviser before making an investment decision.
This article has been prepared by Trilogy Funds Management Limited (Trilogy) ABN 59 080 383 679 AFSL 261425 as responsible entity for the managed investment schemes mentioned in this article. This advice is general advice only and does not consider your objectives, financial situation or needs. You should consider whether the advice is suitable for you and your personal circumstances and we recommend that you seek personal financial product advice on your objectives, financial situation or needs and obtain and read the relevant product disclosure statement before making any investment decision.