Portfolio Risk Analysis and Compound Interest

Any business venture contains an element of risk. Risk means the possibility of an expected return not being realized. It is the possibility that the actual return (cash flows) from holding on investment will deviate from the expected return. This means that investors cannot predict the future with 100% precision, because returns from investment and the timing of those returns are not certain. The greater the magnitude of deviation of actual from expected return, the greater the risk of an investment. Investors always require a rate of return high enough to compensate them for risk and uncertainty in an investment.

Portfolio Risk Analysis & Compound Interest

Purchasing Power: This is risk due to inflation and changes in price levels. Rising prices reduces the real values of return receivable from investment. In an inflationary environment, the longer the maturity of an investment, the greater the decline in the purchasing power of money and the higher the required compensation risk premium desired by investors.

​Portfolio Risk Analysis & Compound Interest

​Liquidity Risk: This Risk arising from the inability of a stock holder to dispose or divest his investment. This may be as a result of prevailing economic circumstances, market conditions, or poor performance of the investment.

​Portfolio Risk Analysis & Compound Interest

​Interest Rate Risk: This refers to possibility of capital loss arising from increase in interest rates. It affects all investors in high-quality bonds regardless of whether the investor holds shortterm or long-term bonds. However, changes in interest rate have the greatest impact on the market price of long-term bonds. Though changes in interest rate may have less effect on market price of short-term bonds, it nevertheless affects its interest income, which may be observed to fluctuate from period to period as interest rate changes.

​Portfolio Risk Analysis & Compound Interest

​Exchange Rate Risk: This refers to risk arising from change in exchange rate. It is mostly applicable to investments with foreign interest. Foreign partners are susceptible to loss of income arising from devalued real income due for repatriation abroad as a result of revaluation of foreign currencies.

​Portfolio Risk Analysis & Compound Interest

​Default Risk: This refers to risk of losing interest and principal when investment matures. Investors use higher discount rate to capitalize the expected cash inflows from the investment to compensate for the risk of possible loss.

​Portfolio Risk Analysis & Compound Interest

​Re-Investment Risk: Risk associated with the re-Investment of income from investment (interest or dividend) to generate more income.

​Portfolio Risk Analysis & Compound Interest

​Political Risk: Risk associated with the political environment in a country as well as actions of government as it relates to economic policies on dividend declaration and payment, taxation on investment income etc The degree of political stability in a country determines level of new investment as well as income expectation from existing investment.

​Portfolio Risk Analysis & Compound Interest

​Legal Risk: Is the risk from changes in the laws with adverse effect on income accruable to investors.

​Portfolio Risk Analysis & Compound Interest

​Moral Risk: Refers to the risk of dishonesty. For example insider's trading on shares in which management perpetuate fraud on its shareholders.

​Portfolio Risk Analysis & Compound Interest

PART 2​

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PORTFOLIO RISK ANALYSIS​

While the risk of investment can never be completely eliminated, they can be managed Risk Management is the process of identifying and evaluating the trade-off between risk and expected return, and choosing the appropriate course of action.

​Portfolio Risk Analysis & Compound Interest

​WHAT IS FINANCIAL PORTFOLIO?

A portfolio is a collection of financial investments like stocks, bonds, commodities, cash, and cash equivalents, including closed-end funds and exchange traded funds (ETFs). People generally believe that stocks, bonds, and cash comprise the core of a portfolio. Though this is often the case, it does not need to be the rule. A portfolio may contain a wide range of assets including real estate, art, and private investments.

You may choose to hold and manage your portfolio yourself, or you may allow a money manager, financial advisor, or another finance professional to manage your portfolio.

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​Portfolio Risk Analysis & Compound Interest

The process of portfolio risk management requires that:

• You identify the risk

• You evaluate the risk and

• Manage the risk

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​Portfolio Risk Analysis & Compound Interest

Identifying Risk:

An investor need to be quite sure of exactly what risk he is taking. What risks are associated with each investment options.

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​Portfolio Risk Analysis & Compound Interest

Evaluating Risk:

There are various ways in which the risk of investment can be forecast and evaluated. The decision as to whether the risk exposure should be reduced will depend or investor attitude to risk (his degree of risk aversion) and the cost involved. Hedgers take position to reduce exposure to risk. Speculators take position to increase risk exposure.​

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​Portfolio Risk Analysis & Compound Interest

Managing Risk:

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An Investor can manage risk exposure in four ways: ​

(i) Risk Retention

(ii) Risk Avoidance

(iii) Risk Reduction

(iv) Risk Transfer

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​Portfolio Risk Analysis & Compound Interest

Diversification

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Diversification as a Means of Risk Reduction. This literary means not putting all your capital in one investments.

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​Portfolio Risk Analysis & Compound Interest

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COMPOUND INTEREST​

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TO BE CONTINUED...

JOHN BEN

​Portfolio Risk Analysis & Compound Interest