4 Ways to Manage Investment Risk

[ninasen]

Here are a few ways to manage your investment risk:



1. Diversification

One of the best ways to manage investment risk is to diversify your portfolio. Instead of putting all of your money into one company, you need to spread your money around. By investing in many different companies within different sectors of the market, you are going to be able to lower the overall risk of your portfolio.



2. Asset Allocation

Within your portfolio, you also need to utilize asset allocation. This is a concept that deals with how you divide your money up between the different types of asset classes. When you practice asset allocation, you need to stick to a specific percentage of each type of security.



3. Research

Another way that you can manage your investment risk is to research. Before you put money into any investment, you need to make sure that you have thoroughly researched it. In order to be a successful investor, you need to spend a good amount of time researching every investment that you are considering putting your money into. By using careful research, you can potentially lower the amount of risk that is inherent when you invest in a particular security.



4. Watch Your Portfolio

Another way that you can potentially lower the amount of risk in your portfolio is to watch it carefully. Many investors do not pay attention to what is going on with their investments and end up losing money as a result. If you will pay careful attention to what is going on with your investments, you can adjust your investment strategy if it starts to perform poorly. This will help you lower the overall risk and bring in higher returns.

SBCS

[Godwynn]

There's also tax diversification.

What I've come across in the bank is a lot of people have all of their investments in either a traditional 401(k) or a Roth 401(k). Right now, it might make sense for someone to put all in one bucket, but what happens if the tax code moves against you?

An affluent client might be stashing money in a traditional 401(k) or IRA to lower their income tax expense now, but what if their tax bracket rises when he/she retires in 5 years?

[LMA]

I think you forgot the most important one: education (it's not the same thing as research). There is no faster way to loose money than by being uneducated.

[efutures]

I think you forgot the most important one: education (it's not the same thing as research). There is no faster way to loose money than by being uneducated.

I agree. Although number 3 is "research" which requires education to properly complete. In a sense, one precedes the other.

[ninasen]

I think you forgot the most important one: education (it's not the same thing as research). There is no faster way to loose money than by being uneducated.

Thank you for your opinion. That's a good opinion.

[chrisgayle]

First main method to reduce risk is by diversification. By spreading our investments over several asset classes such as stocks, bonds and cash, we can reduce investment risk. Another way to reduce the risks is by using derivatives such as options and futures.

[chrisgayle]

First main method to reduce risk is by diversification

[ninasen]

First main method to reduce risk is by diversification. By spreading our investments over several asset classes such as stocks, bonds and cash, we can reduce investment risk. Another way to reduce the risks is by using derivatives such as options and futures.

Could you simply explain "options" which I don't really undersand? Your answer is highy appreciated as I want to learn more.

[facts]

manage investment risk is a skilled job, which needs professional knowledge and skills! Investment is risky, be careful!

[poplarocean]

dear ninasen, do "Research" mean investigation or due diligence? do you know how to do due diligence? if you know, please share with us~~~~

[ez1]

Could you simply explain "options" which I don't really undersand? Your answer is highy appreciated as I want to learn more.

Just to get you the answer more quickly - not sure when chrisgayle might back to you ...

An option is something you buy that gives you the right to buy or sell a security (i.e., stock) at a particular price. It's a contract, and you pay for that contract. The more attractive the contract, obviously the more expensive it is.

For example, let's say ABC is trading at 50 dollars/share today. And you think it will be trading higher in the next month. You could purchase a "call" option that gives you the right to buy that stock at 50 dollars anytime in the next month (options expire). If the stock rises to 60 dollars per share within that month, you would "exercise" your contract and purchase 100 shares of the stock at 50 dollars a share, and since it's actually worth 60 dollars a share, you've now made 10 dollars a share profit instantly (assuming you sell it right away). To get the right to do that, however, you had to purchase the options contract, and that may have cost you 1.75 per share, for example. So, you have to subtract out the premium you paid for the option ($175) from your profit ($1000) for your final profit (before tax of course).

Hope that helps explain. There are a million other things to know about options, like what's a "call" versus a "buy" and "spreads" ... on and on.

[ninasen]

Many thanks for your answer.

[thefrugaltoad]

Another way to reduce risk is to periodically rebalance your portfolio. This has the effect of reducing your exposure in asset classes that are performing better than other asset classes. These funds are then invested in underperforming asset classes.

[wilddeuce]

Quote from Mr. Warren Buffet :"Wide diversification is only required when investors do not understand what they are doing."

I personally don't believe in diversification either. If you understand the industry, the sector and know where the growth is, no need to diversify.

Now, knowing what strategy to use, require plenty of research and education.

For example, a friend of mine plays the options beautifully on biotech. His basic strategy is the following, find a bio tech firm that's about to go in front of FDA for a drug/device approval. He buys up both put/call options. If FDA approves, stock goes up. If FDA denies, stock goes down. He would use either options to buy/sell. He'll lose one side of the option, but gains on another side.

[swapnil]

Diversification is the best way to spread the risk of investment, according to me one should purchase securities of various industries serving different needs in order to distribute the risk of loss on the investment.
Thanks for mentioning the points.