In the financial landscape, risk is defined as the chance that the outcome or actual gains of an investment shall be lower than the expected outcome or return. It includes the possibility of losing some or even all of the money spent on the original investment. As per Kavan Choksi, quantifiable risk tends to be assessed by taking into account certain historical behaviors and outcomes. It is possible to manage risk in investments by gaining a good understanding of its basics and implications.
Kavan Choksi puts emphasis on portfolio diversification as an important tool for minimizing risk
The relationship between risk and return is among the most fundamental concepts in finance. The higher risk an investor is willing to take, the greater would be their potential returns. Investment risks tend to come in a number of ways, and investors must be compensated for taking on additional risk. For instance, the U.S. Treasury bond is considered one of the safest investment instruments available and has a low risk than corporate bonds. However, corporate bonds have a greater rate of return. A corporation has greater chance of going bankrupt than the U.S. government. As the default risk of investing in a corporate bond is higher, its investors are provided with a higher rate of return.
Portfolio diversification is among the most basic yet effective strategies for managing risk. Portfolio diversification is majorly based on the concepts of correlation and risk. A portfolio that is well diversified comprises varied types of securities from distinctive industries that have different degrees of correlation with each other’s returns.
As per Kavan Choksi, while even experienced professionals cannot always guarantee that diversification would keep an investor 100% protected from loss, it is among the key components that can help them to reach long-range financial goals. There are many ways to plan for diversification and ensure its execution, such as:
- Investors should be proactive about spreading their portfolio across many investment vehicles, starting from cash, bonds, and mutual funds to ETFs, stocks and other funds. It is vital to keep an eye out for assets whose returns have not moved historically in the same direction and to the same degree. This will see to it that if a part of the investment portfolio declines, there is a good chance that the others may grow.
- Investors must stay diversified within each type of investment. They can include securities that vary by market capitalization, region, industry and sector. It would be a smart move to mix styles as well, including value, income and growth. The same goes for bonds.
- To manage investment risk, one should include securities that vary in risk in their portfolio. They would not be restricted to picking only blue-chip stocks. Selecting distinctive investments with varying rates of return shall rather ensure that large gains offset losses in other areas.
Investors must keep in mind that portfolio diversification is not a one-time task. Regular monitoring of the portfolio is important to having risk levels consistent with the financial strategy and goals of the investor.
