Taking a calculated risk: On investments

too-much-risk

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Article originally posted on Seek

too-much-riskLooking back, I can think about how my friends and family thought I was mad. Leaving a well-paying, secure job, and moving halfway across the world to be a freelance writer? Surely I’d be back within the year, broke and trying to find a new job again in Auckland.

My goal was to be able to support myself and save, all whilst living a carefree life abroad. And while everyone else thought it highly risky, I’d already calculated the risk involved. This is the same as investment risk: the chances of reaching our goal – in the case of investment, though, financial.

Figuring out how much risk is involved

I knew that to achieve my goal, I’d have to minimise the chances of failure. This is what you want to do in any investment scenario also.

I’d worked out that I was likely going to be successful in my endeavour if I did the following:

  • Started writing on the side while at my old job to ensure enough work was available
  • Paid off all debts
  • Accumulated savings to live off should I not make as much as expected for some time
  • Picked a low-cost destination to start off in

So, I minimised the risks, and 3 years later… I’m happy to say that it paid off.

Thinking about goals and minimising risk as we do in our real lives is the best way to look at approaching investing our finances, too. Set a financial goal, see what you can do to minimise the risks, and then take a (calculated!) leap of faith.

Volatility vs risk

When we talk about investments, we talk a lot about volatility. This is the fluctuation in returns expected on investment. So, for instance, when we set a returns goal of 3%, and our desired shares have fluctuated between 5% and 12% for years, we don’t have a big risk in terms of volatility.

However, there are other risks in investing in the stock exchange. The Financial Markets Authority has a list of 7 risks for investing:

  • Interest rate risk

If interest rates rise, you won’t earn as much back as you would have otherwise

  • Inflation risk

The risk that inflation will be higher than your investment returns

  • Industry risk

If the industry you’ve invested in has a downturn

  • Liquidity risk

Buyers may be hard to come by when you want to sell up

  • Currency risk

The value of the NZ dollar will fall

  • Economic risk

If a global recession comes about

  • Credit risk

If the company you’re invested into can’t repay their debits

Some of these risks may be able to be predicted, and some may not.

When investing, take a careful analysis of the risks before diving in. Risk is not inherently bad – it’s necessary for a successful life. With the right investments and level of risk you can find good returns on your dollar.