Investing 101: Understanding risk and return

When we invest, we do it to generate returns. There are a number of other considerations, but this is the primary reason anyone enters the markets. 

Similarly, risk is just a part of investing. Without it, investments would have no chance to grow. Different asset types have varying degrees of risk associated with them and building a robust portfolio is about finding a balance between risk and return.

What are returns?

When investing, your returns are the amount of money generated by an investment. It is the change in the price of an asset or investment over time, whether that be positive in the form of returns or negative in the form of losses. 

Put simply, the returns on a stock or an ETF include the price change – how much it’s worth – and any dividends or interest payments received from it. Searching for positive returns is the name of the game when investing. 

What is risk?

Risk is the chance that an investment could lose some or all of its value. Risk is often defined by its relation to reward: the higher the risk profile of an asset, the higher the potential reward. 

This is not to say that investors should be taking on a large amount of risk in search of better returns, rather it is something for individual investors to weigh up. We all have a different attitude towards, and ability to absorb, risk. 

Individuals and wealth managers alike can develop strategies to mitigate the risk in their portfolios. This is achieved by techniques like diversification, ‘little and often’ investing, and sound financial planning. 

How much risk can I take on?

The answer to this depends largely on your financial situation and your time horizon. 

Generally speaking, the longer you have to invest for, the more risk you can take on because you can ride out any dips over the long-term. On the flipside, if you’re investing for the short-term, you might favour a more conservative approach for more steady gains. 

Equally, some investors have more of a safety net than others. There are a number of things to tick off before you start investing – paying off any expensive debt, saving a rainy day fund etc. Further than this, it’s about how much you can afford to invest and keep invested. Dipping into your investments ad hoc can disrupt a long-term financial plan. 

How InvestEngine can help

At InvestEngine, we always say we’re for investors, not traders. This means a medium to long-term approach to financial planning, which is reflected in our commitment to ETFs as a diversification tool. 

We also offer managed portfolios for a small fee, if you want your risk-return balance managed taken care of by one of our experts. If you want to go it alone, however, we have more material on how to build a robust, well-diversified portfolio here

When investing, your capital is at risk.

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